Quality comes first as commercial property returns diverge

PCA/MSCI data shows all property returning 7.8%, but the gap between the best and worst assets is widening in retail, industrial and office. Quality is driving results.

Australian commercial property delivered a total return of 7.8% with capital growth of 2.3%, according to PCA/MSCI data, but the gap between the best and worst performing assets is widening in every sector. Retail returned 9.9%, industrial 8.5% and office 6.3%. Investors are favouring assets with strong leases, ESG credentials and physical quality.

Commercial property investors are increasingly focused on asset quality over broad sector performance, as the gap between top and bottom performers widens across all property types.

Ray White Group Head of Research Vanessa Rader said the latest PCA/MSCI data shows all property delivering total returns of 7.8% and capital growth strengthening to 2.3%, but the headline figures mask significant differences.

“Across every sector, the gap between the best and worst performing assets continues to widen, and that variation is becoming the defining characteristic of this market,” Ms Rader said.

“Investors are increasingly willing to wait for assets that meet specific criteria around lease covenant, ESG credentials and physical quality, and the data is beginning to reflect those preferences in return outcomes.”

Retail: recovery is real, but results vary

Ms Rader said retail is the clearest example of a sector where broad recovery is real but individual performance varies significantly.

“Total returns reached 9.9 per cent nationally with capital growth of 3.8 per cent,” she said.

Sub-regional centres recorded 12.4% returns, regional centres 12.3%, neighbourhood centres 9.4%, and super and major regional centres 9.2%. Western Australia led all retail states at 10.5%, while New South Wales and Queensland both exceeded 10.2%.

“The assets attracting the strongest capital growth remain those with strong anchor tenants, low vacancy risk and demonstrated trade area dominance,” Ms Rader said.

Industrial: a more measured pace

According to Ms Rader, industrial property has found a more measured pace after years of exceptional performance.

“Total returns of 8.5 per cent with capital growth of 3.9 per cent remain compelling in absolute terms but no longer represent the exceptional outperformance of 2021 and 2022,” she said.

Queensland industrial led at 10.2%, New South Wales and Western Australia both recorded returns above 9.5%, while Victoria continued to trail at 5.8%.

“Rising vacancy in some industrial markets is beginning to introduce uncertainty, particularly for assets in secondary locations or with shorter lease profiles,” Ms Rader said.

For Victorian investors, including those looking at warehouses in Melbourne’s western suburbs, that gap matters. Location, building grade and lease length will separate the assets that hold their value from those that don’t.

Office: averages can mislead

Ms Rader said office presents the most pronounced example of how average figures can mislead.

“Total returns of 6.3 per cent nationally with capital growth of 0.7 per cent suggest a sector slowly stabilising, but that average obscures enormous variation,” she said.

Premium, well-located buildings with strong tenants are holding up far better than older, secondary stock, as our coverage of premium office property growth and the Australian office market recovery shows.

Where, what and how good

Looking ahead, Ms Rader said expectations surrounding further interest rate movements and ongoing economic uncertainty are likely to amplify existing variation.

“The headline recovery is real, but the data is increasingly telling investors that where they buy, what they buy, and the quality of what is in place at the time of acquisition will determine whether their individual experience of this market looks anything like the national average,” she said.

What quality means for investors and lenders

The criteria Ms Rader describes are the same ones lenders weigh when they assess a commercial property loan:

• Lease covenant. A financially strong tenant on a longer lease supports income and valuation.
• ESG credentials. Energy ratings and sustainability features increasingly affect tenant demand and, for some lenders, pricing.
• Physical quality. Condition, layout and location shape vacancy risk and future capital spending.
• Vacancy risk. Lenders look at how easily the property could be re-let if the tenant left.

Assets that tick these boxes tend to attract more lender appetite and better terms. For more on timing, read how the commercial property cycle creates opportunities for investors, and see lender sentiment toward commercial real estate.

A broker can compare commercial property loans across lenders and help you assess how a property’s lease and quality affect the finance available. Attain Loans is a mortgage and commercial finance broker in Melbourne’s west, and any loan is subject to each lender’s assessment.

This article is general information only and doesn’t take into account your objectives, financial situation or needs. Past returns are not a reliable indicator of future performance. Consider whether it’s appropriate for you and speak with a licensed professional before making a decision.

Further questions

This is general information only and is subject to change at any given time. Your complete financial situation will need to be assessed before acceptance of any proposal or product.