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CSS investment performance – period ending September 2009

Policymakers around the world have maintained their focus on supporting a recovery in global growth. Broad-ranging fiscal and monetary stimulus supported retail sales enough to run-down inventories in manufactured goods, including motor vehicles in the United States. As a result, industrial production is beginning to recover, most evidently in Asia.

Unlisted core property accounts for approximately $2.5 billion (around 15%) of ARIA's funds under management and plays an important role in our investment portfolio. We focus on acquiring superior-quality unlisted properties with stable and relatively high income yields, generated from medium to long-term lease agreements.

CSS investment performance – period ending September 2009
CSS investment options performed strongly in the September quarter. The Default Fund returned 7.6% over the three months to 30 September 2009, while the one-year performance was -3.5%. The Cash Investment Option returned 0.7% over the past three months to 30 September 2009, while the one-year performance was 3.6%.

CSS performance – period ending September 2009*

* These figures are after fees and tax

CSS September quarter financial market and performance report
Policymakers around the world have maintained their focus on supporting a recovery in global growth. Broad-ranging fiscal and monetary stimulus supported retail sales enough to run-down inventories in manufactured goods, including motor vehicles in the United States. As a result, industrial production is beginning to recover, most evidently in Asia.

Considerable uncertainty remains as to whether private demand in the developed world can be self-sustaining without this policy stimulus, given the overhang of household debt and high unemployment rates. While policies to date have helped developed-world banks to materially improve their profitability, lending volumes to households and businesses remains relatively low.

Our Australian economy remains resilient, differentiated by its stable banking sector and trade linkages into China. Housing-sector indicators point to a recovery in construction activity over the summer. The International Monetary Fund now forecasts 2009 gross domestic product growth of 0.7% for Australia, compared with an average fall of 3.4% across the advanced economies.

Investment markets, as a whole, responded very positively to these economic fundamentals. Global equity markets, as represented by the MSCI World index, rose 14% in the September quarter, taking them back to 27% below their May 2008 peak. Reflecting the stronger than expected growth trajectory in the Australian and emerging economies, these markets (ASX300 and MSCI Emerging Market indices) each rose 20% over the quarter. The Australian equity market (ASX300) has now regained 57% of its global-financial-crisis losses. ARIA fund balances have increased as a result of this market recovery. We hold a higher proportion of our equity risk through the Australian market than through overseas developed markets. And we have an above-index weight to equities in Emerging Markets, particularly in Asia. Furthermore, the recent environment has been fertile for active stock pickers, with the resurgence of fundamentals over momentum. As such, the favourable investment performance of ARIA's active equity managers has also contributed positively to fund balances.

The dislocation in credit markets has also eased significantly, with buyers returning to the asset class. Our investments in corporate investment-grade debt, distressed debt in the US and senior bank loans all contributed positively to our fund balances this quarter.

Long-dated government bond prices benefited from strong demand for newly-issued bonds over the quarter. But monetary policy tightening is expected from the RBA through into 2010. Consensus market expectations are for a normalisation in the Australian cash rate back to 5% by the middle of 2010. Any tightening in monetary policy will lift the rate of return of the cash investment option, as well as broadly across money-market linked investments in the fund.

Strong Asian growth, expectations for continued global recovery and interest rate rises in Australia, have all supported the Australian dollar higher. Over the September quarter, the Australian dollar appreciated by almost 9% against the US dollar, and over 5% on a trade-weighted basis.

Understanding unlisted core property
Unlisted core property accounts for approximately $2.5 billion (around 15%) of ARIA's funds under management and plays an important role in our investment portfolio. We focus on acquiring superior-quality unlisted properties with stable and relatively high income yields, generated from medium to long-term lease agreements. These quality characteristics mean that unlisted property provides diversification benefits to our portfolio, as well as providing a measure of protection against higher inflation, as rental increases are often linked to the Consumer Price Index. Our unlisted property investments generate returns to members from both this income yield and changes in their capital value.

Unlike listed property (Real Estate Investment Trusts or REITs), unlisted property is not listed on a stock exchange (valued daily) but subject to appraisal-based pricing, based on valuations completed by qualified, independent property valuers. Valuations are usually required to be undertaken at least annually. However, given the uncertain economic and property market environment, quarterly valuations are currently being undertaken for almost all the portfolio. This will ensure that the value of the portfolio continues to reflect current market conditions and is fairly valued for our members.

Key features and facts about ARIA's unlisted core property portfolio

Investment objective
The investment objective is to invest in core and core plus property assets primarily within Australia. Core assets are well located commercial, retail or industrial property assets that offer stable cash flows and have low levels of return volatility. Core plus assets offer the potential for better returns than core assets, in return for accepting moderate levels of additional risk associated with vacancy, re-leasing, and capital expenditure. Core plus investment may also be in non-traditional property sectors (for example mixed-use property).

Investment structure
ARIA currently owns seven property assets directly (collectively making up two-thirds of the core property portfolio), as well as six investments in unlisted pooled property trusts.

Property sectors
The majority of ARIA's unlisted property exposure is to shopping centres and CBD office buildings, with a relatively low exposure to the industrial and residential sectors.

Location
95 per cent of the portfolio (by value) is located within Australia, with five per cent invested in property assets across Asia (mostly Japan) and the US through two core plus pooled property trust investments.

High quality portfolio
ARIA owns direct or indirect interests in some of Australia's premier property assets. We have 100% ownership of 101 Collins Street, Melbourne and Indooroopilly Shopping Centre in Brisbane. Some other high-quality assets in which we have either a direct or indirect ownership interest include Grosvenor Place, Sydney, Aurora Place (RBS Tower), Sydney, Warringah Mall, Westfield Miranda and Pacific Fair Shopping Centre. Over 90% of the portfolio (by value) is made up of prime grade CBD office (Premium and A grade) and regional shopping centre assets. Regional centres are large shopping centres which incorporate at least one department store as well as a wide range of other retail facilities and formats.

Low gearing
The portfolio currently has a conservative overall gearing level of 13%.

Recent performance
The recent global financial crisis affected property assets through the impact of deteriorating economic conditions on rents and a lack of available credit. This materially affected the property investment market and therefore property values. Our portfolio was relatively well-positioned for this crisis, but not completely immune. We recorded a return of -1.8% for the 2009 financial year, which was significantly better than the -12.4% return of the Mercer Australian Unlisted Property Fund Index benchmark. Our out-performance through this period reflected the high quality nature of the portfolio and conservative capital structure employed.