Originally published by UBS Asset Management
If you're thinking big, surely one week's worth of articles is not big enough! There were a few more macro issues that piqued our interest this week, including:
US and UK tax changes
One of the big private equity players spoke about the proposed tax changes in the US. While it's still early days, the reduction of the corporate tax rate could have a sting in the tail. There is talk that interest deductions on investments would not be allowed, given the rise of private equity firms that use very high leverage to maximises earnings but have large interest cost deductions which reduces their tax bill. However there's some respite, with manufacturing firms being allowed to expense capital investments. This is all to be worked out but it shapes up to be the most comprehensive changes to the Internal Revenue Code since 1986. There's loopholes already being worked out; for instance a manufacturing plant could make a $50m profit and pay no tax if it buys it's corporate HQ's for $50m. Then the next year they buy a regional HQ, etc. The UK is also talking about tax changes. What this means is that Australia once again appears a safe place to invest with a relatively simple tax regime, a relatively stable government and population growth.
US Retail – the big short
There was an interesting article this week about how B-grade malls in the US are now the "next big short" (Source: https://www.bloomberg.com/news/articles/2017-03-13/wall-street-has-found-its-next-big-short-in-u-s-credit-market). Malls in the US are categorised as A, B or C grade, with A grade malls typically having specialty sales of at least $500 per square foot, B-grade malls are roughly ~$300 to $450 per square foot and C grade below that. This has been talked about for many years and is one of the reasons why major landlords have been selling non-core assets for many years.
The background is that there's ~1100 malls in the US and although the overall population has grown, some cities have seen massive falls in population. Often these cities relied on one industry; eg. Pittsburgh was "The Steel City" with its population falling by ~60% since the peak in the 1950's. Detroit is another famous example, with the "Motor City" also impacted by families moving to other areas to avoid crime and falling values. It's little wonder in some of these cities that shopping centres would struggle and it's not a new event.
On top of that we've seen online retail grow significantly. These extreme examples have already resulted in centres closing. C-grade malls are the most exposed. The demise of the B-grade malls will depend on their location, remembering that these centres are often very well located with great access to freeways/highways. They're major land holdings in established markets, often with low coverage (centres might only cover 25% of the land with the rest carparks), and they could suit other uses such as multifamily (apartments).
AREIT investors are exposed to US malls via Westfield Corporation (AX:WFD), who have ~75% of their assets in the US, with average specialty sales of ~$725 per square foot (viewed as an A+ portfolio). As previously written they’ve been ahead of the curve and have actively sold assets that did not meet internal criteria, largely based on demographic metrics and industry data (eg. population growth, income growth). Westfield decided to focus on “flagship” centres many years ago, that is, large, high quality assets in the world’s great cities such as London, New York and Milan. Australia is not as exposed to this situation given our population growth metrics (much stronger growth), our tighter planning systems, and the fact that there's 3x as much retail space per person in the US versus Australia. Not only do they think big in the US, they also build big!
Source: Competitive Futures (https://www.competitivefutures.com/data-lab/), 2012.
Norges Bank
Norges Bank is the central bank of Norway, with an investment arm that manages the Government Pension Fund. It's a US$900bn fund that receives all of Norway’s oil and gas revenues. The aim of the Fund is to create sustainable income from investments for when the oil reserves run out.
To provide some context as to its size, the Fund invests in 77 countries, almost 9,000 companies, owns 1.3% of the world's listed firms, including 2.3% of European listed firms. In terms of real estate, they made their first US investment in 2013 and now have a 3% weighting (US$30bn) vs a target weight of up to 7% (US$63bn). The Norwegian government is proposing that the fund should invest up to 70% of its assets in equities, up from 60%. That's a US$90bn shift and would come at the expense of bonds. Good for real estate and equities.
Big yellow Tesla (NASDAQ:TSLA)
Joni Mitchell's famous song (Big Yellow Taxi - 1970) might need tweaking if autonomous car trips take hold. Merrill Lynch's UK equity strategists produced a report suggesting that ~95% of the worlds' 1.2bn cars are parked at any one time, and that if autonomous travel rises, that the reliance on cars will diminish. Dubai for instance, is buying 200 Tesla vehicles as it looks to make 25% of car trips autonomous by 2030. The end game is that with less cars, we'll need less car spots, garages and carparks. Merrill's estimate that in the US alone, this could equate to 5.7bn m2 of land. Car makers are obviously impacted, as are insurance firms given less cars on the road and less accidents, and there'll also be lower emissions. They unpaved paradise and pulled down a parking lot…
Robotics
Vicinity Centres (AX:VCX) is the first major landlord to deploy the Cleanfix robot in Australia, which won the Innovation Award at the ISSA/Interclean Expo 2016 in Amsterdam. Cleanfix is a hands-free system that incorporates 11 sensors, giving the robot a 360-degree view of its surroundings, and allowing it to operate and clean autonomously. Advanced navigation and sensors detect obstacles as well as people (Source: INCLEAN). Each tenant in a centre pays a pro-rata share of the common area cleaning costs so any savings are a win for the tenants and a win for the landlord. This follows Stockland and Commonwealth Bank's introduction of a humanoid robot called Chip, to explore the commercial applications of social robotics. The first step could be using this technology at receptions or information booths.