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A shift back to core assets is on the horizon for investors in commercial office property.
Angus Klem, NSW head of industrial investments at Knight Frank, has predicted a shift from core-plus assets to core assets in the office market in months to come.
So far this year, core-plus product has been favoured by investors in Sydney offices. As Klem explained, core-plus refers to existing properties “in good condition but underutilised and have value-adding potential with the opportunity to reposition, including through refurbishment, development or even a reletting strategy”.
“Buyers of core-plus investments want assets of good quality but where they can effect change in value via active management – in simple terms, a good-looking property with a problem to fix that will heighten returns,” he stated.
Core-plus assets have proven popular in a climate of high lending costs, which have dissuaded investors from betting on passive assets.
Klem noted that “large institutional-grade buildings with blue-chip tenants and a long weighted average lease expiry (WALE)” – also known as core product – has been “less attractive, with higher debt levels making the returns lower with no additional punch from active management”.
But with interest rates projected to decline towards the end of this year or early 2025, Klem believes this trend may be set to shift.
“I predict a shift in focus back to the core product, with increased capital chasing this type of investment,” Klem said.
A recent upsurge in greenfield office developments by industrial corporates in 2024 is expected to provide much of the new core supply.
Core office property will also come from investors “who have purchased core-plus product over the past three to five years and added value,” Klem explained.
Despite a return to traditional office product, the upheaval of recent years will still leave its mark on the market.
Klem explained: “Traditionally, core facilities would have a 10-year lease to a major logistics company with a 3 per cent fixed review pattern. However, core capital will be more interested in those assets that, during that 10-year lease, allow for negotiation with a tenant at, say, years three, five and nine.”
“That will enable them to enhance the return that otherwise wouldn’t be there with a fixed review lease,” he concluded.
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