By Chris Shaw

According to the latest National Australia Bank Australian Commercial Property Survey, conditions in the market deteriorated in the June quarter, the bank's index falling 20 points in the period to a minus 10 reading.

The bank's index is a weighted index based on capital values and rental prices across the office, retail, industrial and hotels/entertainment sectors.

NAB chief economist Alan Oster notes while a recovery in the market over the next year remains the widely expected outcome, sentiment has certainly taken a turn for the worst and recovery time frames are now being extended and return expectations lowered.

While all sectors should improve over the next six to 12 months, the Office sector remains the pick of the market, with a significant pickup in sentiment expected. Retail confidence remains down and while the Industrial sector is tipped to improve on a 12-month basis, six-month forecasts have now been lowered substantially.

It is a similar story with respect to capital values in that across all sectors expectations remain for an improvement in conditions on a 12-month view, but shorter-term estimates have come down sharply. As examples, expectations for the Office market are for Q1 2011 capital growth of 2.6%, down from 3.25% previously, while for Retail a gain of 0.6% is now expected, down from 2.0%.

The new forecasts for the Retail sector mean the Industrial sector is now expected to perform better in capital growth terms over the next year at 1.2% against the revised 0.6% forecast for Retail.

In rent terms market expectations are for the Office sector to deliver 2% growth over the next 12 months, while Industrial is tipped to record growth of 1.2% for the same period. As Oster notes, these growth expectations are not translating into current rents as all sectors are believed to be experiencing negative rental returns at present.

Vacancy rates should also improve over the next year but little change is expected in any sector over the next six months. Retail vacancy rate expectations are the lowest of any sector at 4.5%, against 6.7% for Office and a little below 6% for the Industrial sector.

With market recovery expectations being pushed out, Oster notes development commencement plans are also being delayed, with the majority of works now set to commence in 2011. Most of the developments being planned are based on land-banked stock already held. This proportion stands at 70% this quarter, up from 59% last quarter.

In Oster's view, this suggests a further proportion of companies that have been holding stock awaiting an improvement in market conditions may be starting to edge back into the market. Another issue to activity levels is debt sourcing, as the survey shows this has become more difficult over the past quarter.

Raising debt is considerably more difficult than raising equity at present, a trend expected to continue through the next quarter. Of those responding to the survey, Oster notes 50% now don't plan to add more debt over the next six months, up from 46% in the previous quarter. It is a similar story on a 12 month view, as only 42% of respondents plan to add debt over the next year, down from 50% in March.

The survey overall showed a large fall in expectations for the next six months with respect to pre-commitment criteria for development projects, but Oster notes this has been countered by a large swing to a more positive 12-month view with respect to market conditions.

Oster points out the major concerns of those in the market at present are the availability of stock, the level of interest rates and cost of financing, the availability of debt and general business costs. Product pricing, vacancy rates and currency movements are of relatively little concern.

With respect to interest rates, Oster notes those responding to the survey expect on average an increase of 83-basis points over the next 12 months, while 70% of those responding expect at least one interest rate hike over the next year.

Looking at the various sectors in more detail, the survey shows Melbourne and Sydney should have the best performing office markets over the next 12 months, while progress in both Perth and Brisbane is expected to be modest. Both capital values and rents are forecast to be relatively flat until 2011.

Retail sentiment suggests any return to growth is now likely to be 12 months later than previously expected, with Melbourne again seen as the preferred location within the sector. Sydney is gaining ground but the rest of the country is well behind according to the survey.

As with the office sector, any growth in capital an rents in the retail sector is expected to be minimal over the next 12 months, while vacancies should trend higher for another six months before improving through 2011.

Industrial property's outlook has now slipped to second most favourable over the next 12 months, behind office and as with retail the Sydney market is gaining ground on market leading Melbourne. Capital values in the market are not expected to turn positive until 2011, while Oster also notes no significant changes in terms of rents are expected over the coming year.

National Bank's survey of commercial property in Australia consists of 248 respondents covering real estate agents/managers, property developers, asset/fund managers and owners/investors.

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