Strong investment in all categories in Melbourne results in high levels of transactional activity: Savills

Strong investment in all categories in Melbourne results in high levels of transactional activity: Savills
Staff reporterNovember 28, 2016

Parallel to the buoyant leasing activity, strong investment appetite from all purchaser categories resulted in high levels of transactional activity in the Melbourne CBD office market, according to Savills' latest report.

Melbourne CBD’s commercial office sales (>$2 million) reached $2.15 billion in the 12 months to September 2016, with significant levels of capital chasing office sector assets.

The total sales achieved in the past year were 15 percent higher than the $1.87 billion that was transacted in the preceding 12 months.

According to IPD, Melbourne CBD office property returned a steady total return of 15.7 percent, at similar levels from a year ago.

However, Melbourne office property returns are trending above the five-year average total returns of 12.2 percent.

Historically low interest rates coupled with volatile global financial markets, led investors to select core office property as a solid investment asset class.

Investment yields firmed across Melbourne CBD’s prime and secondary assets over the past year.

"Savills expects this cycle to continue its momentum; albeit at a lower rate, with investment capital beginning to chase expectations of future NOI growth," the report stated.

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Market yields in the Melbourne CBD as at September 2016 are estimated to range between 5.25% and 6.25% for A grade buildings, and between 6.25% and 7.00% for secondary buildings.

Yield compression has been evident over the last twelve months, with yields for A grade assets having firmed by 83 basis points on average, whilst secondary yields tightened by 75 basis points.

Capital values in the Melbourne CBD as at September 2016 are estimated to range from $7,200 to $11,500 per square metre for A grade buildings, and between $5,000 and $6,550 per square metre for secondary grade buildings.

Average capital values for A grade properties have delivered an increase of 22 percent over the year.

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The Australian dollar has depreciated by 27 percent against the US dollar from its peak in March 2013, boosting property investment, especially from foreign investors over the past three years.

Foreign investors were the most active purchaser class for the period accounting for 65 percent of the total sales by value, well ahead of domestic institutions at 26 percent.

Private investors were the third largest purchaser category amounting to 7 percent of the sales by value.

The buoyant investment environment has continued to offer investors opportunities to rebalance their portfolios.

Currently there are three assets offered for sale in Melbourne’s central office market; ANZ world headquarters at 100 Queen Street.

RMIT Building by Selected Growth Properties and 50 Franklin Street owned by a group of strata owners, who have jointly put the building on sale.

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Joint sale by multiple property owners seeking to benefit from strong underpinning investor demand has been the latest trend in Melbourne’s property market.

The Melbourne CBD achieved 22 office sales, for the value of $2.15 billion in the 12 months to September 2016, up from $1.87 billion in the prior year.

In the most notable recent sales reported, Philip Lim purchased 380 La Trobe Street for $157 million from Invesco Asset Management, while Straits Real Estate sold 114 William Street for c.$175 million.

Other major sales for the last twelve months include; part shares in Southern Cross, a 43 percent share in Bourke Place, 161 Collins Street, 1 Collins Street and 120 Spencer Street.

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Rental rates reflect a net effective rent on a single, whole floor in the mid-rise of a building unless specifically otherwise stated.

Discounts and premiums exist for low and high rise space and for significant occupiers.

Victoria’s economy is expected to grow at 2.8 percent in 2016-17, highest amongst all Australian states and above the national average of 2.7 percent economic growth.

It is also forecasted to grow at a higher rate than the advanced economies (1.7 percent).

Tenant demand over the next year is expected to be driven by the sectors of Healthcare, Finance & Insurance and Government, with the sectors forecast to grow at 6.0 percent, 5.4 percent and 4.1 percent respectively nationwide.

Melbourne CBD’s white collar employment grew by 11,600 workers from 2011 to 2016, and it is forecast to rise by another 36,000 workers over the next five years.

Growth in CBD white collar employment is expected to increase absorption of CBD office space.

“As tenant demand continues to improve, Savills expects pre-commitment led construction to drive new development activity over the course of the next two years,” the report stated.

Tenant migration to pre-committed stock is likely to affect backfill vacancy levels. As a result, rental growth is expected to remain below economic rents, with incentives still at play; albeit at lower levels.

“Whilst, leasing activity has been muted over most period (three quarters) of the past year in the central Melbourne market, largely attributed to low business confidence, Savills has recorded a recent uptick in the take-up,” the report stated.

Latest rebound in tenant demand led to the highest level of take-up recorded since September 2011 which is also above the five year average.

“Dun & Bradstreet’s Business Expectations Index (the average of the survey’s measures of Sales, Profits, Employment and Capital Investment), increased to 17.8 for the fourth quarter of 2016, up from 12.3 in the previous quarter, and is 9.9 above the 10-year average of 7.9. Savills’ anticipates optimism in Business expectations to boost growth in tenant demand, resulting into higher level of leasing activity in the near term,” the report stated.

The RBA’s follow-up rate cut in August provided some support to Business confidence, lifting it from July 2016 (+4) to Aug 2016 (+6) and further sustaining it in September (+6). Current levels of confidence are consistent with the long-run average, as reported by NAB.

“Now with the conclusion of the federal election combined with Australia’s ‘safe haven’ status, Savills expects foreign capital flow to maintain its momentum, as market fundamentals continue to improve in domestic markets compared to overseas markets which are grappling from financial markets turmoil, Brexit and uncertainty led by upcoming US elections,” the report stated.

The amount of capital seeking investment opportunities is likely to further cause yield compression, though at a much slower pace.

Although, the limited availability of stock offered for sale is likely to impede record levels of investment activity from the recent past.

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