Singapore REITs - OCBC Investment 2017-03-06: Challenging Quarter, But Bright Spots Exist

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Singapore REITs SREIT Sector Outlook KEPPEL DC REIT AJBU.SI FRASERS CENTREPOINT TRUST J69U.SI ASCENDAS REAL ESTATE INV TRUST A17U.SI FRASERS LOGISTICS & IND TRUST BUOU.SI MAPLETREE GREATER CHINACOMM TR RW0U.SI

Singapore REITs - CHALLENGING QUARTER, BUT BRIGHT SPOTS EXIST

• Weaker DPU performance.
• More optimistic economi.
• KDCREIT as potential laggard play.

Operating environment remains challenging, but some bright spots seen 

• While we continue to maintain our cautious view on the operational outlook of the S-REITs sector, we note that there were some bright spots seen over the past few months across most of the sub-sectors. 
• Within the office space, a second consecutive quarter of positive net absorption islandwide was recorded in 4Q16. 
• For retail, retail sales growth excluding motor vehicles came in at 0.3% YoY for the month of December, the first positive monthly YoY growth since January 2016. 
• As for the industrial sub-sector, Singapore’s PMI has stayed above 50 for three straight months, with January’s 51.0 reading the highest since November 2014.

4QCY16 results roundup: One beat, one miss, while the rest met our expectations 

• The 24 S-REITs under our coverage have concluded their 4QCY16 results reporting. 
• Lippo Malls Indonesia Retail Trust (LMIRT) beat our expectations for a second consecutive quarter, driven by a larger-than- expected realised gain on hedging contracts. 
• On the other end of the spectrum, Starhill Global REIT missed our expectations as NPI margins came in lower than our forecast. 
• The remaining 22 S-REITs we cover met our expectations. 
• Overall DPU growth for the quarter saw a negative 2.0% YoY fall. This was partly impacted by equity fund raising (EFR) exercises by Keppel DC REIT and OUE Hospitality Trust, resulting in an enlarged unit base, although more meaningful contribution from acquisitions funded by the EFR proceeds will only come in this year. 
• The standout performers in 4QCY16 were CapitaLand Commercial Trust (DPU +10.1% YoY), Viva Industrial Trust (DPU +7.7% YoY) and LMIRT (DPU +7.4% YoY).

Broad based softness seen in DPU performance 

• Delving into the major sub-sector performances, we note that the softness in DPU was largely broad-based with declines recorded for hospitality (-4.0% YoY), retail (-1.9% YoY) and office (-1.3% YoY). 
• Industrial REITs under our coverage turned in a flat performance (+0.1% YoY), with dips in DPU seen only from Cache Logistics Trust (CACHE) and Soilbuild Business Space REIT (SBREIT).

Revaluation losses on investment properties, especially within hospitality and industrial sub-sectors 

• While not having an impact on distributions, we note that some REITs reported revaluation losses on their investment properties during 4QCY16. This was more prominent within hospitality and industrial REITs, although there were only slight or no changes to the cap rates used by the independent valuers, which implies more conservative rental growth and occupancy assumptions adopted, in our view. This has been driven by negative rental reversions and weaker RevPAR reported amongst the industrial and hospitality sub-sectors, respectively. 
• For the hospitality REITs under our coverage, ART, CDLHT, FEHT and OUEHT all reported fair value losses on their investment properties in 4Q16. 
• As for the industrial REITs, CACHE and SBREIT posted revaluation losses, but Viva Industrial Trust had a positive fair value gain on its investment properties due to a boost from its Viva Business Park property.

Share prices of S-REITs have rebounded YTD, but underperformed the broader market given more risk-on sentiment 

• As a recap, the FSTREI ended 2016 on a soft note following Donald Trump’s victory in the U.S. presidential elections. We saw this weakness as a buying opportunity, and during our REITs strategy report published on 7 Dec 2016, we recommended investors to bargain hunt when the sector experiences a pullback. Since then, the FSTREI has delivered a total return of 4.0% (YTD total return of 6.1%). However, it has underperformed the STI (YTD total return of 8.7%), which is not surprising, given the more risk-on market sentiment in light of rosier economic data points across the regions. 
• The FSTREI is currently trading at a forward yield spread of 411 bps against the Singapore Government 10-year bond yield, which is approximately half a standard deviation below the 5-year average (433 bps). However, given uncertainties over the geopolitical environment and sustainability of the global economic recovery, we believe S-REITs can still warrant a strategic position in investors’ portfolio. 
• Maintain OVERWEIGHT on the S-REITs sector. 
• Our preferred picks are unchanged: Frasers Centrepoint Trust [BUY; FV: S$2.28], Keppel DC REIT (KDCREIT) [BUY; FV: S$1.39], Ascendas REIT [BUY; FV: S$2.68], Frasers Logistics & Industrial Trust [BUY; FV: S$1.08] and Mapletree Greater China Commercial Trust [BUY; FV: S$1.08]. 
• In terms of positioning, we see KDCREIT as a potential laggard play following its recent share price underperformance, supported by its healthy valuations and expected strong FY17F DPU growth.

