Melbourne, Australia – Reserve Bank of Australia (RBA) is sending warnings on the deteriorating commercial property markets.
According to the Australian central bank, there is a significant risk for banks, as well as developers, when it comes to high property prices because of the worsening situations of the commercial property markets.
Empty stores and boutiques in equally empty malls are becoming a massive risk to commercial properties as well.
The Reserve Bank gave out its subdued forecast for its Financial Stability Review records for April. The central bank stated that the drip in both the market valuations and volumes are most likely reflections of the current fragility in the rental market going forward. It is also mirroring the risk repricing by various institutional investors.
The RBA Review notes also follows the Australian government this week. It presented an obligatory code of conduct that required property owners and landlords to offer the much-needed relief for Australian renters, especially those who needed the help during the ongoing health crisis. That includes reducing rents they are asking from struggling tenants based on the decline in their incomes, with 50% of the rent deferred and the other 50% waived.
The Reserve Bank also stated that the massive risk due to the health crisis brought by the coronavirus pandemic is going to fall on the shoulders of the retail sector.
Based on the Review notes from the Australian central bank, the viewpoint for the demand on retail properties from the tenant’s perspective deteriorated considerably. It is primarily because of the decline in trading conditions. Because of this, the RBA said that vacancy rates might likely increase going forward while rents are going to drop.
In recent years, the commercial property valuations increased at a much faster rate compared to rent prices, given the drop in the risk-free interest rates. The notes highlighted that more highly leveraged landlords and property owners might be struggling if tenants couldn’t pay their rents, especially in the extremely fragile retail sector.
These factors could impact geared investors, causing a breach in their loan covenants. Meanwhile, developers who currently have projects that are still under construction could face more challenges in getting profitable valuations when finalizing their sales.
The RBA Review notes also said that all these issues could leave property developers holding the inventory. That will also include the debts marking their balance sheets, ending up with little to no profits for them. The notes from the central bank further stated that when this happens, it could be a massive risk for lenders as well.
The notes also said that property valuations in the market also rose to very high levels in the past years, not only in Australia but in other countries all over the world as well.
It also noted that banks experienced considerable losses from loans given to construction businesses and firms during the market downturn in the past. And despite construction loan accounts only covers a small share in the banks’ business lending, the volume has snowballed lately.
The exposure of banks to the commercial property market is about 6% out of their entire assets. However, the central bank also emphasized that non-bank lenders have also been present and increasingly active in doing lending business with the construction of commercial properties, such as apartments.
The RBA notes also pointed out the risks that the office markets are likely to face moving forward. It said that the previously strong business is looking to experience a downturn.
The note also stated that the CBD markets in Melbourne and Sydney are looking forward to more than the expected average volume delivery of office supplies this year. The demand for such may continue its current pace, given the substantial quantities present, the note continues.
Ian Randall, an analyst from Goldman Sachs, agreed with the views stated by the Reserve Banks towards the risks in the office market.
Goldman Sachs has revised modelling, which shows that vacancy rates are increasing and will likely cause rent reductions in the CBD office markets in Melbourne and Sydney. The market is looking towards a decline of around 30% to 34% between December 2019 to December 2022. The recent forecast is over 12% from the previous estimates.
Further, the completion of a couple new office constructions and developments will overlap with the demand considerably going down.
Goldman Sachs also stated that they are expecting a net operating income (NOI) all over the office sector in the near term. It will be the effect of the need for backing for tenants who are currently experiencing financial troubles due to the ongoing health crisis. It is especially after around 25% of tenants from the entire NOI across their overall portfolios will receive abatement for their rental payments for up to three months.
Because of this, Goldman Sachs came out with a much lesser estimate, which is now between 3% and 8% for the base funds for the big office property owners and landlords.
The demand in the CBD office market in Melbourne turned to negative during the first quarter of 2020. Mr Randall noted that the CBD net absorption in Sydney would also stay undesirable over the rest of this calendar year.
The vacancy rate in Melbourne’s office space is looking to make a double, reaching 10.1% in December next year. The peak is also going to be at 10.6% for Sydney by December 2022, according to the forecasts from Goldman Sachs.
Meanwhile, the estate agencies in Sydney are aiming for increased agility to make it through the ongoing health crisis due to coronavirus. With the recent job losses because of the pandemic, over 825,000 rental properties all over New South Wales are on the downturn.
This current situation is triggering any urgent consultations between the landlords, tenants, agents, banks and lenders, and the government to try to come up with a viable outcome.
While tenants who are stricken by financial crisis won’t be able to pay their rent this time, they will hopefully do so in a couple of months.
Meanwhile, landlords and property owners were counting on the consistent profits for their income and upkeep of their properties as agencies need rental income to offer management fees. On the other hand, lenders and banks quickly agree to extend a moratorium on mortgages, but it is also putting massive pressure on the banking industry as a whole.