Our headline in last year's Top Companies advised: "Get in while it's worst and win". We then described a sector driven down 30% by rising interest rates reacting to a plunging rand, and by office vacancies.
We expected recovery only when rates fell. They still haven't. Yet everybody is piling into the sector, which has already recovered - and more.
There are two reasons for this. The 14% average yields looks inviting compared with what else is available. Though returns in the sector are dwindling ahead of interest rate cuts, an 11% yield on blue chips like Sycom, Grayprop and Hyprop makes property the only game in town.
It also shows that property marches to its own drum and property funds must be measured on their own terms. For instance, the standard Top Companies measure of profit would place Liberty International, the London-based giant of the JSE, streets ahead of the pack with net profit of R1bn.
Next would be Grayprop with R248m, followed by all the property unit trusts (PUTs). The property loan stock companies (PLSs) would make no showing because they pay interest, not profit. Yet Growthpoint, Redefine, Pangbourne and ApexHi - all PLSs - are some of the most exciting companies on the JSE today.
Property is a conservative, long-term, income investment which is being ignored in the frenzied debate about whether equities or cash will protect pensions. Yet property funds offer the high and steadily growing income that pension fund managers seek.
But how do you judge which of the 25 property funds is well managed and will perform best in future? One sign is how well funds grew last year, when the sector yield was lower than direct property yields. So buying with paper diluted returns, as did borrowing at the high interest rates. Provest, the private property asset manager, prepared a table showing growth in property value and changes in gearing (see table). To this we added changes in market capitalisation.
The best funds grew property value and market cap - and maintained or reduced their gearing - despite the bad conditions. Investors showed they liked the quality of the properties bought by not pushing down the share price. Property vendors showed faith by accepting paper for their properties. It took management talent to persuade investors that their properties were good and property vendors that their paper was good.
Apply these benchmarks and ApexHi, Growthpoint, Pangbourne, Redefine and Sycom leap out of the table. PLS Corpcapital's ApexHi (value up 15,2%, gearing down 29%, market cap up 81%) ignores location, the holy cow of property, in favour of high yields. So it was first seen as a high-risk investment. The risk was then fully exploited by structuring the capital into A shares that are guaranteed a minimum income by being given first bite of the profits, and B shares which usually get a higher yield than the A shares but really suffer in bad times. Corpcapital's Marc Wainer argues that poorly located properties are underrated and the yield differential is far higher than the actual risk.
You could get a 25% yield on the Bs when ApexHi listed, as investors went for the (still high) As at 17%. The market now believes Wainer, and the Bs are at 17% and the As at 14%. ApexHi is also the most liquid of shares.
Investec's PLS, Growthpoint (value up 37,2%, gearing up 9,3%, market cap up 64,9%), was a minnow in 2001 with a market cap of a few hundred million rand. Then it swallowed the Sentinel & Mines Pension Funds' R1,54bn portfolio and R650m of units in 13 listed funds. Now it is stalking Primegro, the PLS with a R2,4bn, retail-rich portfolio. At the time of going to press, it was taking over Primegro, which would give it a market cap of R3bn and make it the first property fund ever in the Alsi 40. Investec's Sam Leon manages Sentinel's Melrose Arch property and will probably acquire that R1bn-plus property for Growthpoint as well. Growthpoint's yield is in blue-chip territory at 11%.
PLS Pangbourne (value up 20,1%, gearing up 1,1%, market cap up 182%) comes from the sector's shabbier past, the 1980s, when everybody sold the properties they didn't want to own into the then new PLS sector and on to a naive investment public. But new management under Atholl Campbell has been cleaning out the worst of the portfolio and building a bigger, better fund. Over the years Pangbourne bought RMS, Grove, CBD and the Pioneer listed funds. The Johannesburg CBD portion of these portfolios was sold to ApexHi for paper. This beefed up its income when property performance was poor. It also has a 34% interest in iFour, a new fund of good quality offices. It yields an initial 14,1%.
PLS Redefine (value up 54,5%, gearing down 5,8%, market cap up 97,5%) introduced the hybrid fund that holds properties and shares in other funds. It is the third-biggest investor (R1,1bn) in the sector after Marriott and Old Mutual (R1,2bn each). And management has been active in getting performance from its investments. Being close to funds has also opened opportunities for acquisition of properties . The yield is about 13%.
Corovest's Sycom (value up 27%, gearing up 1,3%, market cap up 38,5%) is the only PUT in the group. It has bought some good properties and started renovating some of its prime stock, which will pay off in improved earnings. It has also pulled off a Cape Town foreshore development coup. The fund remains the bluest of blue chips at a yield of 11%, close to Grayprop's 10,6%.
It's not all good, though. ApexHi has been disappointingly slow in exploiting its empty space, from which its future income growth should come. Growthpoint must still show it can digest its large portfolios and grow returns at the same time. Pangbourne's management may be too conservative and too long-term for some. Redefine's listed investment could make it look very risky in a downturn. Corovest is not showing the old drive that made Sycom one of the most trusted property funds.
There are other good investments: Grayprop, Hyprop, Martprop, Atlas and Spearhead. But the five top performers make as good a diversified property investment portfolio as you could want.
Choosing one top company is difficult, because they are all good. Despite some question marks about near-term income growth, ApexHi Bs' near-17% yield is attractive to investors who want income. The risk-averse go for safe, debt-free Sycom, or slow but steady Pangbourne. But then Growthpoint (the biggest) and Redefine (the most flexible) could be the best of all.
