Wednesday 10 July 2019 by Jonathan Sheridan Opinion

How to access the property sector in the bond market

Like all asset classes, different industry sectors are available for investment.

Property often makes for a good bond investment, as there are usually hard assets and a regular cashflow backing the borrowing, extended through issuing a bond.

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Of course there are the usual risks, such as vacancy of tenanted property for cashflow and changes in market values for the asset backing. Importantly though, as lenders, we are higher in the capital structure than the owner of the particular property or group of properties, so our payments must be made even if the above issues arise. 

Diversification and scale, as in other sectors, are always helpful when lending to a property business. Residential Mortgage Backed Securities (RMBS) offer great diversification as the lending is secured against a large pool of mortgages. We deal with this sub sector specifically in another note this week, so I won’t go into detail here.

Investment grade bond issuers in the property sector are often well known names such as GPT and Stockland. Due to their size and scale, they have very reliable revenues and cashflows, and as such offer a relatively safe investment. This is reflected in the yields available. For example:

Graph10More attractive yields are available, but as always they come with higher risks. Typically this means a smaller company, or more concentration in the property portfolio, or an unusual structure.

These are not necessarily bad things, but should be considered carefully (as all higher risk, higher yielding investments should be) before deciding whether or not to invest.

High yielding property companies that have issued bonds in the Australian market include both listed and unlisted businesses, and their bonds are available in both the listed and over-the-counter  (OTC) markets. Examples include:

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There are many other property-based lending products available, however they tend to be single asset exposures, or if not, then not greatly diversified. We would recommend investors examine very carefully the underlying risk of any particular investment, despite the potentially high yields on offer.

Understanding the differences between individual issuers can be critical to the determination of value, or the balance between risk and return.

In the above table, for example, Privium offers the highest yield. However, it operates mainly in an arguably lower risk end of the property market, as a house builder. It is a smaller business than the others, and this contributes to the higher risk and yield. 

Sunland in contrast is a much larger, ASX-listed business, but is solely involved in property development, where it risks its own capital in acquiring and developing a collection of individual properties. It has scale but the nature of the business is riskier.

Both businesses mainly operate in Queensland, and the bonds have similar maturities. The differences between the two are reflected in the differences in the yield on offer.

In conclusion, it is possible to access the property sector in various ways via bonds. There are, as in all other sectors, different levels of risk and return available. 

Careful consideration of the characteristics of each individual bond on its merits should be made, as despite being in a sector familiar to most investors, these differences could have a large impact in the future if events do not play out as expected.

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