Equity Strategy
A-REITs – Are Higher Borrowing Costs Priced into the Sector?
Wed 13th April, 2022

With the prospect of an RBA interest rate tightening cycle beginning as soon as June this year, we look at how the A-REIT sector performs when interest rates are rising.

Since 2000, there have only been 3 RBA rate tightening cycles (99-00, 01-08, 09-10). Across all 3 periods, Australian Real Estate valuations fell as the P/E ratio of the sector contracted on average by -120bps.

In all 3 tightening periods, the P/E ratio contracted most during the pre-tightening period. This makes sense as the market moves ahead in anticipation of higher short-term rates.

In the current cycle, a similar pattern has emerged. Since the A-REIT index peaked in December 2021, the sector's P/E ratio has fallen by almost 200bps, whilst A-REITs have underperformed the broader market by ~14%. All of this occurred before the RBA hiked rates. 

If we extend the analysis across more periods, a similar pattern emerges when the Australian 10-year bond rises. The REIT sector tends to underperform the broader equity market as bond yields rise. Once 10-year bond yields have stopped rising, the A-REITs sector P/E typically begins to expand.

We remain market weight in the A-REIT sector while the interest rate backdrop is currently creating headwinds for the sector. We suspect most of the relative underperformance has now passed.

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Written by

John Lockton , Australian Equities

John is a leading investment strategist with 20 years experience.

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