Still value in long-term bricks and mortar leases, but it won’t be a smooth ride

We launched Sesfikile Property Fund, started investing in 2011 and we’ve consistently been a top quartile performer: Evan Jankelowitz – Founder & Fund Manager – Sesfikile Capital.

RYK VAN NIEKERK: Welcome to this Market Commentator podcast. My guest today is Evan Jankelowitz, the founding director of Sesfikile Capital and one of the fund managers of the Sesfikile BCI Property Fund. Evan. Welcome to the show.

The property sector is an interesting sector: we saw some depressed performance at the end of last year but in March this year we seem to have had a very good month, as well as in April. How do you see the current market environment?

EVAN JANKELOWITZ: It’s challenging but I’m still very happy to have my exposure towards property. There’s no doubt that property really is an indicator of the broader local market, so if GDP is on the back foot then property will struggle a little bit on the ground.

However, if you look across the management teams, a lot of the guys have been proactive. They’ve hedged a lot of the balance sheet risk; they’ve taken some exposure into the offshore to hedge local fundamentals out. So yes, I do think it’s probably run a little bit too aggressive in such a short period of time – over 9.5% in March and another 2% in April – but I think if you’re holding it in a balanced portfolio I’m still relatively comfortable.

RYK VAN NIEKERK: There has been some pressure on the sector since Nenegate late last year. Just take us through that, what the actual impact was.

EVAN JANKELOWITZ: Property is a yielding instrument, so it’s always seen as an opportunity cost for yield against the long bonds, so it’s a nice match. So after Nenegate, confidence in the country and in some of the structures was depressed and, especially on the date, you saw bond yields spike and as bond yields spike they offer a more attractive yield. So in order for property to compensate, the prices have to go down and to equate that relative yield to bonds. So that’s really the first-wave effect and people are also concerned on the ground [that] those kinds of decisions are going to be made and put some strain on the economy.

You’ve obviously got to see what the flow-through into the actual tenancies is going to be and the impact on rentals. So that’s more of a second-round impact. But we have seen property come back quite strongly on the back of that and also you’ve seen bonds come back quite strongly from that spike in December.

RYK VAN NIEKERK: Property is seen by some as a safer destination for equities investments than the normal equity market. Have you seen an inflow of money since January?

EVAN JANKELOWITZ: In our house yes, we’ve seen money coming in and I think guys are opportunistic buying into the lower prices – and well done to them for seeing that opening and instead of panicking, seeing a really good opportunity.

Whether it’s a lower risk investment, I can’t always agree with, even though I eat, sleep and breathe property.

I think the actual underlying asset is lower risk because you’ve got bricks and mortar in the ground, you’ve got a nice annuity flow. But at the end of the day a REIT or a property investment is a listed equity just like any other listed equity and is subject to the whims of the market.

So the actual price fluctuation is by no means less risky. However, the actual underlying business – the bricks and mortar, with good long-term contractual rentals that are coming through on a regular basis – I think that’s where you get a lower risk profile.

 

Office and retail sector trends

 

RYK VAN NIEKERK: Let’s talk about the bricks and mortar industry in South Africa: it seems like it is a bit saturated. New development opportunities are limited – do you agree with that?

EVAN JANKELOWITZ: You’ve got to be nodal specific, where in the regions and what kind of asset class you’re looking at, so we’ve got to speak across industrial, retail and office in their own regards.

…there has been a glut of supply in the Sandton region coming through in office, but I think you’re starting to see a lot of that coming off. So I don’t think you’re going to see as much supply coming through in the office space. Also you’ve seen a lot of those rental levels being rebased or actually being quite flat over the last five or so years. So that’s its own market.

When it comes to retail – and I think a lot of guys see Mall of Africa, Mams Mall, Mall of the South, all very new malls and there’s a lot of space coming through but – retail is its own market, in its own environment. So the very dominant centres that have a good catchment area, that have brand loyalty, they’ll still go on quite nicely. I think you’re starting to see some of the retailers actually being a lot more responsible and not following each and every single new development. I think that’s where you’ll start to see some of the guys under strain in the underperforming malls.

 

Attacq vs Pivotal

 

RYK VAN NIEKERK: In your top ten holding, at least, of your property fund, you don’t hold Attacq, for example, that is involved in the Mall of Africa. Why not?

EVAN JANKELOWITZ: We are considerably underweight Attacq for different reasons. We love the company; we think it’s a great business, but I think if you look at the relative pricing it’s trading at a much tighter discount to the NAV of comparative Pivotal. So we would rather be overweight Pivotal relative to Attacq. Also in this kind of environment we think that a lot of those cap rates are still going to push higher, as bond yields push higher, as the risk premiums come through we think that there should be some pressure on the NAV.

