Fielding questions after his opening address at the launch of Spearhead Property Holdings' R35 million 10,000 m2 Wynberg Office Suites complex, Mike Flax, CEO of Spearhead, said that worldwide the residential property market is now generally considered to be slowly coming off the boil – but, he added, there is now "almost unlimited" potential upside in the South African commercial and industrial properties.
"The same conditions that are causing concern throughout many First World countries about the residential market are clearly evident here in South Africa," said Flax, "and they go back to one basic problem: abundant supply and ongoing speculation have led to a lowering of residential rentals.
"In South Africa the real term yield on rented homes is now around 3%, significantly below the 8,5% cost of most property finance. This could lead to a marked decline in the market.
"With commercial property, by contrast, investors are now able to get 8% to 11% yields - well above the finance costs. Their risk here is, therefore, considerably mitigated."
The greatly improved - and fast rising - yields on commercial and industrial property, said Flax, are due to commercial real estate being the cheapest not only in Africa - where far less prestigious office space is now often charged out at considerably higher levels - but also worldwide.
"Existing South African commercial space is now on average available at one-third of the cost of South African residential property and one-twentieth of the cost of London offices. It is also one-third of the current replacement cost - and as building prices are at an all time high and likely to continuing rising due to material and skilled labour shortages this situation will not, in my view, change in the next few years."
Asked to explain the current exceptionally low commercial values, Flax said that in the 1980s and 1990s there had in South African been a massive corporate-led oversupply of office space - on which low yields were exacerbated by unsatisfactory GDP growth and political uncertainty.
"Life for landlords in the late 1990s and early 2000s became very difficult," said Flax. "We saw the running costs of buildings rise from 15% to over 40% of the building's income, a situation almost without parallel worldwide. Not surprisingly, many big investors sold off their properties - and South African commercial space became exceptionally easy to acquire."
By contrast, said Flax, retail space rentals stayed in line with world norms and had in recent years been neither under nor overvalued but had retained fair value due to most rentals being linked to retail turnovers.
Other further factors likely to lead to a steady rise in office values and rentals, said Flax, are the low vacancies already becoming apparent and the boost to the general economy given by the government's R200 billion infrastructural development programme between now and the year 2010. This, said Flax, will filter through to the entire economy.
A swing away from residential investment could, said Flax, lead to a "contagion" in which investors shun all property assets - and he considers this a real and possible danger.
However, he said, Australian and US experience has shown that although there has recently been a pull-back from residential property as an investment, there has been a marked increase in investment in their Real Estate Investment Trusts, similar to SA's property loan stock funds, - like Spearhead. Especially favoured are those which have a diversified portfolio.
"Right across the world," said Flax, "we are seeing retirees aged from 50 to 80 looking for stocks capable of giving yields above the inflation rate – so that they will be able to maintain their living standards.
"In Australia, residential property prices dropped by 10% - but commercial property investment shares rose by the same amount.
"In the US, yields on listed property shares have dropped from 7% to 5,5% over a period of 24 months – a direct result of a 20% plus capital growth in the value of the shares."
As Spearhead will by mid-2006 have 70% of its portfolio in commercial and industrial property, said Flax, it is well place to benefit from the anticipated value increases here.
Spearhead's Wynberg Office Suites, concluded Flax, are an excellent example of the value obtainable today because prices here have been pitched from R3,000 per m2 to R5,000 per m2 - again one-twentieth of the London and New York prices and one-third of Century City office prices.