SA’s property sectors are being negatively impacted by increased worries of local and global economic growth amid even higher inflation and interest rates says Rode’s Report on the South African Property Market Q2 2022.
On the 6th of July 2022, the head of the International Monetary Fund said the outlook for the global economy had “darkened significantly” since April 2022 and she could not rule out a possible global recession in 2023 given the elevated risks.
While the worst positioned of the three major commercial property types, due to its severe oversupply characterised by high vacancy rates and lower rentals, the results of the latest Rode survey show that vacancy rates improved slightly during Q2 2022 with the decline in nominal rentals generally less than seen before i.e., fundamentals are poor but improving somewhat. However, it is too early to tell if this positive move will be sustained given the expectation of slow economic growth and the work-from-home trend.
Nationally, gross market rentals for decentralised grade-A space decreased by 1% year-on-year in nominal terms. Encouragingly, the decline in rentals has eased gradually since mid-2021 when rentals fell by around 6% compared to a year prior. This probably means that the worst is over as rentals are stabilising at lower levels as more workers return to offices, albeit in a hybrid way. There is one caveat though; the above rentals are nominal rents, meaning no rental remissions, tenant installation, allowances, or a number of months rent-free are assumed. In real terms, rentals fell by more than 10% after deducting building cost inflation (BER BCI) which accelerated to about 13% during Q2, driven by double digit increases in the prices of steel and copper.
Regionally, Cape Town has been the best performer of late, with nominal rentals (+1.2%) rising to above those of a year ago. However, rentals for all the other major cities were either unchanged or declined compared to Q2 2021, indicating that the office market is still largely feeling the pains.
No other major city managed to record above-inflation rental growth. With the sharp rise in building costs, real rentals have dived into double digits.
The industrial property market continued to shine during Q2 2022 with nominal rental growth for space of 500m2 picking up to 5.4% year-on-year due to low vacancies. The 5.4% can be compared with growth of 0.5% in 2020 and 2.2% in 2021. However, the story is not so bright in real terms given the spike in building cost inflation which means this sector is comfortably the best placed of the major commercial sectors where vacancies are much higher and above their long-term average, especially office assets.
One of the key reasons for the industrial sector’s outperformance is the largely non-speculative nature of developments. Another driver has been the superior performance of logistics due to the online sales boom which has accelerated during the pandemic but, are the fundamentals of this sector close to peaking, given the weakening economic backdrop, which will also curb the sharp growth of logistics and warehousing demand through weaker online sales?
Nominal rentals for prime space of 500m2 grew by 7.2% year-on-year in Cape Town during Q2 2022, remaining above pre-pandemic levels as the demand for space exceeds supply. This was the strongest rental growth of the major industrial conurbations.
Cape Town’s vacancy factor continued to decline, implying a vacancy percentage of below 5% – the lowest rate since Q3 2020. Nominal rentals in Durban and Central Witwatersrand also continue to perform well with growth picking up to 6.6% and 5.8% respectively. Fundamentals in Durban are looking better as the July 2021 looting and 2022 floods have created a shortage of space in some areas equating to a vacancy rate of just under 4%, better than the national average. Rental growth was more subdued in the East Rand (+2.4%).
The housing market had a steady start to 2022 with nominal prices growing by about 4% year-on-year during the first five months, albeit marginally slower than the 4.2% growth for the whole of 2021, based on FNB data. In real terms however, house prices have fallen by about 2% in 2022 so far due to the sharp rise in the average consumer inflation rate to 5.9%.
Turning to the latest monthly data, nominal prices increased by 3.7% year-on-year in May, slowing from 4% in April, and well below the inflation rate of 6.5% in the same month. At this stage, the impact of interest rate hikes is not significantly slowing prices and volumes, but it will increasingly play more of a role in curbing effective demands as it increases towards its pre-pandemic level of 10% sooner rather than later.
Rode anticipates house prices to grow at a slower rate over the next year due to the weak economy, characterised by high unemployment, and as interest rates rise further, placing additional pressure on consumers who are also facing inflation. Real house price growth is still a few years away.
Turning to apartments, vacancy rates in South Africa averaged 8.8% in Q2 2022, down from 9.9% in Q1 2022, according to Rode’s residential survey data. The improvement in vacancy rates has led to slightly better performing nominal rentals however, these are still declining in real terms which means that landlords are generally feeling the heat as total costs, including items like rates and taxes and maintenance, are rising faster than their rental income.
It is significantly more expensive to maintain a home now when compared to a year ago due to hefty prices of metals such as steel. Higher interest rates are also lifting bond instalments and Rode is not excited about the outlook for flat rental growth in the near future as it will be difficult for landlords to pass on sharp cost increases to tenants in the current difficult and worsening economic environment. A realistic scenario is that nominal rentals will probably continue to rise slowly in the next year or so but at a rate lower than the consumer inflation rate.