The write-down by shopping centre landlord Vicinity of its portfolio could signal a broader turn in the cycle for mall owners, according to City analysts.
Vicinity, which has stakes in trophy assets such as Chadstone in Melbourne and the Queen Victoria Building in the Sydney CBD – shaved 0.2 per cent, or $37 million, from the overall value of its $15.8 billion portfolio last week.
“But we see this as symbolically significant,” Citi’s Adrian Dark, David lloyd and Suraj Nebhani wrote in a note to clients. “Read-throughs for the peer set are negative.”
The bulk of Vicinity’s devaluations were felt in its regional, sub-regional and neighbourhood centres which constitute more than half its portfolio, while the top-end assets including Chadstone and its CBD exposures rose in value.
Rising capitalisation rates – a property industry metric which generally tracks values in inverse proportion – along with falls in implied cashflows were a feature of the Vicinity write-down, the Citi team noted in a research piece entitled The retail tide is going out.
The devaluation also follows a “small but significant rise” in Stockland’s cap rate, they noted, which followed its divestment of two malls in Bathurst and Caloundra on the Sunshine Coast for a combined $113.1 million at discounts to their book value last November.
“We viewed this as helping confirm that sub-regional values had peaked,” they wrote.
“Vicinity’s announcement suggests that this is much more broad-based.
“Our industry feedback has pointed to a tougher transaction market for some time, but we are surprised at how quickly this is being reflected in book values, given the typical lag.”
Cap rates and property values are the key driver of returns from real estate investment trusts. Values tend to rise gradually over long periods and then fall sharply.
“The start of a down cycle typically occurs once every circa 8-10 years, driving REIT underperformance of circa 20 per cent,” the Citi team wrote.
“We have previously flagged a turn in the cycle as the key risk for the sector, and have been watching closely for a turning point. Evidence is quickly building that for many retail assets, this is already in the rear view mirror.”
Citi has had a negative view on the retail landlords since July last year given the structural pressure they face from the rise of e-commerce and growing cyclical headwinds. Recently they further cut their valuations, which were already lower than most analysts.
“Recent news flow indicates that conditions are deteriorating faster than even we expected,” they wrote.
“Retail continues to surprise on the downside and is our least preferred property sub-sector.”
Underlining that stance, Citi team has the only sell rating on Vicinity’s larger peer Scentre, the owner and manager of Westfield malls in Australia. It was the largest property trust listed in this country until it was overtaken by industrial fund manager Goodman last week, in another symbolic moment for the sector.
Pressure on retail rent growth is now being reflected in shopping centre valuations and last year’s record transaction volumes may have been driven more by an increased willingness by their owners to sell than a rising demand for assets, according to Citi.
The real risk, according to Citi, is that rising cap rates and lower valuations spread beyond the sub-regional and lower quality retail assets to all retail properties, a scenario that is becoming more likely.
More worrisome, although less probable, is an end-of-cycle scenario where cap rates rise for all property types.
“We see this as the least likely scenario in the near term, although we will be watching closely,” they wrote.