What 10% writedowns imply for Australian real estate yields

Australian super funds’ out-of-cycle writedowns of their real estate portfolios will likely mean lower yields than before the financial crisis, according to an MSCI report released last week.

A writedown of up to 10 percent will potentially bring the asset values back to late-2017 levels but also implies a “relatively modest increase in yields compared to the global financial crisis or the early 1990s recession,” the report stated. Both NOI yields and asset values decreased in the 1990s crisis while only asset values decreased but NOI yields stayed positive during the global financial crisis. When the 10 percent writedown is tested in both the 1990s crisis and GFC scenarios, the NOI yields remain below 6 percent – still lower than the yields during the two previous crises.

The pension funds reporting writedowns are some of Australia’s largest, including the nation’s biggest super fund AustralianSuper and the $85 billion Unisuper. AustralianSuper cut the value of its unlisted assets by 7.5 percent while Unisuper reduced the value of its unlisted property holdings by 10 percent.

But Bryan Reid, executive director at MSCI Research, told PERE that the 10 percent figure is an estimate based on the public announcements of several Australian pension funds to-date and there can be a “much wider range” of outcomes.

Australian super funds are among the first institutional investors to announce writedowns in the property sector because the country has a very transparent real estate market, according to Reid. In addition, he noted that the writedowns are happening at a time when pension funds may also need to adjust their private holdings, as the Australian government is allowing individuals to withdraw up to A$20,000 ($12,836; €11,728) from the super funds, which could increase the demand for liquidity. If the funds are meeting these requests by using cash or selling some of their equities holdings, they will want to make sure that the withdrawals do not exacerbate the denominator effect and further distort their asset allocations, he said.

Although it has only been a month since covid-19 was declared a pandemic, Reid pointed out that similar conversations are going on outside of Australia as there is “pressure on investors to balance their portfolios.”

“Alternatives and private asset classes have seen their allocations rise over time and now make up more of the portfolio than they have historically,” Reid explained. “And with public markets reacting much faster, investors will be looking to manage the denominator effect by making sure their private investments are recognized at fair value.”

But having said that, Reid also noted that real estate tends to be a much slower-moving asset class, and unlike public equities, it takes awhile for real estate values to move through the cycle. “If you look at what we have seen historically during a downturn, the median peak to the peak for a national real estate market was probably around two to three years,” Reid said.

Reid expects to see more adjustments from investors and managers in the next few weeks. PERE can reveal that Australian real estate fund manager Charter Hall will introduce an out-of-cycle valuation of its portfolio at the end of April following Australian property manager GPT’s writedown of asset values in two of its largest wholesale funds by a total of A$694 million last week.

“But after all, there is no one-size-fits-all solution here,” said Reid. “Each country and each portfolio is different and investors will be applying different lenses to the situation. But we expect to see movement across the portfolios we track.”