Morning Note: Market news and an update from German property company Vonovia.

Market News

Donald Trump has declared victory in the presidential election, while the Republican Party also flipped Senate seats in Ohio and West Virginia to take control of the chamber.

Trump trades swept across global markets. The dollar rose to its highest since July and Bitcoin hit a record ($73k). The Mexican peso slid. Treasury yields jumped – the 10-year is 4.40%. Brent ($74.13 a barrel) and gold ($2,729 an ounce) dropped.

US stock futures gained – S&P 500 (+2.1%); Nasdaq (+1.8%) – while Asian shares were mixed. The FTSE 100 is currently trading 1.4% higher at 8,285, driven by the large cap dollar earners.

Gilt yields remain elevated – the 10-year is 4.49% – with the increase in borrowing costs since last week’s budget wiping out all of Rachel Reeves’ fiscal headroom, raising the prospect of further tax rises or spending cuts. Sterling trades at $1.2917 and €1.1988.

Apple is said to face the first-ever fine for its App Store practices under the EU’s new digital antitrust rules. The fine may be accompanied by periodic penalty payments, levied on the company until it complies.

Source: Bloomberg

Property News

Vonovia has today released its Q3 results, highlighting positive rental trends and property values that appear to be bottoming out. Following recent transactions, the group has exceeded its €3bn disposal target and believes pro-active balance sheet stabilisation is no longer required. As a result, disposal pricing decisions will no longer be driven by leverage considerations but profitability. Full-year growth for rent and earnings is still expected to be at the upper end of the guidance range, while new guidance and targets have been set for next year and for 2028. Ahead of this afternoon’s analysts’ call, the shares are up 2% in early trading, leaving them on a 32% discount to NAV.

Vonovia is Europe’s largest residential real estate company. The group owns around 542k units worth around €82.6bn across Germany (c. 84%), Sweden, and Austria. The group also manages a further 73k units owned by others. Despite its size, in Germany Vonovia still only owns 2% of a highly fragmented market. The focus is on multi-family housing for low- and medium- income tenants in metropolitan areas. The aim is to benefit from residential megatrends such as urbanisation, energy efficiency, and demographic change.

During the nine months to 30 September 2024, adjusted earnings before tax (EBT) – the group’s preferred profit metric – fell by 4% to €1,364m. Operating free cash flow (OFCF) – the key figure for internal financing and thus liquidity management – rose by 38.6% to €1,380m.

The most recent market data for the German residential sector confirms the bottoming-out of price indices, while real estate transaction volumes picked up in the third quarter.

The core rental segment grew revenue by 2.2% to €2,482, despite disposals. The vacancy rate remains very low (2.1%) and highlights the ongoing mismatch between supply and demand. The trend towards higher rents continued, while the collection rate was 99%. This includes all ancillary and energy costs, which management see as a strong sign of affordability. The organic increase in rent was 3.8%, with new construction accounting for 0.3%. Like-for-like rental growth of 3.5% was driven by market-related factors (+2.2%) and investment in existing buildings (+1.3%). The monthly rent per square metre increased by 3.5% to €7.94. Going forward, under the regulatory system, rent growth is expected to follow inflation higher over time albeit with a lag. For the 2024 full-year, the group still expects organic rental growth at the upper end of the 3.8%-4.1% range. In 2025, around 4% growth is expected.

Revenue from other business streams came from the development (-29.0%), recurring sales (+28.3%), and value-add (+11.6%). Overall, the company is seeing the first signs of increasing traction in non-rental segments and now sees multiple organic growth initiatives to develop non-rental activities. In 2028, the group estimates a contribution from non-rental segments of €0.5bn-€0.7bn, equalling 20%-25% of adjusted EBITDA, versus 7% in 2023.

The Deutsche Wohnen integration is completed, and synergies were realised as planned. Over the long term, Vonovia has enjoyed increased benefits of increased scale, with its adjusted EBITDA margin up 20 percentage points and cost per unit down by two thirds over the last 10 years.

