Weekly Update 16/5/2022

16 May 2022

Welcome to this week’s property news.

Last week’s updated reflected on the impacts of supply chain constraints which are pushing up prices of construction and I reflecting once more on our preferred investment strategy. If you missed this, refer to this link.

As I indicated last week, the ability to capture increased income that comes with economic growth and inflation or the reversionary value that is associated with these are important.

In recent years there has been a strong flow of funds to property offering long weighted average lease expiries (WALE) as investors have sought the security of fixed returns for longer periods. These investments often include limit rental growth provisions which may not keep up with inflation.

Now with inflation & interest rates rising, it is important to fully consider not just the strength of the tenant and the WALE but also the current vacancy rate, the average rental review escalations over the next 12 months, the percentage of rental income referenced to CPI increases and the percentage of income subject to a market reviews over the next 5 years.

I call these the Rent Review Quality Measures and when analysing investments we convert these measures to a Rent Review Quality Score in order to benchmark investments against a preferred strategy.

Assets with higher Rent Review Quality Scores should provide better access to rental growth in inflationary markets.

A recent Woolworths based Marketplace Shopping centre we reviewed last year offered a WALE of 5.5yrs, a vacancy of 5%, an average annual rental increase of 3.8%pa with 10% reference to CPI and with 25% of the specialties exposed to the market within 5 years. This Centre recently sold on a 6.5% yield.

By comparison, an Industrial facility we examined with a single tenant offered a 10year lease at fixed 3% increases, no market reviews and was recently sold on a 4.9% yield.

Rent Review Quality MeasuresShopping CentreIndustrial Asset
Avg Rent Inc3.80%3%
CPI Exposed Income10%0%
5 yr Market Exposed Income25%0%

Long term logistics assets may be the flavour of the month, however if rental growth doesn’t keep pace with inflation and the next market review opportunity is in 10 years time, my money isn’t working as well as it should.

As we head into a period of rising inflation and rising interest rates the Rent Review Quality Scores in the above examples are far better for the Shopping Centre than for the Industrial asset.

The same analysis can be performed across portfolios.

If you’d like to adopt Rent Review Quality Scores in your reports, get in touch with me for a working example.