The listed Australian property sector (AREITs) has had a very strong 12 months, returning 19.3% (including dividends) vs. the ASX 200’s return of 11.5%[1]. This is quite a spectacular return for what is often considered a low volatility, slow moving asset class. So, what’s driven this strong return? Ultimately, falling bond yields. With lower growth and lower inflationary expectations globally you’ve seen bonds rally in price and as a result the yields they offer continue to decline.  In June, the Reserve Bank of Australia cut the official cash rate by 0.25% to a record low 1.25%, and as you can see below, the market has assigned a 75% probability of another 0.25% rate cut on the 2^nd of July. Post the writing of this blog, the RBA cut the OCR to 1% on the 2^nd of July.

What does this mean for REITs?

What you now have is a sector with a very low cost of equity and a very low cost of debt, particularly relative to its recent history. A very simple way of understanding the cost of equity, is to think about an equity raising as an example. Should a company wish to raise $100m, with a share price of $10, they’d need to issue 10m additional new shares. This would then mean the company’s earnings are spread across an additional 10m shares. Well if you had a share price of $20, you’d only have to add 5m new shares to achieve the same capital raise result, meaning the cost of raising the equity is lower.