When the world catches a cold, Hong Kong catches pneumonia


This is the Nedgroup Investments podcast a space where you can learn more about our fund managers the funds they manage as well as get up to date on important developments affecting the investment world and how they might be relevant to you. Today, we’re talking with Andrew Parsons from Resolution Capital. He’s flown to us here in Cape Town all the way from Sydney, Australia. Welcome, Andrew. How was the flight? Thanks, Rob. Great to be here. Albeit, physically, mentally, I think I’m somewhere still over the Indian Ocean, but all good, thank you. Well, you get it around the world quite a bit with your job. So let’s talk a bit about what’s going on around the world. And I think we said maybe we can start with Hong Kong. I mean, it’s quite prevalent what’s going on there? It seems to have escalated in the last few days and is that having an effect on the holdings in your global property portfolio? Yeah. Look, it’s obviously a fluid situation. And in fact, just prior to coming in, there’s talk that they have basically tried to provide a bit of stimulus to the local property market. They’ve reduced some of the lending criteria. And that’s actually a view of the share prices today. So, look, it’s a fluid situation and clearly it’s an unsettled. We’re going to have some volatility. And, you know, it’s a market that has had a history of volatility. So trying to predict Hong Kong in the short term is always challenging, particularly challenging, as opposed to everywhere else in the world that you’d think might be very easy, but that’s not the case. So, you know, with Hong Kong we think there is major, major friction there, obviously. We reduced our exposure very early in the piece because we know with the history of Hong Kong, saying earlier, its history of volatility, whether it was the Asian financial crisis or SARS or more recently, you know, the financial crisis, et cetera. Hong Kong really does seem to, you know, when the world catches a cold, Hong Kong catches pneumonia almost. We cut early fortuitously. We don’t see ourselves as short term traders. But we did think that the situation did look a little more challenged and the share prices we thought really had a strong run. So it’s time to take some money off the table. You know, the prices retraced should be an opportunity to buy back in. But, you know, it is still a very unsettled situation there. And we didn’t think the prices of yet, frankly, got what we’d say deep val to the extent that would encourage us to re-enter the market. But, you know, we keep a watchful eye on things. We don’t try and pretend that we know what’s going to happen there. But we know weakness does provide opportunity. But again, it is still a very unclear situation. Clearly, China is going to be very careful on how it deals with it, because obviously it sends signals in a number of different ways. Obviously, they’ve stamped down or stamped on unrest in other parts of China over the last couple of years in a very aggressive fashion. But they also know that they’ve got the issue of Taiwan to deal with. So they’ve got to tread carefully. They also know Hong Kong’s an important source of capital to the rest of the world. So China’s position there, you know, making some veiled threats, but I think they’re reluctant to get too involved. But by the same token, they know that the message that it could send to the rest of the country if they go softly, it could actually encourage unrest in other parts. So it’s a delicate situation. We just don’t think the share prices are quite cheap enough to make us rush back in. And you’re holding Link REIT in the portfolio. That’s a shopping centre operator. Is that right? Yeah, Link REIT, it’s an interesting stock. It basically owns basic needs retail. You know, it’s your supermarket and other basic needs, restaurants that sit basically within Hong Kong Housing Authority estates where there’s a very high population density. Because the apartments there are they are so small, people go shopping very regularly. You know, on a daily basis because the kitchens are very small. And so they really do use their shopping centres quite frequently. And therefore, in a period of uncertainty, it has a very strong balance sheet. That’s the sort of exposure that provides some level of safety, if you will. With a strong balance sheet and pretty resilient cash flow we think that’s certainly a stock that, you know, can ride through this this period of uncertainty. Presume they have very low tenant turnover? It depends how you look at it. I mean, they’ve actually had pretty good tenant turnover and the reason is they’ve been trying to take out some of the older tenants who frankly haven’t been paying as much rent as other tenants are capable of. So, you know, yes, because it’s basic needs there’s obviously good level of tenant demand. But it doesn’t necessarily mean that there hasn’t been higher tenant turnover. And do you like that, in a REIT management? Do you like to see them actively sweating the assets within their portfolio? Oh, yeah, absolutely. I mean, again, that’s a very interesting stock in terms of, it was listed back in 2006 and we were an investor in the IPO. It was previously managed by the Hong Kong government or or one of its departments. And it was, let’s say, under-managed, in fact so under-managed a number of tenants weren’t even paying rents. They weren’t collecting the rents from the tenants. So it was a situation where new management came in and really invigorated the structure and was able to extract a whole lot of value. And that’s been a fantastic performer over a long period of time. And we still think there’s opportunity to, you know, as you say, sweat the assets a little bit more. You know, it was interesting, last year they sold what’s called a wet market, which is basically where a whole range of different produce, fresh fish and meats and pork’s and chickens, as well as fruit and vegetables are sold in a sort of an open air environment. That was seen as the poor quality part of the portfolio. When the vehicle was listed in 