Crowded market for Japan property trusts

Crowded market for Japan property trusts
By David Turner,Tacoma
FT.com - Published: August 3 2005 15:51 Last updated: August 3 2005 15:51

The Shibuya district of central Tokyo boasts one of the world’s busiest pedestrian crossings.
Shopaholics thronging the large square facing Shibuya station are confronted with a sight to fulfil even their most extreme fantasies: a cluster of huge buildings packed with stores selling everything under the sun. Every so often the image of a dinosaur crosses a huge television screen. It seems an appropriate mascot for the district.
The crowds of consumers who flock to Shibuya testify to the value of its real estate market.
The busy Q-Front building lying just off the square may also provide some hope for the future of Japan’s Y2,400bn ($21bn) market in listed real estate investment trusts (J-Reits), whose average` dividend yields have shrunk from a peak of more than 6 per cent in 2002 to about 3.5 per cent.
Much of the rental income from Q-Front’s retail outlets goes to Tokyu Reit. The trust, listed in September 2003, draws income from the high rents for office and retail property close to the Tokyu railway line, running from Shibuya to Yokohama, Tokyo’s sister city.
The traditional assets for J-Reits were upmarket Tokyo office buildings. But faced with the sight of too much money chasing too few properties - which provoked moderate asset price inflation in central Tokyo for the first time in many years - J-Reits expanded into the area’s desirable residential property sector. Now, even this market has become crowded.
“Opportunities for buying competitive properties at a bargain rate have decreased,” says one official at Pacific Investment Advisors, which runs the Nippon Residential Investment Corporation J-Reit.
J-Reits have been looking further afield in their bid to keep yields up. Retail properties provide one possible solution. The Japan Logistics Fund, listed in May, struck a first by specialising in industrial property. The Fukuoka Reit, listed in June, invests in properties on Kyushu, the southernmost of Japan’s four main islands.
Tomoyoshi Omuro, a J-Reit specialist at Standard & Poor’s, says: “Whenever there is a sales transaction [in upmarket office and residential properties in central Tokyo] a lot of managers rush to the bidding party.”
In their hunt for good properties, listed J-Reits are facing competition from privately placed institutional property funds, which boast Y2,000bn of assets under management. “I think differentiation will be key to success in the future,” Mr Omuro says.
When the J-Reit market began in 2001, the first investors were foreign institutions that had observed the success of the US and Australian Reit markets first hand, according to one expert at Nomura, Japan’s biggest securities group.
He says foreigners still account for about 10 per cent of investment in J-Reits. Growing demand, he adds, has come from domestic institutional investors after a dip in the Japanese government 10-year bond yield to below 1 per cent in 2003.
Regional banks and company pension funds have also shown strong interest in J-Reits, according to Hiroshi Torii of the Daiwa Institute of Research. The launch in 2003 of the first funds of funds aimed at J-Reits and overseas Reits brought in many retail investors.
J-Reit dividend yields have fallen partly because investor interest has sent the average premium to net asset value from zero four years ago to about 40 per cent. Another factor weighing on dividends is supply of Reit-friendly properties. J-Reit managers are reluctant to invest in buildings that lack a track record of cashflow, which excludes many properties.
Some analysts are sceptical about J-Reit investments outside Tokyo. Yoji Otani, property analyst at Credit Suisse First Boston, describes this market as “high risk, high return”, with lower purchase prices but lower rents and a greater risk of vacancies.
However, such worries have failed to stem the continuing growth in the J-Reit market. In July, four funds were listed on the stock exchanges, lifting the total to 22. Mr Omuro of S&P expects five or six more funds to list by the end of the year.
While there may be cause for concern there is no cause for panic, says S&P, whose ratings for J-Reits have been stable. The current average yield of about 3.5 per cent is still more than 2 percentage points above the benchmark 10-year Japanese government bond yield. J-Reits enjoy a similar spread above average dividend yields for conventional stocks and look better compared with the virtually zero per cent interest offered by bank savings deposits.
However interest rates and bond yields will not remain low forever. There is already growing speculation about a possible end to the Bank of Japan’s zero interest rate policy as the economy continues to improve. Experts say investors are always likely to demand a return on J-Reits at least 2 percentage points above the risk free rate of return, and if necessary J-Reit prices would have to fall accordingly.