Investment market update - October 2013

October 2013

Chief Investment Officer John Pearce provides an update for October.

To print this update, download a pdf version.

September and October have historically been weak months for sharemarkets. With the knowledge of this history, and expectations the US Federal Reserve would reduce bond purchases, investors approached September with a degree of trepidation. As it turned out, pessimistic forecasts proved to be misplaced and markets in fact continued to rally. 

In this update, we have a look at the key market developments over the past month. We also focus on one of the main highlights of the month for UniSuper—taking full control of Perth’s premier shopping centre, Karrinyup.  

Performance of key markets

Returns are for periods to 30 September 2013. Past performance is not an indication of future performance.
* Returns relate to our Accumulation (not Pension) investment options and are published after fund taxes and investment expenses, other than account-based fees. 

See performance information on all options

Fed offers market reprieve as political uncertainty materialises 

Though renewed uncertainties have emerged in recent days, September was generally marked by an improvement in market sentiment. Economic data continued to confirm the Chinese economic cycle has stabilised and that the broader global industrial cycle is picking up. This environment was supportive of risk assets, including the Australian dollar and global equity markets, with the latter showing clear outperformance of cyclical sectors over defensives. Emerging market assets that have recently experienced a particularly challenging few months have also showed signs of stabilising and in some cases a retracement of recent losses.

The members of the US Federal Reserve surprised markets by continuing their quantitative easing program at its current rate, rather than to ‘taper’ the rate of purchases (as was widely expected). The confirmation that the Fed would continue to support activity and asset prices initially supported the positive trend in equity markets. It also helped to push US treasuries higher after the sharp sell-off of recent months.

However the initial burst of euphoria gave way to the reality of the US political cycle as Congress drew ever closer to the 30 September deadline to approve the continued operation of the US Government. The eventual failure to meet the deadline culminated in the first US Government shutdown in 17 years. This heightened the sensitivity around the deadline to approve an increase in the US debt ceiling, which is expected to become a binding constraint in late October. Though it still represents an unlikely outcome, a failure by Congress to negotiate an increase in the debt ceiling could see the US Government in default a few weeks later. This would be unprecedented and would most likely have an extremely detrimental impact on markets. 

Uncertainty over the monetary policy outlook is also increasing in Australia. So far, the RBA’s extreme dose of policy accommodation has failed to ignite the interest rate-sensitive sectors of the economy or generate a sustained meaningful fall in the Australian Dollar. Instead it has only been reflected in increased investor activity pushing up established house prices. Should this continue, it would represent a potential source of economic instability and might limit the RBA’s willingness to deliver further easing to bolster activity.

At UniSuper we are far more confident in our ability to pick quality assets, than our ability to pick short-term gyrations in the sharemarkets. So while the market focused on the actions of central bankers and politicians, our primary focus over the past month has been the acquisition of Perth’s premier shopping centre: Karrinyup. 

UniSuper secures 100% control of Karrinyup Shopping Centre  

The Australian 19 September 2013

Karrinyup Shopping Centre, located 12km from Perth’s CBD, is one of Australia’s highest quality shopping centres.

On 13 September 2013, we bought the 33% stake in the asset, that we didn’t already own, in a protracted contest with Westfield to acquire the prized holding. While the transaction may have come as a surprise to the market, it would have come as no surprise to our members who understand our desire to build a portfolio of the highest quality assets. Our September investment update alluded to the acquisition of shares in various ‘fortress’ assets such as airports and toll roads. Karrinyup represents the property equivalent of such an asset.

The (tortuous) path to 100% ownership 

Before acquiring the remaining 33% stake, the ownership of Karrinyup was 67% UniSuper and 33% Westfield. While Westfield has proven to be an outstanding developer and manager of shopping centres over many years, in this particular situation we were not confident our interests were aligned, particularly with respect to realising the full development potential of the centre. Given that development of the centre required 75% shareholder approval (and Westfield had potentially competing objectives), the situation for UniSuper was clear: either we obtained 100% control or we sold our share completely.    