2005/06 the portfolio had a cap rate or a yield of about 7.5%. And the wet markets component was seen as the poor part of the portfolio. Last year they sold that wet market on a yield of about 2.7%. So it’s been a phenomenal story over the long term and that’s the sort of positions we like where we can see these things evolve and and cashflows realized. Retail around the world has come under some pressure over the last 18 months, 2 years. But we’ve seen a bit of a rebound. Is that broad based or has it been focused in the US, UK? I think the rebound you might be referring to is maybe some of the UK situations in the last little while. But the retail scene, it’s basically still in doldrums. So you’re right. There’s been a little bit of a bounce, whether it’s a dead cat bounce is yet to be seen. But clearly it’s an industry that’s going through a transition phase and there’s clearly going to be some winners and some losers. Curiously, I’ve just learned prior to coming into this that the Lowy family who sold out of Westfield in US & UK last year to Uni Emeco. They’re in the market, we believe, at this very moment, hot off the wires, trying to sell their last 5% stake in their Australian investment retail shopping centre vehicle called Scentre Group. So that’s gonna set the tongues wagging in terms of if they’ll selling out again of another vehicle that’s related to retail. What does that still say about the retail picture? So, again, it’s a very challenging environment for retailers. Consumer spending patterns are changing and the onset of e-commerce. So this is going to be, I think, a tough grind for retail for quite a while yet. But as I say, I think it’s clear that you are going to have winners and losers. There are people who really do need to go out and enjoy life outside the home, to some degree and that may well include doing some shopping for a whole range of different things. So finding what consumers are interested in spending their money on (in shopping centres) that’s the real challenge. And in the U.S., you, hold Simon in the portfolio. What’s the vacancy rates in their malls like at the moment? Yeah, we’ve held Simon for a long period of time. In fact, I would say that it’s towards the low end of our holding range. I think it’s about 2.5% of the portfolio, maybe not even that, maybe 2%. And if you look back seven years ago, six years ago, it was probably 7 or 8% of the portfolio. So we’ve really reduced our exposure quite significantly. But it is still part of the portfolio because it probably has one of the best shopping centre portfolios in the US. It’s actually a range of different formats. It owns malls, it owns outlets. It bought an outlet operator called Chelsea many years ago. That was a fantastic purchase for them in terms of, again, being able to extract a lot of additional cash flow from a niche part of the market, shall we say. So it is a range of different types of retail formats, but they do own some of the best shopping centres in the US. And that’s where the retailers are tending to focus their their leasing and where they where they want to be. It’s worth remembering that over 80% of retail sales still take place in bricks and mortar shopping centres. So there is still a very strong case… Even in the US? Absolutely. I mean, that’s over 80%. Clearly e-commerce is on the growth path and so retailers know that they still need to be in physical bricks and mortar. But there’s just not the net additional demand that there was probably a decade ago because retailers are being more frugal with how they are establishing their footprints. They’re spending money, a lot of money, obviously, on developing their technology platforms associated with e-commerce. So they only have so much capital to go around and therefore, they’re concentrating their capital on those stores that are the most productive, where they’re doing the most sales. Simon happens to own a lot of properties where they tend to generate most of the sales. So that’s why there is a focus or a concentration on these flagship malls, as they’re called. And that’s what Simon owns. But nevertheless, it is fair to say that the consumer hasn’t been exactly opening the purse strings so much in the last five years. They’ve still been fairly frugal and changing the way they’re spending. I mean, let’s look at social media is an example. What are people taking pictures of and putting on social media? It’s where they’re holidaying and where they’re eating. It’s not what they’re buying in terms of physical fashion products, etc. So it’s all about experiences now and shopping centres obviously focus a lot on fashion. That’s not necessarily where people have been focusing their spending and so that’s been a big part of the malls, has fashion retail, and that’s been the part of the market where Amazon has been trying to tackle through online. So, look, Simon is part of the portfolio. It’s not necessarily the biggest part of the portfolio. But we do think that it has a strong balance sheet and has a standing portfolio. So it deserves to be there. But I’d have to say it’s towards the bottom end of our investment range. Thank you very much, Andrew. I have to ask you one last question. What’s your prediction for the England, Australia quarterfinal at the weekend? So I would suggest that Australia will win in a canter, right. We playing cricket this weekend? No, I should have said earlier, congratulations for the Ashes. Look, the rugby, we have a history of maybe surprising people. I think most Australians be more surprised if we win this weekend. But you never give up all hope. Yeah, that’s what I’m worried about. Anyway, thanks very much for joining us. Ah, pleasure. Thank you. Nedgroup Collective Investments is an authorized collective investment scheme manager in terms of the Collective Investment Schemes Control Act. Nedgroup Investments does not provide advice on financial products and will only give you factual information. For further details on our funds and to view our terms and conditions please visit: www.nedgroupinvestments.co.za

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