By Carolyn Cummins Commercial Property Editor
THE dearth of investment sales of assets of more than $100 million has left values languishing as vendors and buyers fail to reach agreement on prices.
But that may be the least of their worries. There are predictions that values could drop by up to 30 per cent in the coming 12 months.
Investment Property Databank says in a report that Australian commercial property returns were unchanged from the preceding quarter, earning investors 1.1 per cent in the September quarter. This is the lowest total return since March 1995.
Capital values at the All Property level slid -0.5 per cent. The mixed use and other properties category was the worst, values on a quarterly basis falling -1.1 per cent, while office capital values slid -0.6 per cent.
John Garimort, managing director in Australia of Investment Property Databank, said All Property total returns were unchanged largely because there had been a dearth of transactions.
"However, there is in excess of $20 billion of commercial real estate for sale, and once the expectations of buyers and sellers converge, we expect values to fall substantially.
"On a 12 month rolling basis the Australian All Property return was 10.6 per cent, its lowest since March 2003." But Mr Garimort said the Australian Property Index returns compared favourably to equities and property equities. The All Ordinaries returned -26.6 per cent and the ASX 300 A-REIT returned -41.8 per cent over the 12 months to September 30.
A property analyst with Goldman Sachs JBWere, Hamish Tadgell, has also predicted a decline in values as the commercial property market enters a cyclical downturn.
"We expect this correction to be protracted, given slowing economic growth, deteriorating commercial real estate fundamentals and challenging refinancing conditions, and will result in substantial declines in real estate values over the next few years.
"We believe commercial property prices need to decline by about 20 per cent to reach fair value. Combined with the challenging refinancing conditions and economic slowdown, the risk is values overshoot fair value. As such, we believe values could decline by 20 to 30 per cent."
Mr Tadgell said one of the underlying concerns for the valuations was the high level of exposure the banks had to Australian real estate investment trusts. But, he said, it remained lower, in relative terms, to what the banks were owed in the early 1990s.
"It is this significant growth in exposures in the past two years that worries us most (more than the aggregate level of exposures at this time of the cycle).
"We estimate that the five local major banks have an Australian commercial property exposure of $114 billion at September 2008, up around 21 per cent on 1997 levels and up 52 per cent on 1996 levels.
"The banks argue that their loan to value ratios are conservative in this cycle, and cash flow cover of interest is strong, making their commercial property loan expansions sound credit-quality decisions in recent years.
"Further, the major banks' headline exposures to commercial property are lower than the earlier 1990s, when they peaked at 17 per cent of total Australian loans and advances, versus 9 per cent now."
Goldman Sachs says Suncorp-Metway has 21 per cent of its loan book in commercial property and increased it exposure 45 per cent in the past 12 months; St George and Westpac combined have 11 per cent of total Australian loans and advances in commercial property.
National Australia Bank has 6 per cent of its Australian loan book in commercial property, and offshore loan exposure, bringing its total exposure to 10 per cent of group loans.
The warning signs are present for a material correction in prices and an associated spike in loan losses for the banks.
Mr Tadgell said: "The commercial property write-offs for the major banks could be around 4 per cent to 6 per cent, which implies commercial property losses of $4 billion to $7 billion.
"This compares to commercial property loan losses of 10 per cent to 12 per cent in the early 1990s."