What's the outlook for ASX real estate shares?

Is property a great place to be investing right now?

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The ASX real estate share sector has seen plenty of pain since the start of 2022. But at today's much lower valuations, is the outlook improving and are they undervalued opportunities?

There are numerous businesses on the ASX from the property industry, including Dexus (ASX: DXS), Centuria Capital Group (ASX: CNI), Mirvac Group (ASX: MGR), Stockland Corporation Ltd (ASX: SGP), Cedar Woods Properties Limited (ASX: CWP), Abacus Storage King (ASX: ASK), Goodman Group (ASX: GMG), Centuria Industrial REIT (ASX: CIP) Scentre Group (ASX: SCG), Vicinity Centres (ASX: VCX) and GPT Group (ASX: GPT).

There are a variety of different sectors represented in the above names including home builders, office buildings, shopping centres, industrial properties, storage units and more.

The Dexus share price is down over 30% since April 2022 and the Centuria Capital Group share price is down over 50% from the start of 2022.

Outlook for ASX real estate shares

MA Financial Group Ltd (ASX: MAF) vice chair Andrew Pridham doesn't think that interest rates are going to change for another year and a half because a reduction could make it harder to counteract imported inflation due to how it would make the Australian dollar "really, really weak" in his view.

Pridham believes that there will be opportunities for investors in the office sector, according to reporting by the Australian Financial Review of the recent AFR property summit:

These are the times you make your money. You don't make it when the markets are flying. You make it in these times. The key is having the capital at the right time.

Another theme from the property summit was that shopping centres could weather a storm because the buildings are full of tenants, there is a limited supply of new shopping centres and some buildings are being adjusted to include non-retail tenants. The AFR quoted Blackstone Australia real estate boss Chris Tynan:

… [retail is] performing actually really, really well. We've seen the pain, we've seen retail rents reset to a level where occupancy costs make sense now, and frankly, all the centres are full and none are being built.

Dexus CEO Darren Steinberg suggested that valuations could remain "under pressure" for another 12 months, with high-quality assets falling in value by up to 5% and second-tier assets possibly falling by between 10% to 20%. Steinberg said:

It all comes back to the cash flow that can be generated off the assets, and the good operators are really going to separate from just the capital allocators.

There could be some distress, though we haven't had a lot of that in Australia over the last sort of 20 years.

Another theme from the property summit was that population growth could help support earnings and valuation.

My take on the property sector

Commercial property valuations definitely face an uncertain time over the next few months. For example, in June 2023 Dexus announced it had sold an office building, 44 Market Street in Sydney at a 17.2% discount to the December 2022 valuation.

However, I think that the valuations of some ASX real estate shares now more than ever reflect the potential pain. If their occupancy remains high and rental profit keeps rolling in, enabling strong distributions, then the current valuations of some beaten-down assets could prove to be opportunities.

I fully expect that property valuations on the balance sheet will keep falling over the next 12 months, but I think (for example) the Centuria Office REIT (ASX: COF) may have been oversold, particularly if it's going to keep paying an annual distribution of around 10% as projected on Commsec for the next two financial years.

Areas of the commercial rental sector that keep seeing rental growth because of low supply and/or helpful inflation could see solid returns, in my opinion. I'm thinking about areas like farmland REIT Rural Funds Group (ASX: RFF) and industrial property play Centuria Industrial REIT could do well in the next five years.

Motley Fool contributor Tristan Harrison has positions in Rural Funds Group. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has positions in and has recommended Goodman Group. The Motley Fool Australia has positions in and has recommended Rural Funds Group. The Motley Fool Australia has recommended Goodman Group and Ma Financial Group. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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