Singapore Property and REITs - DBS Research 2017-03-17: Catalysts abound

Singapore Property and REITs - DBS Vickers 2017-03-17: Catalysts abound Singapore Property Singapore REITs Rate Hike Market Outlook ASCENDAS REAL ESTATE INV TRUST A17U.SI KEPPEL REIT K71U.SI MAPLETREE COMMERCIAL TRUST N2IU.SI FRASERS LOGISTICS & IND TRUST BUOU.SI KEPPEL DC REIT AJBU.SI

Singapore Property and REITs - Catalysts abound

  • Go for cyclicals (Office and Industrial REITs) on improving economic fundamentals.
  • Potential giant industrial REIT to emerge? 
  • Developers' rally to continue with improving transaction volumes.

S-REITs - Go Cyclical as economic fundamentals improve 

  • Post the hike in interest rates this year and the guidance by the Fed of an additional two increases this year which are in line with market expectations, we believe the S-REIT market will be well supported near term given earlier fears that the Fed would be more hawkish.
  • With consensus expectations for Singapore’s GDP growth to be revised upwards (according to the latest Monetary Authority of Singapore Survey, market economists expect GDP growth of 2.3% versus 1.5% previously), we recommend that investors position themselves in more cyclical sectors, namely the office and industrial REITs, specifically the business parks and hi-tech segments. 
  • In addition, with the supply for both sectors easing from next year, we believe the prospects of a recovery in spot rents next year are increasing, which is supportive of our positive stance.
  • For retail REITs, we expect a near-term relief rally. But we believe the upside will be capped, given cracks in the previous market assumption that suburban malls are totally resilient, on the back of expectations of heightened competition from the online space due to the imminent launch of Amazon in Singapore.
  • Meanwhile, the hospitality REITs are more of a 2H17 story as there remains potential downside risk to RevPAR expectations and investors are likely to focus on the large-cap office and industrial REITs first.
  • In terms of overall S-REIT valuation, the average yield spread is at 4.1%, close to the average yield spread of 4.2% since 2010. Thus, with the risk of a very hawkish Fed receding, we believe downside risk to S-REIT share prices are limited near term.
  • Furthermore, based on the last two interest rate upcycles, there is another 30-40bps increase in the 10-year bond yield from current levels, which would take the average yield spread down to 3.5-3.6%. Should there be a cyclical upswing in the Singapore economy resulting in an acceleration in rents, translating to growing DPUs again, a tighter yield spread may be justified.
  • Given our positive stance on the office and industrial space, our top picks include A-REIT and KREIT. We also maintain our growth and value themes, with our picks being MCT, FLT, KDC REIT and Croesus.

Potential giant industrial REIT to emerge? 

  • We maintain a watchful eye on the industrial REITs as we see potential merger & acquisition (M&A) activities occurring in the near-term horizon. This is on the back of the recent emergence of a new investor in the space, E-Shang Redwood.

A new sponsor in the industrial REIT space. 

  • E-Shang Redwood is a leading logistics warehousing and infrastructure and facilities developer and total solutions provider for ecommerce, retail and cold chain operators. 
  • One of the key investors in E-Shang Redwood is Warburg Pincus, which is also rumoured in media articles to be one of the few bidders for Global Logistics Properties (GLP). E-Shang Redwood reportedly owns and manages a portfolio of logistics properties in China, South Korea and Japan worth over US$5bn.

Entities related to Warburg Pincus have taken an interest in various REIT managers and REITs.

E-Shang has made the first moves. 

  • E-Shang Redwood has recently acquired a strategic stake in the manager of Cambridge REIT and a 10.25% stake in the REIT. 
  • We also note that E-Shang recently emerged as a substantial shareholder ( > 5%) of Sabana REIT, where the embattled REIT manager is facing an unhappy group of unitholders who requested an EGM to remove the manager or unwind the REIT. 
  • Warburg Pincus is also part of a consortium that is taking private the sponsor of Cache Logistics Trust (Cache).

Winning over Mr. Tong could be a catalyst. 

  • One of the major unitholders of industrial REITs is also Mr. Tong Jinquan, who have over the years amassed sizeable stakes in the various industrial REITs. 
  • While Mr. Tong is understood to be a fairly passive investor, we believe that if E-Shang Redwood collaborates with Mr. Tong, this could spark a consolidation within REITs that they have a collective interest in.

A consolidation in the REITs could re-rate share prices.

  • Struggling with scale and growth, the mid-cap industrial REITs (with an average market cap of S$0.9bn) have seen poor liquidity and generally trade at a discount to NAVs. Therefore, high cost of capital has inhibited the ability to grow through acquisitions. 
  • We believe that a consolidation in industrial REITs, with an aim to build operational scale, will be a catalyst for better valuations.

Developers - BUY on dips as rally has legs 

  • With guidance by the Fed of an additional two increases in interest rates this year (which is in line with market expectations), we believe that the fact that Fed did not signal any plans to accelerate the pace of monetary tightening relieves some fears of faster-than-expected rate hikes in the coming years.
  • With funding costs not expected to spike and banks clamouring for market share in the new loan space, we believe that the environment remains supportive of transactions in the immediate term.
  • Therefore, although property developers outperformed the REITs by 20% YTD, partially led by the recent property relaxation, we believe that there will still be legs to higher prices going forward, notwithstanding a near-term profit-taking trend. We advocate investors to buy on dips. In prior rallies, developers have outperformed REITs by up to 50%.
  • The recent property relaxation is a clear message from the government that they stand ready to support the property market and prevent an unintended crash in prices, if the market outlook turns. As such, we believe that we are at the start of a multi-year relaxation trend of the current property curbs, which will mean continued sector-wide re-rating opportunities, resulting in investors remaining positively disposed to the developers (Singapore Property : Sentiment lift on relaxation – 13 Mar 17 ).
  • The next critical factor that we are tracking is transactions. The first two months’ primary sales (pre-property relaxation) were 61% higher y-o-y, suggesting good positive momentum, which bodes well for the sector in general. Now with the ‘implied support’ from the government, we believe that a sustained transaction momentum will be a prelude to an eventual basing out and increase in prices in the medium term.
  • Developers with a pipeline of launches in 2017/2018 include Frasers Centrepoint Limited (FCL) and UOL Group (UOL) where positive sell-through rates for upcoming new launches could be positive drivers to share prices.

Derek TAN DBS Vickers | Mervin SONG CFA DBS Vickers | Rachel TAN DBS Vickers | http://www.dbsvickers.com/ 2017-03-17
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