Derivatives: Strong March performance fails to move 2011 contract pricing

The IPD all-property return for March was the strongest so far this year, yet pricing for 2011 contracts fell back to 5%

CBRE-GFI market commentary

Pricing for IPD derivatives contracts fell in the past month,  contradicting the strong all-property total returns figure for  March, writes Sam Whitham. March was 2011’s strongest month so far, with a 0.84% all- property total return and a 0.32% rise in capital value growth for the month. This indicates a 0.57% rise in capital values for the year to date. Office and retail continue to be the best-performing sectors, with 0.9% and 0.82% returns respectively. Industrial property reversed last month’s capital values fall to edge up 0.16%.  Office capital values rose 0.41% and retail values were 0.32% up.

Following the relatively strong March figure, it is surprising that front-end contract pricing fell in  recent weeks. As the combined total return for Q1 2011 equals 2.19%, the current 5% price for  2011 contracts could be seen as cheap. With roughly 5% income to be received in the remaining three quarters, the contract price is pointing to a 2% fall in capital values between now and the end of the year.

Contracts for 2011 were previously priced at 5.5%, while the 2012 contract price has also fallen, by 0.35% to 4%. At the back end of the curve, 2013, 2014 and 2015 annual contract pricing has fallen from 5.5% to 5.15%. Demand for sector-specific contracts has been good in the past month, particularly interest in London office contracts, which command a decent premium to all-property contracts. There has been greater selling interest from investors looking to hedge industrial exposure.

European 2010 Annual IPD figures were released, showing total returns for France and Germany. French all-property provided 10% 2010 total returns, made up of around 4% capital growth and 6% income return. Retail was the best-performing sector, with an 11% total return, while industrial property showed signs of weakness, with a 0.7% fall in capital values over 2010.

German all-property figures were more bearish, with around a 1% drop in capital values and a 4.2% total return. German offices performed worst, with capital values falling 1.9%. The residential sector was the only German sector where capital values rose, by 1%. Halifax House Price Index contracts have been trading more frequently in the past month, with the focus on  front-end contracts. One-year contracts, which traded at 92.25% in March,  have traded at 94% and 94.25% in the past week. Two-year contract pricing has risen from 91.5% at the start of the month, to 93% in the middle of the month.

Looking further ahead, five-year contracts most recently traded at around 100%, implying that derivatives predict it will be five years until house prices climb back to the December 2010 average price of £161,498. The non-seasonally adjusted figure, released earlier this month, showed a small monthly rise of 0.29% in residential property prices. The house price index rose 0.4% in Q1, indicating that the one-year contract is suggesting a 6% fall in the index for the remainder of 2011.