Residential yields outperform commercial assets

Rising interest rates have seen yields increase across different asset classes, however, residential property has been steadily outpacing commercial assets.

Ray White Group Head of Research, Vanessa Rader, said the residential market, experienced a different trajectory to commercial as rates started to increase.

She said after initial declines in house and unit values nationwide, low interest rates stimulated activity, pushing median prices to new highs, surpassing previous records.

“The residential sector’s recovery was driven by unique fundamentals,” Ms Rader said.

“Australia’s growing population, combined with the halt in construction activity during the pandemic and high costs of construction and labour, led to a persistent shortfall in housing supply. 

“This shortage put upward pressure on both values and rents.” 

She said commercial markets didn’t experience the same pressures, with one notable exception being industrial. 

“This sector saw robust growth in space requirements during the pandemic, coupled with limited new construction due to land constraints,” Ms Rader said.

“As a result, industrial properties continued to experience rent increases.”

Ms Rader said Australian residential property investment yields had remained closely aligned with the peak rates of late 2021 and early 2022. 

“House yields have only increased by 58 basis points over the last 2.5 years, despite growing difficulties in obtaining finance and higher interest rates,” she said.

“Unit yields have also performed well, rising by just 99 basis points.”

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According to Ms Rader, retail has emerged as the clear performer among the commercial assets. 

“After a decade of challenges, strong population growth has led to ongoing increases in retail trade, driving continued demand for space,” she said.

“However, performance varies by asset type and location, with food and supermarket anchored assets like neighbourhood centres seeing only a 60 basis point change, similar to larger major regional centres that have recorded limited trading.”

Industrial assets remain in high demand due to low vacancy rates in many regions and high construction costs, making existing built structures more attractive she said.

“Larger assets that previously had unsustainably low yields have seen increases of around 1.4 percentage points, while industrial units with broader appeal have experienced yield increases of approximately 1.5 percentage points on average across the country,” Ms Rader said.

“The office sector continues to face challenges post-COVID due to work-from-home pressures, resulting in high vacancy rates and pressure on returns with high incentives across all CBDs. 

“Limited transactions have capped current reported yields, although anecdotal evidence suggests actual yields may be much higher.

“CBD yield growth over this period is officially up 130 basis points but could be as high as 250 basis points. 

“Suburban offices show similar results.”

She said the alternative sectors have shown mixed results. 

“Their low barrier to entry, due to affordable prices, initially attracted many private and first time investors, significantly lowering yields,” Ms Rader said.

“Assets such as childcare facilities, service stations, and blocks of units have seen yield increases, but these can vary considerably based on factors like location and quality.”

Ms Rader said encouragingly for asset owners, the 425 basis point increase in interest rates has not translated to a proportional growth in investment yields.

“Although values have declined for most commercial assets, yields have remained relatively stable due to limited stock in the market,” she said.

“While holding costs have risen, the absence of widespread distress has kept yields in check with many owners now looking towards potential interest rate reductions to aid in continued price corrections.”

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