Pleasing Dutch prospects in low-key environment
Prospects for the Dutch property markets are very different between sectors. As one of the weakest throughout Europe, the Dutch office market clearly enjoys the least favourable outlook. Whereas office markets in the London West End or Paris have shown the first signs of recovery in recent months, the Dutch office market has slumped even further.
From a level of circa 10% at the start of the year, the vacancy rate is likely to deteriorate to approximately 13% (representing over 6.7m2) at the end of 2004. This worsening of vacancy rates is egged on by the huge volumes of new-build accommodation which are completed (approximately 1,000,000m2) in combination with office job losses, which is causing office space to be reintroduced to the market. The trend of negative net absorption of square metres is set to hold sway in 2004 owing to the sluggish economic growth at 1.0%.
On a more positive note there is little speculative development going on whereas gross absorption is on the up. However, demand is predominantly geared to modern office buildings in prime locations which are replacing older and less competitive accommodation. Pressure on rental levels and, to a somewhat lesser degree, on prices per square metre must be expected to persist this year.
Vacancy rates could come down to just under 11% next year owing to the growth in office job numbers (by some 1.5%) and the smaller volume in new-build accommodation being completed. Nevertheless it is not until 2007 that vacancy rates are expected to come down sufficiently to enable rental growth. For the time being we would therefore give the Dutch office sector an underweighting in a Dutch property portfolio.
The Dutch retail property market too is bearing the brunt of the meagre economic growth. The combination of little to no growth in consumer spending and the completion of over 600,000m2 in shopping centre accommodation in 2003 and 2004, in a country where the amount of retail space per head of the population is already quite generous, has brought pressure to bear on rentals and values. However, the market is expected to bottom out this year.
Rental levels are expected to start inching up next year owing to the persistently low vacancy rates (at approximately 2%) and improving consumer spending in 2005 (at +1.6%). The retail investment market has remained strong owing to the continued interest on the part of investors in this defensive investment category. Initial yields have thus clung to a low level or are dropping even further. We would recommend a market weighting for retail properties as part of a Dutch portfolio.
It is the residential sector that continues for the time being to enjoy good prospects, especially at the low to medium end of the market. Although housing production is gathering pace, at 66,000 new homes in 2004, the rate continues to be very modest and considerably below the government target of approximately 80,000. Housing production is set to increase only slightly over the coming years notwithstanding the government’s plans to ease restrictions. The shortfall of 400,000 dwellings is not likely to be made up any time soon.
A further cornerstone of the residential market is the interest rate. Although an uptrend can be discerned, interest rates continue to be low. In our estimation the interest rate on 10-year government bonds should hover around the 4.6% mark by the end of 2005, which is still an attractive level. We expect prices of Dutch houses to go up by more or less the rate of inflation in 2004 and 2005. We would for now give the residential sector an overweighting in a Dutch property portfolio.
The Dutch listed property sector has offered plenty of
investment opportunities in recent years and continues,
in our view, to do so, with an average annual return of 8.6%
for the period between 1992 and 2003. The return on Dutch property equities has been just over 12% since the first of
January of this year. It should be borne in mind that the risk
profile of Dutch property shares is significantly lower than
that of ‘regular’ equities.
The favourable return is supported this year by steadily recovering prospects for the underlying (European) property markets, speculation of takeovers (Rodamco Asia being the youngest in a long series of names), unexpectedly favourable results for 2003 (with Corio posting 7% net asset appreciation per share, for example), and the establishment of a fiscally transparent SIIC structure for the French subsidiaries of Dutch property companies, enabling a future reduction in tax burden.
Dutch listed property shares have continued to date to enjoy encouraging prospects. Our firm forecasts average growth in net asset value per share for 2004 and 2005 at a level of just under 3% per annum. This is hardly spectacular as such, but with only a minor downward risk. Growth is being powered on by organic appreciation in property portfolio values. In addition, the sector is expected to add value by the implementation of a proactive buying and selling policy, with properties offering insufficient growth potential being divested in favour of properties boasting better growth potential.
Although the expected appreciation in value of the property portfolios we referred to earlier would appear to be at odds with the current lifelessness of the Dutch office market, it should be borne in mind that an average of around 60% of the Dutch property companies’ investment properties are located across the Dutch borders, most notably in France, the UK, Spain, Italy, Belgium and Sweden. Moreover, about 70% of investments by Dutch property companies are accounted for by the relatively defensive retail sector. We consider the Dutch listed property sector to be appropriately priced, at a premium of approximately 3% over net asset per share.
We anticipate a 10% total return for the coming 12 months consisting of 6.9% expected dividend yield and just under 3% in net asset value growth, assuming that a slight premium of market prices relative to net asset values is justified given the current stage of recovery of the property cycle. This implies that Dutch property shares continue for the time being to present attractive opportunities, with Wereldhave being our ‘top pick’.
Boudewijn Brouwer is with Kempen Capital Management in Amsterdam