Given Westfield was not a likely seller, we needed to wind up the ownership structure and this added further complications. Westfield challenged our right to wind up the structure, so it was off to the courts to decide. The result was:

1. Supreme Court (Trial Judge)
   Verdict 1-0 in Westfield’s favour.
   UniSuper appeals.
2. Supreme Court (Court of Appeal)
   Verdict 3-0 in UniSuper’s favour.
   Westfield appeals.
3. High Court
   Verdict 5-0 in UniSuper’s favour, with Westfield ordered to pay UniSuper’s costs.

After a unanimous verdict in Canberra in the High Court, UniSuper was able to get Westfield to the bargaining table. We were able to orchestrate a ‘shoot-out’ between UniSuper and Westfield in which the highest bidder would secure 100% control of the asset. The process involved bidding for the total asset, with the winning party only paying for the share it did not already own. 

Accordingly, our 67% ownership effectively gave us a bidding advantage so it was no surprise to see us win the contest. While the press focused on the fact that UniSuper bid a premium of 19% over book value, the reality (taking into account our 67% existing ownership) is that we obtained 100% control of one of Australia’s highest quality shopping centres for a 6% premium to book value. Given that the current book value does not fully capture the significant development potential, we are obviously delighted.  

Karrinyup’s ‘fortress’ characteristics

Well known to our Perth members, Karrinyup Shopping Centre has delivered more than 15% per annum for the 10 years to December 2012.

Karrinyup enjoys a strategic location in one of the most affluent regions of Perth and dominates its market, which is growing strongly as a result of income and population growth. The centre is easily accessed via main arterial roads, and is well patronised, with around 8.5 million customer visits per year. 

Karrinyup is expected to continue to benefit from its exposure to Western Australia (WA), which has been regarded as the economic growth engine of Australia through its mining and resources exposure. Despite a moderating outlook, WA’s long term prospects remain positive and compares favourably with the rest of Australia. WA currently enjoys low unemployment, high population growth, a strong construction and industrial sector, high levels of household consumption and extremely large infrastructure projects underway or in the pipeline. WA is also ‘under-shopped’, with around 25% less retail mall space per person than the national average.

High quality retail assets have historically proven to be a good hedge against inflation. Investment returns are ultimately a function of rental income received from tenants, and well positioned centres have been able to negotiate rental increases in excess of the inflation rate.

While the threat of online shopping cannot be ignored, UniSuper’s thesis is that high quality shopping centres will continue to benefit from the ‘multi-channel’ approach adopted by the top retailing brands.

Popular international retailers such as Zara, Topshop, Apple, H&M and Uniqlo are now opening stores in Australia, initially with a focus on the Eastern states. Many of these retailers are already enjoying great success, and are expected to expand into the strongly growing WA market in the coming years. Given Karrinyup’s strong trading performance and development potential, it is likely to be a favoured destination for some of these retailers.

UniSuper’s interests in other fortress shopping centres

While Karrinyup holds a unique position in UniSuper by virtue of our 100% ownership and control, we also have substantial holdings in shopping centres around the country that exhibit the same fortress-like qualities as Karrinyup. 

The holdings are typically via the listed property trusts (such as Westfield Retail, Colonial First State Retail, and GPT) or wholesale funds. If we look through these vehicles, our effective ownership is listed in the table below.

Past performance is not an indicator of future performance. This information is of a general nature only and may include general advice. It has been prepared without taking into account your individual objectives, financial situation or needs. UniSuper’s investment strategies will not necessarily be appropriate for other investors. Before making any decision in relation to your UniSuper membership, you should consider your personal circumstances, the relevant product disclosure statement for your membership category and whether to consult a licensed financial adviser. This information is current as at 7 October 2013.

This is not intended to be an endorsement of any of the listed securities named above for inclusion in personal portfolios. The above material reflects UniSuper’s view at a particular point in time having regard to factors specific to UniSuper and its overall investment objectives and strategies.