Market review
SA listed property has outperformed shares, perform in line with bonds, during 2011. Best performing holdings in the fund during the quarter were Acucap (+10%), Capital (+8%) and Resilient (+7%), while Hospitality B (-27%), Hospitality A (-9%) and Emira (-8%) underperformed. Yields on listed property were more stable than bond yields during the quarter. Bond yields initially fell in line with their foreign counterparts, but then rose swiftly as the rand weakened in September. Results reported in the end-June reporting season generally met expectations, although some distributions did disappoint slightly. The feature of the reporting season was that costs rose faster than income. Outlook statements have been more cautious than previously, as expectations for economic growth are being revised downwards.

What SIM did
We took up a placing of Dipula A units in a new listing; bought more shares in Capital Shopping Centres before the rand weakened significantly and supported a bookbuild in Growthpoint units. Both Capshop and Growthpoint are large funds and are expected to be relatively resilient should economic prospects fall further. Income on the Dipula A units will grow at 5% a year. We sold out of our Investec Property Fund holding. The fund has done well since listing, yet remained small in the context of the portfolio and other fund choices.

Performance and reason
We hold funds with significant quality retail holdings, such as Hyprop, Acucap, Sycom and Fountainhead, as well as Capshop, which is the largest owner of major UK shopping centres. At the same time, we are underweight the more cyclical office and industrial sectors. This positioning has cost us some recent relative performance, but we expect retail property to remain relatively resilient in the current cyclical downturn, as it has been in the past. Relative to equities, the property business model is transparent because it is based on contractual leases; it is asset rich and high yielding. This model serves listed property well in times of uncertainty over economic growth.

Outlook
On a clean price basis, we forecast distribution growth of 6% for SA listed property for the next 12 month period. Escalations of 6% to 9% are being achieved on renewals, and expiring rents are not too far from market rents due to rapid increases in the latter during the previous up cycle. Our forecast of distribution growth at the beginning of the year was 8%. The main reason for reducing forecasts is prudence over cost increases. In particular, costs of electricity and rates, which are administered, stand out as increasing particularly rapidly. To the extent that these are passed on to tenants, they increase the total cost of occupancy, and are likely to be a drag on future rental increases. Vacancy rates have increased, especially in office space, but Vacancy rates have increased, especially in office space, but seem to be manageable. Most management teams expect office vacancies to level off. The challenge for us will be to further up weight the more cyclical office and industrial sectors in preparation for the next direct property upswing.

Currently the SA sector yield 12 months out is 7.7%. It was 7.8% at the beginning of the quarter.

Market review
What proved to be a temporary correction in fund prices was followed by resumed positive price momentum from mid-March. As a result, SA listed property outperformed both bonds and shares once again. Best performing holdings in the fund were Fountainhead (+8%), Acucap (+8%) and Hospitality A (+7%), while Hospitality B (-11%), Hyprop (+3%) and Emira (+3%) underperformed.

The reason for the divergent performance of the Hospitality A and B units is to do with capital structure: the A units are more secure in that they receive the first 5% of distribution growth. When growth is scarce, distributions to B unit holders shrink. Increased supply of hotel rooms, timed to meet perceived demand from World Cup visitors, was not met by current demand.

We noted in our last report that there had been fewer new listings than we anticipated, although several remained in the wings. Investec Property fund and Rebosis were listed during the quarter. The former succeeds Growth Point, which was incubated in the Investec Group. Meanwhile, Rebosis is the pioneering Blackfounded property listing.

Fountainhead raised more capital by way of a rights issue to support capital projects, notably the rebuilding of a shopping centre in Tokai.

What SIM did
We took up placings in both new listings; supported the Fountainhead rights issue, and continued to buy additional units in Redefine. These investments effectively increased the proportion of offices and industrial properties in the Fund, which are both relatively cyclical, thereby increasing the sensitivity of the fund to economic growth We sold the remainder of our Vukile holding. Vukile has been a very successful investment, having provided a total return of 33% a year over each of the last three years but, in our view, had become relatively overpriced.