Over and above that we love Attacq because of their pipeline. What we do think now in a market like ours is these guys are very dependent on rolling out new developments – I think that they are going to struggle to replenish that pipeline. So at current prices we are underweight. Nothing to be negative about the company – it is a great company – but I think that there are probably better relative opportunities at the current price-to-NAV.

 

Fortress Fund B, Redefine

 

RYK VAN NIEKERK: What companies are you actually looking at, at the moment and have you changed position since the beginning of the year?

EVAN JANKELOWITZ: We’re an active manager, so we’re constantly looking for opportunities, both buying and selling. One of our top calls would be Fortress Fund B. The reason we like that is it’s very much geared to an offshore element and they’ve got holdings in a lot of listed companies, so the financial dynamics behind it will see significant earnings growth. It also has an A and a B unit.

The B unit is even more geared into, for example, rand weakness, that will give them a lot of impetus there. They are holding a lot of listed companies, where we are seeing decent core growth out of the likes of Nepi, Hammerson and Rockcastle – so you’re just getting geared growth on top of that.

We think at the current yields we are very happy to buy that at, let’s say, exponential growth and we think that there’s probably at least another three to four years of that growth left in there. Another one we are starting to buy up is Redefine. We like Redefine, we like the deal that they’ve just done…

RYK VAN NIEKERK: The one in Poland?

EVAN JANKELOWITZ: The one in Poland. I’ve just been to Poland with them to go and see the asset and the structure. Not only have they bought good assets, and no deal is without the risks, but what I love is twofold. Firstly they’ve bought a great platform; they have a great management team and a pipeline of assets coming through for them to pick and choose. So they haven’t just made a single acquisition – they’ve bought into a sustainable business, in my view.

Secondly, what it’s done to the Chairman, Marc Wainer, is it’s given him a new lease on life. A guy with that kind of talent … all of a sudden he’s walking around the likes of Warsaw and Kraków and not just showing you big assets; he’s going through every single detail on the lease. They are putting him to full use. So I think it’s ticked many boxes.

Firstly I like the deal: I like the pricing on it – and it is very heavily geared, no doubt about that – but I think they can mitigate the risk with the quality of management and the quality of asset they’re buying.

 

Thoughts on offshore investing

 

RYK VAN NIEKERK: Many South African property companies are investing offshore and a significant portion of the property sector is being represented by international assets. Is that a trend that will continue?

EVAN JANKELOWITZ: It’s a very difficult one to comment on broadly speaking because every company has done its own little thing. I’m a little concerned about it. I like the guys who did it proactively. They started, for example, the likes of a Nepi Redefine International – [in] the last seven or eight years they’ve been looking global. Growthpoint has made their investment into Orchard, which is now Growthpoint Australia, probably six or seven years ago. So they were proactive and they didn’t do it because they ran away from the rand or away from the SA environment; they went and they approached opportunity sets and they bought into nice platforms. They didn’t just buy a couple of assets: they bought a management structure, they bought the ability to grow that investment base.

There are guys who have been more reactive; so with the concerns around Nenegate and our current slow economic environment, people are going offshore now and you’ve got to question that. Do they have the capability and the platform to actually be successful offshore?

Offshore gives you a range of great opportunities, but you’ve also got to ask yourself are the guys sitting locally equipped to take full advantage of those opportunities?

RYK VAN NIEKERK: Marc Wainer said on a Moneyweb programme a few years ago that he’s really battling to deal with local authorities and local governments to get the necessary approvals for certain projects and there is definitely a political concern, but you need to have a balance between local opportunities and international, but it seems that international opportunities offer more value.

EVAN JANKELOWITZ: On that front I don’t know if they always offer more value on the actual asset base because remember, the offshore escalations are in line with offshore inflation, which if you look at Europe you are anywhere between 0%, 1% and 1.5%. Locally at least you’re getting escalations circa 6% to 8%. So the long-term growth, even though it’s in a different currency, is a lot more attractive locally.

What a lot of guys are seeing is that you can buy an asset at 6% globally. Now I’m just throwing a rough number around, but you can fund it at, call it, 3%. So you get that initial carry, that initial kicker to your earnings growth, which guys like. Not all of them… see past year one, where your growth is a lot weaker, so if you compare it to South African growth you’re going to be quite dilutive and they’re really backing themselves to get currency benefits on a weaker rand. As we’ve seen this year, it’s not only going to be a straight line for the rand to blow out.

I’m not calling the currency, I wouldn’t be that foolish, but you can’t just buy an investment because of an initial yield and banking on the currency to blow out. That’s not a good enough reason for you to invest in bricks and mortar.

 

Sesfikile Property Fund

 

RYK VAN NIEKERK: The Sesfikile Property Fund you launched in 2011.

