The global hunt for yield

March 22, 2012 / By

In 2011, offshore investors purchased AUD 3.7 billion of Australian commercial real estate assets. This equated to 29.5% of total transactions (above AUD 5 million) and the largest percentage on record. Offshore capital flows into the Australian real estate sector are part of a larger theme. Foreign ownership of Australian government bonds has risen from around 25% to 75% over the past ten years. Foreign ownership of listed equity has risen from 32% at the end of 2007 to around 45% by the end of 2011, a fifteen year peak.

There is a perception that Australia is predominately a play on commodities and more broadly, exposure to the robust Asia-Pacific growth outlook. In fact, the Australian economy is highly diversified with a sector profile not dissimilar to the US economy. In the US, the four largest contributors to GDP in 2011 were: Finance, Manufacturing, Healthcare and Professional Services. In Australia, the four largest sectors were: Finance, Mining, Manufacturing and Construction. Suppose we adopt the traditional economic definition of the ‘concentration ratio’. This is defined as the market share of the largest four producers. In the US, the four largest sectors account for 55.3% of GDP. This figure is much higher than the 41.8% that applies in Australia’s four leading sectors.

Investors are engaged in a global hunt for yield. The nominal 10-year bond rate in Australia is 4.36%, compared with US Treasury yields of 2.38% (March 19th) and the dividend yield on corporate equities is significantly higher in Australia than the US, UK and Germany. In commercial property, the average prime-grade yield in Sydney and Melbourne is 6.88% and 7.13%. In contrast, the mature office markets of London (4.00%), New York (4.30%) and Frankfurt (4.80%) are recording much lower yields. The spread between these markets and Australia is the widest in more than a decade.

The first few months of 2012 have actually seen better news on the global economy. Indeed, the Chicago Board Options Exchange Market Volatility Index (VIX) – a widely quoted measure of risk aversion – has receded to a level last recorded in June-2007. Nevertheless, offshore interest in the low beta commercial property market of Australia remains strong. A number of global pension funds and sovereign wealth funds continue to seek assets where a high proportion of the return hurdle can be met through income rather than heroic capital growth projections.

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