For financial advisers and professional investors only – not for distribution to retail investors.
February 25, 2025
By James Holliday-Smith
Key takeaways
- Declining interest rates reduce financing costs for landlords, supporting earnings and distributions growth
- Lower rates improve borrowing capacity, increasing residential and commercial real estate transactions and attracting fresh capital to the sector
- As interest rates decline, investor confidence in property values strengthens supporting a recovery in valuations
What happened
Real estate investors across the country breathed a collective sigh of relief in February, after the Reserve Bank of Australia (RBA) cut the official cash rate by 25 basis points to 4.1% for the first time since October 2023, marking a significant shift in the monetary policy landscape. The RBA raised borrowing costs 13 times since 2022 but has since held the cash rate at 4.35% for over a year. Historically, the end of a rate-hiking cycle has been a turning point for real estate markets, often leading to a positive inflection in earnings growth, increased transaction activity and a rebound in asset values. For the listed market specifically, REITs tend to outperform in the 12 months after the commencement of a cutting cycle, in anticipation of the upcoming strong property fundamentals.
Why now
The decision to ease rates reflects the central bank’s response to softening economic conditions, with inflation easing toward the RBA’s target 2-3% range. Over the past two years, rising interest rates have weighed heavily on the real estate sector, increasing financing costs and pressuring earnings. With the RBA now shifting towards rate cuts, landlords should begin to see relief, with lower interest rates supporting profit expansion. When combined with the predictable revenue growth from contractual rental escalators, we expect to see earnings and distribution growth return to the sector.
What this means for real estate investors
Lower interest rates have three key implications for real estate investors:
1. Earnings and distributions set to recover
Lower interest rates should ease the burden of rising financing costs, expanding profits and allowing for renewed growth in distributions. Combined with contractual rental escalations, this should drive renewed earnings growth across the sector.
2. Transaction activity acceleration
In residential real estate, lower rates improve affordability by expanding borrowing capacity, increasing the pool of potential buyers. In commercial real estate, investors often position ahead of the cycle, driving greater deal flow. After bottoming out in 2023 at roughly $A25 billion, commercial real estate transaction volumes rebounded to $A30 billion in 2024. With 2025 off to a strong start, we would expect to see another incremental acceleration in deal activity.
3. Asset values to stabilise
Commercial property values are often measured with ‘cap rates’, which typically rise alongside interest rates, placing downward pressure on valuations as investors demand a higher yield vs. risk free alternatives. This higher yield is primarily achieved via a reduction in asset values. As the risk-free rate declines, investors gain confidence in paying higher prices for assets, leading to a recovery in valuations.
What’s next?
As we enter this new phase of the interest rate cycle, we expect to real estate fundamentals to continue strengthening.
In the Macquarie Australian Listed Real Estate fund, we are seeking to benefit from these tailwinds by focusing on names with strong visibility into enhanced earnings growth. We see particular opportunity in residential-exposed names, as transaction activity should improve after multiple years of below-average sales volumes. Likewise, we believe the fund managers are also well placed to demonstrate strong earnings growth, as capital inflow, rising asset values and increased transaction velocity will drive higher AUM based and transaction related fees. With improving conditions, we expect a sustained recovery across the sector.
For further insights, explore our listed real assets outlook for 2025.
Author
The Target Market Determination (TMD), available at macquarie.com/mam/tmd, includes a description of the class of consumers for whom the Fund is likely to be consistent with their objectives, financial situation and needs.
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