EVAN JANKELOWITZ: We actually started Sesfikile in late 2010. Myself, Mohamed Kalla and Kundayi Munzara have all been seasoned…. I came from Stanlib, Kundayi came from Investec and Mohamed was a sale-side analyst at BJM, and we came together to shake off some of that corporate weight and do what we love, just focus on listed property. We launched our fund, we started investing in 2011 and we’ve consistently been a top quartile performer. We’ve got our process together, where we took the best of breed from our respective houses and it’s been a great ride but the truth of the matter is we love getting to work in the morning, and we do what we wanted to do, we’re not dictated to by corporate.

RYK VAN NIEKERK: Who are the main investors, institutional or retail?

EVAN JANKELOWITZ: As I said, I named the three individuals, we are the executive directors and we’ve got three other employees, two being administration staff, who run the back office, and one other being an analyst and fund manager who purely focuses on the US market – a guy by the name of Anil Ramjee, he came from Vunani Securities.

It’s a very small team; we don’t have a sales person, we don’t have the broad reach to really tap into the retail market and our way of doing that is through performance. So our assets under management are very much dominated by our institutional relationships and, hopefully as people become more comfortable with the Sesfikile brand and our continuous consistent performance, we’ll see more flows into the retail market. But our job is to invest, not to sell.

RYK VAN NIEKERK: You have one fund at the moment; are there any prospects to expand a bit?

EVAN JANKELOWITZ: …funnily enough we actually do run an offshore fund at the moment and that’s more of an institutional fund but we are launching a mirror image of it in what we’re going to call the Sesfikile BCI Global Property Fund, which at the end of May will be launched to the broader market.

Really what it is, is the opportunity set we see, instead of going through the South African listed property opportunities to go offshore, we’ve been looking at that offshore space for eight years now.

Kundayi actually came from the UK, where he was running an offshore property portfolio. I was instrumental in launching the Stanlib offshore portfolio. So we’ve got experience in that space and at the moment we see better opportunity going directly offshore, as opposed to using the South African opportunity set, which is somewhat limited, to give us that offshore exposure.

RYK VAN NIEKERK: Don’t you think the local collective investment market is a bit overtraded? There are more than 1 200 funds. If I look here at the number of property funds, there are two pages of funds. Is there room for another fund?

EVAN JANKELOWITZ: Well, obviously this is an offshore fund, so I think if you look at the offshore opportunities locally there are probably a handful, call it six or seven, which is still a decent amount. If you look at the local opportunity set you are right, every house, if you get to a certain scale you want to have the full product offering and you’ll have an equity house, which wants to branch into whether it be property or fixed income and, whether they have that desire or that drive in property or fixed income or whatever it may be, I can question that.

For us, we fit there because we are one of a select few that is just looking at property. So I think that we have our justified space there, being that we eat, sleep and breathe property. [For] some of the other guys it’s just a by-product of being an asset manager.

 

Property outlook

 

RYK VAN NIEKERK: Just lastly, property has been an above-average performer on the JSE and in some years it has been the best performer. What do you expect for the next year or so? Do you think the sector can sustain this momentum it has?

EVAN JANKELOWITZ: I think that property is not going to repeat the 20% average we’ve seen in the last five years – I think it would be irresponsible to tell the market that. I do think that in the next five years if you had to look at an average return per year you should be getting anywhere between 9% and 12%, I think it’s a fair number.

But it’s not going to be a straight line.

At the beginning of this year we were looking for 3%, we’ve already done 7%, albeit the bond market has corrected somewhat, so we’d probably see a better total return for the full year. But if you’re an investor and you’re there for the medium term at least I still think that there is opportunity set in property, but anyone who is going to sell you 20% year in and year out is lying to you. I’m saying to you that there is still value in the bricks and mortar in the long-term leases but it’s not going to be a smooth ride. So I think that if it’s for a balanced portfolio you definitely have to have exposure to local listed property and I think you should be looking at offshore as well – there’s a great opportunity set there too.

RYK VAN NIEKERK: Thank you, Evan. That was Evan Jankelowitz of Sesfikile Capital.

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One should invest for income in the short term and capital growth in the long term. On a 5-year view, property will probably generate great returns. In the short term, there are too many headwinds. Pedestrian economic growth, together with rising unemployment, does not bode well for listed property. Vacancy rates are likely to increase and it could be difficult to push for escalations on renewals. I wouldn’t put more than 10% of my money in domestic property stocks. They should fall by 20% before they become attractive again.

@Mashimane – whereas I perfectly share your sentiments about the headwinds facing property and the positive longer-term prospects, we should likely caution against specifics about allocation sizes which may not be equally applicable to all clients – lest that be deemed to be advice? It could after all be quite possible that, for more conservative investors, an even smaller allocation would be applicable, whereas of course the converse may be true for investors with both a larger appetite and ability to take risk?

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