ING gives market jitters by looking at land of rising risk

ING gives market jitters by looking at land of rising risk


by Richard Inder

The odds are stacked against the property trust doing any better in Japan than the locals

ING Property Trust’s decision to invest in Japan defies the first principle of property investing: location, location, location.

Not the simple formulation of the adage that an investor should seek the worst house on the best street or retail space in areas of the highest pedestrian traffic, but the view that investors have to be in the right place at the right time to get the best deals.

Property prices in New Zealand have gone through the roof.

This was starkly illustrated at the end of last month, when rival Kiwi Income Property Trust lifted the value of its properties by 13% or $210 million. Kiwi said 80% of the increase reflected the rise in the wider market, while only 20% was justified by rental growth.

The boom follows several years of robust economic growth and looser government purse strings but is also partly driven by a surge in cross-border capital flows.

Excess savings in Japan (as well as China and Southeast Asia) are finding their way to New Zealand, attracted by the combination of high interest rates and our relatively stable political and economic climate.

ING’s head, Andy Evans, presented a reasoned argument to justify the trust’s move to sink $200 million into the Japanese property market “over time.”

He said the trust was finding it “increasingly challenging” to acquire properties or portfolios at prices attractive to shareholders. The alternative of sitting on its hands was also unattractive. Without new investments, ING’s units would decline in value to reflect the yield. In short, its units would eventually resemble bonds.

The Japanese market, in a fundamental sense, was looking attractive. After a period of stagnation the economy was growing. The gap between Japanese interest rates (funding costs) and property yields (returns) was one of the most attractive in the world.

Office space was apparently in short supply. In the centre of Tokyo, just under 3% of the office space was available for rent, while rental prices were growing. Industrial and retail markets were also beginning to benefit from Japan’s improving economy.

Others had shown that investing in Japan could work. Evans cited research that showed Australian listed property vehicles had rapidly increased their exposure offshore and that Japan and Europe were the primary investment destinations. New Zealand’s listed property investment scene is also dominated by Australians (although it is largely managed by Kiwis).

The prize, in theory at least, is attractive. A diversified portfolio of assets could break the link between the fortunes of New Zealand’s listed property sector and the local property cycle. In short, it could offer more stable and predictable returns.

The risks of an appreciation of the New Zealand dollar and unfavourable interest rate movements would be mitigated by hedging. ING would use the same international financing mechanisms that New Zealand banks have used to channel yen and euro savings into their ballooning residential mortgage books – currency and interest rate swaps.

Finally, local knowledge would be provided by ING’s affiliate in Tokyo.

It is in this last point that Evans attempted to address the greatest risks of the move. Investors have a market advantage if they have superior information, make an original analysis or have a unique understanding of market behaviour. In Japanese property markets, these characteristics are not the exclusive preserve of locals, but the odds are stacked in their favour.

Certainly ING’s Tokyo office has a claim on these attributes, but it is not clear that the board of the trust’s manager, which will have to do due diligence on any opportunity put before them, can do the same.

With the exception of ING Investment Management deputy chief executive David McClatchy, the manager’s board are New Zealanders selected for their ability under and understanding of New Zealand conditions.

Chairman Mike Smith spent 30 years at brewer Lion Nathan; Peter Brook was a local investment banker; Philip Burdon was a politician and an entrepreneur; and Trevor Scott is a Dunedin-based accountant. Also, although Evans has had overseas experience, he is largely a New Zealand property administrator.

It is worth asking what ING Property Trust offers that could not be achieved by investors choosing a well-regarded Japanese property investor. Retail investors may find the process of selecting a Japanese manager difficult, but institutional investors have the resources to make a good choice.

Meanwhile, there is a slightly disturbing irony in ING seeking to invest in a market that is one of the key sources of the capital that has fuelled our own property boom.

Defy is the operative word, as ING’s move could still deliver. Its Japanese office could prove its worth and New Zealand management could take their advice.

But the odds are stacked against the trust and this is why, in the days after revealing its move, ING saw units fall as investors priced in the extra risk.

n Richard Inder is an investment advisor at Macquarie Private Wealth. His clients may hold shares in ING.