Office space demand remains muted

Erwin Rode, CEO of Rode & Associates.

For now, no improvement in the demand for office space is detectable; this is according to the latest issue of Rode's Report on the State of the South African Property Market, sponsored by FNB.

Erwin Rode, property economist and publisher of the report said: "Uncertain economic conditions are obviously affecting business confidence and must be making firms think twice about expanding their premises or hiring new staff. The result will no doubt be a continued lacklustre demand for office space to rent and thus, for now, moderate growth in rentals remains the most likely outcome." 

In fact, after starting the year off with vigour, the growth in office rentals waned in the second quarter. On a national basis, office rentals mustered growth of 5% year on year. This comes after having recorded robust growth of 9% in the previous reporting quarter. 

As for industrial property, in the second quarter, strong rental growth of 8% was observed in the Cape Peninsula, but this was the exception according to Rode. More pedestrian growth rates were notched up in Durban (+3%), the Central Witwatersrand (+2%) and Port Elizabeth (+1%). 

"Wariness in the manufacturing and retail sectors - the support pillars of industrial property - now raises an amber flag on demand prospects and, consequently, market rentals." 

He said that lacklustre growth was also evident in the buy-to-let residential sphere. On a national basis, in the second quarter, house rentals mustered yearly growth of only 1%, while rentals of townhouses remained at roughly the same levels they were at a year ago. Flat rentals performed best, with growth of only 3%. 

Some pleasant news for investors in the buy-to-let market was that, after peaking at the end of 2009, flat vacancies had since been edging southwards. Having said this, landlords might still feel hard done by, owing to the adverse impact of sharp rises in property taxes. 

Hikes in electricity tariffs, although normally not a direct cash outflow for residential landlords, were putting pressure on their tenants' household cash flows, thereby indirectly affecting tenants' ability to afford rental increases. Nevertheless, for now, landlords can comfort themselves in the knowledge that interest rates on their mortgage bonds are at record lows, and that there is little upward pressure on rates for the time being. 

Rode predicted that prospects for capital appreciation in the housing market will remain feeble, in line with the still-overvalued house market and weakness in the residential-mortgage market. 

"After peaking in the first half of 2010, the yearly growth in the value of new mortgage loans has turned sharply south, and the value of new loans granted in June was actually lower than a year ago. Naturally, contractions in mortgage loans granted act as a restraining factor on price movements." 

John Loos, FNB Property Sector Strategist said: "For a while we have seen the signs of global and domestic economic slowdown. SA's real gross domestic product (GDP) growth slowed significantly in the second quarter from a previous 4.5% quarter-on-quarter annualised rate to 1.3%. Looking forward in the near term, weak readings in the Reserve Bank Leading Business Cycle Indicator suggest further weakness in economic growth. In addition, no further interest rate stimulus has been forthcoming in 2011.

"The recent global and local economic weakness has the ability to exert pressure on commercial property values in two ways. Firstly, a slow economy could lead to upward pressure on vacancy rates. Secondly, investor flights to 'safe haven' investments has resulted in a degree of capital outflows, resulting in recent rand weakness and rising domestic long-bond yields. 

"The possible combination of higher vacancy rates and higher bond yields can exert upward pressure on, especially, the income yields of listed property, and to a lesser degree on the capitalisation rates of directly-held property. These developments thus have the potential to undermine commercial property values," he concluded.