PORTFOLIO POINT: The Australian dollar may have dropped below parity, but there’s still value for local investors in the US property market.
A patch of parity
The Australian dollar is falling. Dipping below parity for the first time in 2012 last week, the dollar sat at 97.60c at noon today, and is set in the eyes of most observers for a lower trajectory in the short and medium term as commodity prices trend downward and Europe remains unstable. It raises a question for investors in Australia who are exposed to, or considering exposure to, US assets – are there still buying opportunities, and if so what are they?
Analysts at several major retail and investment banks downgraded their forecasts for the dollar this month, citing weakening demand for Australian debt. Goldman Sachs expects the Australian dollar to return to parity in coming months, before slipping to 98c by November and settling there – a 10c lowering of expectations. Credit Suisse strategist Jarrod Kerr forecasts 95c in the next three months, and 96c over the coming year. NAB is forecasting 98c by September, down from $1.02. Of course, dollar forecasts are not reliable; some strategists suggest the dollar could easily move higher.
Either way, Evans & Partners chief investment officer Mike Hawkins still describes the Australian dollar as “brutally overvalued”.
In an interview with Eureka Report earlier this month, high-profile former funds manager Peter Morgan said he believed the Australian dollar was set to fall in the near future, but emphasised its strength had also been underwritten by US weakness. Morgan said as the US economy recovered, investments there would become a good alternative play.
US weakness is now being offset by two factors: an improving economy (seen in most indicators of employment, home sales and confidence); and a weak eurozone. CMC Markets senior trader Tim Waterer says: “Buying of US dollars is again the order of the day'¦The potential implications of a Greek exit have traders steering clear of higher-risk assets, which has paved the way for the US dollar to appreciate against all comers.
“Traders remain inclined to distance themselves from currencies like the euro, sterling and Australian dollar, and ... the US dollar for many has been the obvious investment choice until the dust settles.”
So, while the dollar remains high, US investments remain attractive. As Hawkins says: “If you can take an overvalued asset, and buy undervalued assets, you’d be a fool not to do it.”
The view of US property
There are three main property classes in the US, as in Australia – retail, commercial and residential. While there are many indirect paths to the former two, which will be briefly canvassed further on, the most realistic and attractive direct option for individual Australian investors is in the residential class (i.e. buying a house or apartment).
Within this, there are also direct and indirect ways to go about investing. One of the chief benefits of buying into US residential property is, of course, that the market appears to still be bouncing along the bottom of a steep drop in the price cycle, following the sub-prime mortgage collapse which began in 2006. This is particularly relevant in comparison to other markets local investors may be looking at, such as Australia or Britain.
In fact, whether you look at residential property prices from 2001 in terms of an index, in real terms, or as a price against average income, the US still comes out starkly cheaper than the UK or Australia since 2007. Evans & Partners' Hawkins says there has been a 68% improvement in affordability since 2005, according to the company’s data.
Furthermore, there are signs that a recovery is beginning. Data this week from the Federal Housing Finance Association found new home sales rose by 3.3% in April, and prices rose by 0.6% in the March quarter. Prices are up 2.7% on the same time last year, the strongest gain since November 2006. Also this week, the National Association of Realtors said sales of existing homes rose 3.4% in April, the highest rise since May 2010. The median price for existing homes – $177,400 – lifted 10.1% year-on-year.
The Australian dollar also remains high when viewed historically. Forecasts of between 95c and 98c are still 25-30% above where the dollar sat just a few years ago; it traded between 70c and 80c for most of the three years leading up to 2007, when house prices in the US were peaking as well. “Who knows when the currency falls back to fair value?,” says Hawkins.
Alan Dixon, the managing director of the US Masters Residential Property Fund – a listed fund set up to allow Australian investors exposure to the US through houses and units in Hudson County, New Jersey – says now is still a good time to invest.
“With the Aussie dollar being under pressure, investors are saying 'if I want to do this, I should do it now',” Dixon says.
“From just the US property side alone, it's a great time. And it's always risky picking currency, but there seems to be more downside risk than upside risk on the Australia dollar at the moment.”
Investors looking for direct exposure to US residential property should be aware of the depth of research and work it requires.
In terms of legal considerations, the US is inviting for Australians, as it is legal for Australians to buy property there, and the legislative framework is similar.
However, Vanessa de Groot, who has written in detail on how to buy US property for Australian Property Investor and Eureka Report, notes that one of the first considerations after setting up an individual tax identification number (ITIN) should be to set up a limited liability company (LLC).
“In the US you’re able to essentially buy in a company name, rather than in your personal name, which protects you when it comes to liability issues, which is important because the US is so litigious,” de Groot writes.
Hawkins says there is “huge regional divergence in the states”, which makes detailed location-based research essential for investors.
Another issue to consider is banking, and the actual manner of getting money from Australia to the US, or borrowing there.
Investors may need to set up a US bank account, or discuss with their bank the option of a US-based account. If the purchase is to be financed through borrowing, this also presents hurdles, as US banks generally won't lend to foreigners and Australian banks may be unwilling to lend for US property purchases, according to de Groot.
The banking side is also an important consideration for money going the other way – collecting income from rent.
While US rents also fell with property prices in many areas, Alan Dixon says he is seeing signs of improvement here too.
There are, on the other hand, a range of options for investing in US property in a more indirect way.
Hawkins says that Evans & Partners is recommending a US home building ETF.
“The construction recovery in the US has started, and that will run for three to five years,” Hawkins says. “There’s plenty of life in that trade.”
The iShares Dow Jones US Home Construction ETF, traded on the NYSE Arca, has gained 47.69% in the past six months.
Dixon's US Masters Residential Property Fund is another indirect way to buy in, and is listed on the National Stock Exchange of Australia. It has seen modest price improvement over the past few months, from $1.55 a share in February to $1.62 this month. While median house prices in the Hudson County district where it invests have been trending down, Dixon says he is tripling his personal investment in the fund, and has likened it in the past to buying a quality stock with a low P/E.
Dixon says his experience also supports the view of a US construction recovery.
“There's some confidence back in the market,” he says. “In free-standing homes there's still no new construction, but what you are seeing is new construction in renovation.
In light of this, investors could also consider Australian listed companies that have exposure to the US construction industry, such as James Hardie (JHX) or Boral (BLD).
Then there is the option of US-listed commercial or retail property. This does not have the advantage of such significant price contraction as the residential market has demonstrated since 2006, but it still stands to benefit from a currency shift.
BT Investment Management chief operating officer Phil Stockwell says from a superannuation perspective, the average self-managed super fund has no exposure to international property, whereas the average balanced fund has about 4%.
He suggests the use of ETFs or investment in managed funds to buy into US or other international retail and residential listed property.
This differs from listed Australian REITs with exposure to US retail property, such as Westfield (WDC), which often offset any potential currency impact on net tangible asset value – positive or negative – through the use of overseas debt.
What emerges from a consideration of the currency and US property markets is a sense of change.
In US property, this comes with an improving economy and investor sentiment, coupled with signs of growth in construction work and prices.
For the currency, this comes in the form of reduced commodity price expectations, accompanying downgraded forecasts for the 'commodity currencies' such as the Australian dollar, and improvement in the US dollar due to its use as a safe haven from eurozone pressures and a China slowdown. But analysts and professional investors remain bullish as the outlook from either of these angles has plenty of remaining positive upside for Australian investors in US property.
It seems the window of opportunity for investment based on these factors has not closed yet.