Why the Western Cape will be the likely commercial property outlier

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The sharing of desk space will further reduce the need in the coming years for office space.
The sharing of desk space will further reduce the need in the coming years for office space.
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  • The Western Cape could be the likely commercial property outlier in the near term, according to FNB commercial property finance economist, John Loos.
  • Reasons include relatively well-run provincial and local governments without the "uncertainty of coalition politics".
  • As for commercial property in general, Loos says industrial property remains in the "relative pound seats", while the office and hotel segments continue to underperform.

On a provincial level, the Western Cape could be the likely commercial property outlier in the near term, according to FNB commercial property finance economist John Loos.

"The Western Cape has been the most popular semigration destination for many years now, due to the perception of the province as having a great lifestyle coupled to significant economic opportunity. It has also been seen to be a region where provincial and local government is relatively well-run. And as time has passed, communication and information technology has enabled businesses and individuals to be more removed from the major economic hub of Gauteng," Loos said during a webinar on Thursday.

"More recently, the unrest and looting in KwaZulu-Natal and Gauteng may have enhanced the appeal of living and doing business in the Western Cape, a province that largely escaped that event. In addition, the City of Cape Town is the only one of the major six metros that has emerged from the recent local government elections with its [governing] party having a clear majority, and thus free of the uncertainty of coalition politics."

While industrial property in South Africa is still in the "relative pound seats", the office and hotel segments of the commercial property market continue to underperform, according to Loos.

He believes office and hotel property could see further nominal value decline, while industrial property and to a lesser extent retail property, are expected to see low positive nominal capital growth. 

MSCI data indicates a decline in average commercial property valuations to the tune of -9.5% from the second half of 2018 to the first half of 2021 and -29% since the first half of 2016.

Mediocre at best

Loos cautions against "over-optimism" about industrial property, because inventory levels remain low and manufacturing is still "mediocre at best".

"But industrial property is the most affordable commercial property class and arguably the most adaptable, while also benefiting from a gearing up of the logistics sector for greater levels of online retail," Loos said.

As for hotels, he said revenue and occupancy rates remain far below pre-Covid-19 levels. He believes that, while foreign tourists will filter back in larger numbers in 2022, this won't yet be at pre-lockdown levels. Furthermore, a large part of business interaction has likely been permanently "Zoomified", and he expects a portion of corporate business travel will simply not come back.

The hotel property market is, therefore, expected to lag all three major commercial property classes - retail, office and industrial - on the recovery.

Turning to the struggling office market, Loos expects average vacancy rates to increase in 2022 due to many companies revising their office space needs down. 

"I believe the level of office working won't go back to the same levels as before the lockdowns, and as technology continues to improve, so the multi-decade trend towards greater remote work levels will continue," said Loos.

Two other factors putting pressure on the demand for office space are the recession which led to reduced employment in sectors using offices - like financial services, and so-called "hoteling" of desk space. This means employees have to book desk space in advance.

"Gone are the days when every employee had a desk reserved for themselves. This sharing of desk space will further reduce the need in the coming years for office space," explains Loos.

He expects market rentals and real operating incomes on property to remain under pressure.

Rate hike

Last week the SA Reserve Bank (SARB) announced a repo rate hike of 25 basis points to 3.75% - the first hike since 2018. For Loos this will likely be a further mild dampener on commercial property demand, because it is a highly credit-dependent market. FNB expects a further two 25 basis points rate hikes in 2022.

John Jack, CEO of Galetti Corporate Real Estate, points out the repo rate hike means those landlords that are under pressure to service their debt are going to be placed under increasing pressure as cash flow is tightened further. 

"The best option in this current market is to find an owner-occupier looking to buy the property at a strong pricing level," he suggests.

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