Performance
Relative to equities, the property business model is transparent because it is based on contractual leases and is asset rich and high yielding. This model serves listed property well in times of uncertainty regarding economic growth. Listed property has outperformed equities for the last three years by a large margin (27% versus 4% a year). Risk was rewarded, in that bonds returned 13% a year over the same period. Of the underlying sectors, retail property has remained relatively resilient to the cyclical downturn, as it has been in the past. We hold funds with significant quality retail holdings, such as Hyprop, Acucap, Sycom and Fountainhead, as well as Capshop, which is the largest owner of major UK shopping centres. At the same time, we are underweight in the more cyclical office and industrial sectors.

Outlook
On a clean-price basis, we forecast distribution growth of 6% for SA listed property for the next 12 month period. Escalations of 6% to 9% are being achieved on renewals, and expiring rents are not too far from market rents due to rapid increases in the latter during the previous up cycle.

At the beginning of the quarter, we forecast distribution growth of 8%. The main reason for reducing our forecast was to reflect cost increases. In particular, costs of electricity and rates, which are administered, stand out as increasing particularly rapidly. To the extent that these are passed on to tenants, they increase the total cost of occupancy, and are likely to be a drag on future rental increases.

Vacancy rates have increased, especially in office space, but seem to be manageable. Most management teams expect office vacancies to be near their peak. The challenge for us is to further up weight the more cyclical office and industrial sectors in preparation for the next direct property upswing.

Currently the SA sector yield 12 months out is 7.8% (down from 8.4% at the beginning of the quarter).

Market review
In our previous report, we pointed out that the strong bull market during the second half of 2010 had pushed listed property valuations ahead of direct property valuations. Overvaluation and rising bond yields led to a correction in fund prices during the quarter. Holdings in the fund that underperformed were Hospitality B (-17%), Fountainhead (-12%) and Redefine (-1%), while SA Corporate (+6%), Hospitality A (+5%) and Capital (+1%) were the strongest performers.

Hospitality A and B units' different capital structures meant that they experienced divergent performance, with the A units more secure in that unitholders receive the first 5% of distribution growth. When growth is scarce, distributions to B unitholders thus shrink. Also, increased supply of hotel rooms, timed to meet perceived demand from World Cup visitors,was not met by actual demand.

The consolidation of property funds remained an ongoing theme. During the quarter, Capital and Pangbourne merged. US-based Simon Property Group, the largest global shopping mall operator, walked away from making a bid for Capshop, its UK peer, when shareholders of the latter approved a major acquisition that introduced a large new blocking shareholder. In contrast, there were fewer new listings than we anticipated, although several remained in the wings.

What SIM did
We were active during the quarter, taking advantage of both price volatility and valuation differentials between funds. We switched a portion of Sycom into Acucap units, and half of our Vukile holding into Redefine. We repatriated the Capshop shares we received in the November placing.

We bought more Pangbourne units ahead of the merger, and also bought additional Redefine units. It is interesting to note that in buying Redefine and Capital/Pangbourne, we increased the sensitivity of the fund to economic growth. Although these investments were made on valuation grounds, they increase the proportion of offices and industrial properties in the Fund - both relatively cyclical assets. Growthpoint bought a stake in the V&A Waterfront, one of SA's trophy properties, and we followed the dividend reinvestment plan, which was one of the funding sources. We sold some of our Hyprop units. The remainder of the fund's cash will be used to take up rights in Fountainhead's issue, as well as units in the imminent Investec Property Fund listing.

Fund Performance
Relative to equities, the property business model is transparent, based on contractual leases that are asset rich and high yielding. This model serves listed property well in times of economic uncertainty and thus listed property has slightly outperformed equities over the last year. Of the underlying sectors, retail property has remained relatively resilient during the cyclical downturn, as it has been in the past. We hold funds with significant quality retail holdings, such as Hyprop, Acucap, Sycom and Fountainhead, as well as Capshop, which is the largest owner of major UK shopping centres. At the same time, we are underweight in the far more cyclical office and industrial sectors.