Vonovia continued to sell properties of inferior quality or in non-core regions. The volume of recurring sales was 28% higher (at 1,516), although the fair value step-up, at 25.3%, was below last year. Outside of the recurring sales segment, 3,915 non-core units were sold, at a 0.7% value step-up, as the group focused on liquidity to get deals done.

Last month, the company disclosed three new transactions with a total inflow of €1.8bn expected at the end of 2024 / first half of 2025: 11 development projects for €500m, 20% of the shares in Deutsche Wohnen for just over €1bn; and 27 care facilities for more than €300m. This takes the inflow of liquidity since the beginning of the year to more than €3.3bn, exceeding the €3bn target. The company now expects a total inflow of €4bn, on a par with 2023. The company has said that, going forward, disposal pricing decisions will no longer be driven by leverage considerations but profitability.

Capital is being partly re-allocated toward the construction of new properties and the improvement of the existing portfolio to comply with environmental demands which can drive higher rents. So far this year, the group has spent €1,051m (-4.0%), with spend on maintenance up 5.8%, modernisation up 8.4%, and new construction spend down 47.1%. Despite higher construction costs, Vonovia has completed 2,409 new buildings (+34%), 36% to hold to rent and 64% for sale. For now, the focus remains on completing existing projects rather than constructing new projects. This is a theme across the sector and clearly exacerbates the current supply/demand imbalance.

The group’s loan-to-value (LTV) ticked up in the quarter from 47.3% to 47.9%, still above the 40%-45% target range. Including potential proceeds from announced transactions, the pro-forma LTV is 46.0%. As a result of monetary tightening, the cost of issuing new debt has increased substantially, albeit off the high of last year. However, the group’s long-term and well-balanced debt maturity profile provides a hedge against increasing financing costs: weighted average maturity (6.4 years); average cost of debt (1.9% vs. 1.7% at the end of 2023); fixed/hedged (98%); and no more than 12% of debt maturing annually. Overall, the group has said that marginal debt costs have come in lower than feared and that pro-active balance sheet stabilisation is no longer required.

The strategy is to roll over secured debt and repay unsecured bonds with disposal proceeds. Vonovia has said its pro-forma cash position of €4.6bn covers all near-term maturities. Fitch rated Vonovia for the first time in March, giving the company a BBB+ rating.

In June, the group paid a 2023 dividend of €0.90 per share, 6% higher than last year, equal to a yield of 3.5%. Looking forward, the group has changed its dividend policy – the plan is to pay out 50% of earnings plus surplus liquidity from operating free cash flow. The company has said it has a dividend capacity of €1bn, equal to €1.20 per share, a third higher than last year, and equal to a yield of 4%.

So far this year, the market value of the portfolio has fallen by 1.5% to €82.6bn. The company believes the market has now bottomed out, and that stabilisation is “now on the home straight”. The net asset value (known as EPRA NTA) per share levelled out in the third quarter to leave it down 4.6% year to date at €44.66. The standing portfolio is now valued at 23.4x in-place rent equalling 4.2% on a gross basis and 3.4% on a net initial yield basis.

Guidance for full-year adjusted earnings before tax has been confirmed at the upper end of the range of €1.7bn-€1.8bn. The company has initiated guidance for 2025 of €1.75bn-€1.85bn, pretty flat versus the current year.

The shares, which are listed in Germany, fell heavily in 2021 and 2022 on the back of rising government bund yields, to which they are negatively correlated, and the knock-on effect on earnings and property values. Over the last year or so, however, they have recovered somewhat but still trade at a 32% discount to EPRA NTA.

Greater visibility over the outlook for interest rates (and the marginal cost of new debt), property market valuation, and further disposals will be required for the shares to move substantially higher. In the meantime, we are comforted by the ongoing substantial mismatch between Vonovia’s equity value (€2,226/sqm), the valuation in the direct real estate market (€3,360/sqm, as evidenced by recent market transactions), and the cost of newly constructed properties (€5,300/sqm, which are rising due to input price inflation).

Source: Bloomberg