Retail sector: Improvement largely seen in occupancy, but continued moderation in rental reversions 

• Retailers continued to face challenges during the quarter, as economic headwinds and structural issues such as manpower shortages and competition from e-commerce continued to weigh. As such, retail REITs largely reported tenants’ sales growth which was lower than the change in footfall. Frasers Centrepoint Trust and Starhill REIT recorded negative tenants’ sales growth, with the former partly impacted by ongoing renovation at Northpoint and a changeover in anchor tenant space at Changi City Point. In terms of occupancy cost, it came in at 19.0% for CapitaLand Mall Trust (CMT) in FY16, versus 18.5% in FY15. However, on a comparable mall basis, the occupancy cost for FY15 would instead have been 19.2%. No other retail REITs disclosed their occupancy cost figure during the quarter.
• According to URA statistics, prices of retail space in Central Region increased marginally by 0.2% QoQ, while rentals fell 1.5% in 4Q16. The latter was the eighth consecutive quarter of sequential decline, reflecting challenges in the leasing market. It was not surprising that retail REITs continued to report a moderation in their rental reversions, although most retail REITs still managed to clock in positive rental uplifts for their lease renewals and new leases signed. Occupancy data points were more resilient, with only CMT registering a mild dip (-0.1 ppt QoQ) for the quarter ended 31 Dec 2016.

Office sector: Some negative reversions seen but rents could bottom out in 2017 

• Core Grade A CBD office rents decreased by 2.2% QoQ to S$9.10 psf/month in 4Q16, based on data from CBRE. Although this signified the seventh straight quarter of decline from the peak of S$11.40 psf/month achieved in 1Q15, the magnitude of fall was almost similar to 3Q16 (-2.1%). We believe the office market may be stabilising, and forecast a smaller pace of rental dip of 5%-10% in 2017, as compared to the 13.1% fall in 2016. The soft spot rent market translated into more negative reversions for office REITs. Keppel REIT saw a rental reversion of -9% in FY16, with an average signing rent of S$9.60 psf/month for its Singapore office leases. The average rents for its Singapore office leases due for renewal and review this year and in 2018 are at the low S$9 level, and hence we foresee further negative rental reversions for the year ahead.
• CapitaLand Commercial Trust’s (CCT) average gross office rent per month was up 3.4% YoY but down 0.2% QoQ to S$9.20 psf/month. During its analyst briefing, CCT highlighted that it has become more challenging to achieve positive rental reversion, with downward pressure on rents given competition amongst landlords.
• OUE Commercial REIT saw negative rental reversions for its Singapore portfolio in FY16: OUE Bayfront -10.1%; One Raffles Place -3.0%. However, Lippo Plaza, which is located in Shanghai, registered positive rental reversion of 9.3%.
• Starhill Global REIT’s Singapore office portfolio, which is located in Orchard Road, experienced a 4.1 ppt YoY dip in occupancy to 95.9%, while rental reversions came in at -1.6%, partly due to oil and gas related tenants downsizing or leaving its premises.
• As for Suntec REIT, its average rent secured for its Singapore office portfolio for 4Q16 was S$8.65 psf/month, versus S$8.86 psf/month in 4Q15 and S$8.78 psf/month in 3Q16.
• However, not all is doom and gloom, as the Singapore office market registered a second consecutive quarter of positive net absorption islandwide in 4Q16. With supply pressures easing by end-2017, we expect office rents to bottom out correspondingly, barring any unforeseen circumstances.

Industrial sector: Large caps continue to outperform the smaller caps 

• Within the industrial space, the large cap names such as Ascendas REIT (A-REIT) and Mapletree Industrial Trust (MIT) turned in another set of resilient performance, with YoY DPU growth of 1.2% and 0.4% in 4QCY16, respectively. 
• On the other hand, CACHE and SBREIT reported DPU dips of 10.8% and 2.7% YoY, respectively. 
• On the rental front, A- REIT, MIT and Mapletree Logistics Trust still managed to eke out positive rental reversions, versus negative rental reversions for AIMS AMP Capital Industrial REIT, Frasers Logistics & Industrial Trust, Cambridge Industrial Trust and SBREIT.
• According to data from JTC, the price index of all industrial space fell 3.0% QoQ in 4Q16, while the rental index was down 0.5% QoQ. The business park segment bucked the trend, with rentals increasing 1.2% QoQ in 4Q16. 
• Although Singapore’s PMI has stayed above 50 for three straight months, with January’s 51.0 reading the highest since November 2014, we believe the large upcoming supply in 2017 (~2.4m sq m) would continue to exert downward pressure on occupancy and rental rates.

Hospitality sector: 2017 expected to remain challenging 

• The tourism sector’s performance in 2016 exceeded the Singapore Tourism Board’s (STB) expectations. 
• Tourism receipts jumped 13.9% to S$24.8b (preliminary estimate), while international visitor arrivals increased 7.7% to 16.4m, versus STB’s projections for a 0%-2% and 0%-3% growth, respectively. However, this robust performance did not translate into similarly strong operational results for hospitality REITs, which continued to face pressure on RevPAR and consequently DPU. This was likely underpinned by the significant exposure most hospitality REITs have to the corporate segment, which experienced soft sentiment last year, especially within the financial and oil & gas project groups, coupled with intense competition amongst operators in light of the 4.3% increase in 2016 supply.
• Looking ahead, supply pressures are unlikely to abate this year, as market watchers are projecting another 5.9% increase in hotel rooms for 2017. In addition, we believe corporate sentiment remains cautious. As such, we expect single-digit RevPAR declines in 2017.

Andy Wong Teck Ching CFA OCBC Investment | http://www.ocbcresearch.com/ 2017-03-06

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