Outlook
On a clean-price basis, we forecast distribution growth of 8% for SA listed property over the next 12-month period. Escalations of 6% to 9% are being achieved on renewals, and expiring rents are not too far from market rents due to rapid increases in the latter during the previous upcycle. Vacancy rates have increased, especially in office space, but seem to be manageable. Most management teams expect office vacancies to be peaking. The challenge for us will be to further upweight the more cyclical office and industrial sectors in preparation for the next direct property upswing. Currently the SA sector yield 12 months out is 8.4% (up from 7.8% at the beginning of the quarter).

Market review
The global search for yield in the aftermath of the credit crisis means SA has experienced strong foreign investment flows into its bonds, a stronger rand, and lower short-term interest rates. These factors enabled SA listed property to provide strong returns of 30% for the year, outperforming both bonds and equities. Property returns remained positive over the December quarter. Fund holdings that outperformed during the quarter were Vukile (+8%), Growthpoint (+7%) and Hyprop (+7%), while Hospitality A and B (-4%) and Capital (-1%) were the worst performers. The consolidation of property funds remains a continuing theme. During the quarter, Hyprop announced the acquisition of a large unlisted property portfolio, and Capital and Pangbourne announced their intended merger. US-based Simon Property Group, the largest global shopping mall operator, announced its intention to bid for Capshop, its UK peer. In contrast, there were fewer new listings than we anticipated. One new fund, Vividend, listed during the quarter.

What SIM did
We changed the benchmark against which the performance of your fund is measured on July 1. Until then, we benchmarked our performance against the capped SA listed property index, J254. The new benchmark is J253, the SA listed property index, which includes only SA listed property funds, and is not capped. In essence, the difference is that the former included Capshop PLC and thus lower weightings of Growthpoint and Redefine in the index. The new benchmark better suits institutional investors, as well as retail investors who now benefit from having the fund managed against the same benchmark as most other SA-listed property funds. To give effect to this benchmark change, we switched a portion of the Capco and Capshop holdings into Growthpoint and Redefine, which are large balanced funds. During the quarter, we used cash holdings to take up placings in Capshop (in pounds, as the placing took place in London) and Hospitality. We also switched the bulk of the Capco holding into Capshop to enhance yield prospects, and added further to holdings in Growthpoint and Redefine.

What added to - and detracted from - performance
Relative to equities, the property business model is transparent because it is based on contractual leases and is asset rich and high yielding. This model serves listed property well in times of uncertainty over economic growth. In contrast, the UK property cycle was badly hit by the credit crisis. The one UK property stock that we have held in the fund since inception is Liberty International, the 'parent' company of Capshop and Capco. Due to its relative underperformance, the fund has underperformed its peers, which only hold SA-listed property funds. The major UK property companies, including Capshop, have now been recapitalised, and there are signs that the next upswing may be underway. Of the underlying sectors, retail property has remained relatively resilient during the cyclical downturn, as it has been in the past. We hold funds with significant quality retail holdings, such as Hyprop, Acucap, Sycom and Fountainhead, as well as Capshop, which is the largest owner of major UK shopping centres. At the same time, we are underweight in the far more cyclical office and hotel sectors.

SIM strategy
On a clean-price basis, we forecast distribution growth of 8% for SA listed property over the next 12 month period. Escalations of 6% to 9% are being achieved on lease renewals, and expiring rents are not too far from market rents because of the rapid increases in the latter during the previous upcycle. Vacancy rates have increased, especially in office space, but seem to be manageable. Most management teams expect office vacancies to be peaking. The challenge for us will be to upweight themore cyclical office and industrial sectors in preparation for the next direct property upswing. Currently the SA sector yield 12 months out is 7.8%. Listed property valuations have run ahead of direct property valuations, as is to be expected in bull markets. Only time will tell if this was justified.