Industrial property holds up as commercial growth declines

Higher interest rates have seen the growth in commercial assets dry up, however, industrial property continues to hold up, according to an expert.

Ray White Commercial Head of Research Vanessa Rader said sales volumes have reduced and are expected to remain subdued for the remainder of the year, with price corrections starting to be realised.

However, some asset classes are performing better than others. 

Industrial and its limited supply, keeping vacancies low across the country, has performed ahead of other major asset classes this year,” Ms Rader said.

“Capital returns remain in positive territory while income returns have been consistently positive, providing an attractive hedge to inflation and increased financing costs.”

Ms Rader said coming off the highs of 2021/22, capital returns had fallen away in line with interest rates increasing.

She said NSW has been the most resilient region for industrial given its heavily constrained land supply and low vacancy.

With total returns for the sector recorded at 12.7 per cent in March 2023 according to the latest PCA/MSCI All Property Digest, of which capital returns sit at 8.6 per cent after peaking at 24.7 per cent in December 2021.  

“Encouragingly, capital returns sit close to the 10-year average of 9.1 per cent, in contrast to Victoria and Queensland whose current results of 3.7 per cent and 3 per cent, and are well below the longer-term averages of 6.9 per cent and 5.4 per cent respectively,” Ms Rader said.

According to Ms Rader, Western Australia’s industrial property has also shown greater stability compared to other regions, despite the falls in return.

“The strength of the local economy and underlying industrial demand kept total returns at 14.6 per cent in March 2023, well ahead of historical averages,” she said.

“The strong income returns for WA are highlighting these strong fundamentals, with stock shortages recording 5.9 per cent in March 2023, the highest rate of all states, propping up these total returns.”

Ms Rader said more recently there has been some divide between primary and secondary assets which have been tracking closely since the onset of COVID-19. 

“The high demand for investment and occupancy of industrial assets resulted in total returns being closely aligned regardless of asset quality,” she said.

“The quest to purchase is seeing some investors move up the risk curve in regard to quality and affordability, seeing tenants considering secondary assets.”

Ms Rader said that prime assets, which typically outperform secondary, have seen superior capital returns while income returns remain stable across both quality types. 

“The affordability associated with secondary assets is more attractive to tenants and investors, including owner-occupiers, resulting in total returns up for secondary assets to 13 per cent, just behind the long-term 10-year average of 13.8 per cent, while prime asset returns of 11.1 per cent sit considerably below the 10-year average of 14.6 per cent,” she said.

Capitalisation rates for industrial continues to maintain a low rate, albeit starting to creep upwards she said.

“Prime industrial currently sits at 4.2 per cent while secondary has grown to 5 per cent after bottoming out at 4.4 per cent mid last year,” she said.

“Sydney is still dictating the lowest rate of 4.1 per cent, followed by Melbourne at 4.3 per cent, with distribution assets remaining tight at 4.1 per cent and warehouses moving up to 4.5 per cent in March 2023.“

Ms Rader said the outlook may see further compression in capital returns, while high inflationary pressures may see income returns remain stable, which will see capitalisation rates move upward accordingly.

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Rowan Crosby

Rowan Crosby is a senior journalist at Elite Agent specialising in finance and real estate.