Commercial property confidence weakens, developers take a pause

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COMMERCIAL real estate sentiment nearly fell into neutral territory in the June quarter amid reports the market is starting to respond to higher inflation and interest rates, as the number of developers planning to start new works fell to its lowest level in three years due to soaring construction costs.

According to the quarterly NAB Commercial Property Index, office sentiment dropped from a positive reading of 10 points in the March quarter to -14 in the June period, with a score of 0 considered neutral. The survey was taken as the return to work stalled in the face of strikes, floods, flu and another Omicron wave.

The overall Index reading eased from 11 to 1. Retail sentiment fell further into negative territory, to -17, while industrial sentiment remained high at 57. CBD Hotels remained neutral with the survey showing a big pick up in occupancy to from 58% to 72% in the quarter.

Confidence weakened during the quarter, with the 12-month outlook down from 19 to 8 points, and the two-year measure from 29 down to 22. Confidence was held up by the industrial sector (64 for 12 months, 57 for two years), with office back in negative territory (-6 and 11), while retail was also negative (-9 and 9). CBD Hotels is neutral for 12 months with a jump to 33 over two years.

Market sentiment is highest in Queensland, which was the only state to not see a decline in sentiment, which is neutral in NSW and South Australia/Northern Territory, and negative in Western Australia and Victoria. Short-term confidence now negative in WA and Victoria, and positive – but lower – in all other states, led by Queensland.

Office confidence eases

Office confidence eased across the country, with a very negative outlook reported for WA and Victoria in the next 12 months, and remaining negative in Victoria in the next two years. The Melbourne CBD office market vacancy lifted to 12.9% in the six months to July, according to the Property Council, and the city has the largest pipeline of new office space to come online – about 200,000 sqm over three years – and already accounts for more than half of all CBD sublease vacancy.

According to the survey, office vacancy lowered from 10.1% to 9.2% with higher vacancy in WA (12.4%) and Victoria (11.2%) offset by falls in NSW (7.1%), Queensland (11.0%) and SA/NT (7.0%). National vacancy is expected to fall to 9.0% over 12 months and then 8.3% in two years’ time, but range from 7.1% and 6.9% in NSW to 11.6% & 10.4% in WA.

Surveyed property professionals expect fewer white-collar workers to return to CBD offices in the post-COVID environment over the next 12 months. The survey returned a mean average score of 72.9%, down from 75.3% at the end of 2021 and 77.4% at the end of 2020. The average number was highest in Queensland (77.9%) and WA (77.4%), and lowest in Victoria by some margin (67.8%), followed by NSW (72.5%).

The outlook for office values is now negative, with falls of 1.0% and 0.6% expected over the next one to two years, and wound back and expected to fall in all states bar Queensland, with Victoria the weakest.  The outlook for office rents has been pared back, with a fall of 0.3% expected over one year and growth of 0.5% in the next two years. Queensland and NSW will outperform, with expectations again weakest in Victoria.

Retail confidence was higher in the eastern seaboard states, but the outlook for capital growth also revised down (falls 1.1% and 0.4% over the next one to two years), and tipped to fall in all states, except SA/NT. Rents are expected to continue falling modestly in all states bar WA and Queensland.

Industrial confidence continued to out-perform the broader market in all states. Capital growth is tipped to outperform other sectors in the next one to two years with growth of 2.8% and 2.7%, led by NSW. The outlook for rents is a little softer but still strong (3.5% and 3.7% respectively), with expectations of growth in all states with the biggest increases expected along the eastern seaboard.

Rising construction costs bite

In the face of soaring construction costs, the number of developers planning to start new works in next six months fell to a three-year low of 38%. The number of property developers expecting to commence new works in the next month fell sharply to 11% in Q2 from 24% in Q1 – the lowest number since the COVID outbreak in Q1 2020.

In total, 76% of developers were planning to commence works within the next 18 months. This was down from 80% in the previous quarter but still well above the low of 68% in mid-2020 when Covid uncertainty was rising quickly.

There were below-average readings of developers starting on residential (48%), office (10%) or retail (5%) property. However, with industrial supply still very limited, the number planning to start works in this sector remains above average at 16%.

Despite oversupply in the industrial sector, the number of developers planning to start new works continued to trend at an above average 16% in Q2 (15% in Q1).

With interest rates rising and expected to continue rising into 2023, more property professionals said it was harder to obtain debt (-20% from -13%) or equity (-14% from -9%) funding. The number expecting debt and equity funding conditions to worsen in next six and 12 months was also sharply higher. With fewer developers planning to start new projects over the next six months, the number who were planning to source more capital to fund their developments during this timeframe also fell to 24% (27% in Q4 and 26% at the same time last year).

Around 57% had no intention to source capital in the short-term (down from 58% in Q4), while the number who were unsure lifted to 19% (16% in Q1). The number planning to source capital in the next 6-12 months also fell to 26% (28% in Q1), but an unchanged 49% had no intention to source funds, while 25% were unsure (23% in Q1). The number intending to source more capital in the next 12-24 rose to 30% (27% in Q1), but 36% did not intend to source capital over this period (38% in Q1).

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