Hospitality REIT - CGS-CIMB Research 2018-10-03: On The Path To Recovery

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CDL HOSPITALITY TRUSTS SGX:J85 FAR EAST HOSPITALITY TRUST SGX:Q5T OUE HOSPITALITY TRUST SGX:SK7

Hospitality REIT - On The Path To Recovery

• RevPAR continued to show positive growth in Aug 2018 (+5.5% y-o-y, +3.5% year- to- Aug 2018), a good turnaround versus - 1.7% in 2017.
• Pricing pressure is easing. We expect the RevPAR recovery to gain momentum towards end- 18 to achieve full year RevPAR growth of 5.1%.
• Minimal impact from stronger S$. Maintain Overweight on valuations.

Encouraging RevPAR growth thus far

• Revenue per available room (RevPAR) in Aug 2018 grew by 5.5% y-o-y (+3.5% year-to- Aug), delivering the 7th consecutive month of positive RevPAR growth. This is a good turnaround versus -1.7% in 2017, underpinned by strong tourist arrivals (+7.8% Aug y-o-y, +7.5% year-to-Aug) and low supply in 2018 (281 vs. 3k rooms/annum in past 10 years).

Not expecting a price war

• Based on our online room rate research, the new hotels opened in 2018 have kept their room rates at a reasonable level and in line with the industry average while our conversations with the REITs recently suggest easing pricing pressure.
• We expect RevPAR recovery momentum to pick up towards the end of the year.

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Minimal concerns over the stronger S$ vs. some currencies

• The recent strengthening of S$ vs. some currencies has raised concerns over its impact on the hospitality industry. While a stronger S$ has in the past coincided with shorter average length of stay (ALS), the impact on overall RevPAR should be minimal as
  1. historically, a declining ALS is partially/fully offset by the higher proportion of visitor days spent in hotels, and
  2. the S$ may not be uniformly stronger against all currencies.
• For instance, YTD, the S$ has strengthened against the home currencies of 41% of the tourists to Singapore but weakened against the home currencies of 44% of the tourists.

Maintain Overweight

The sector is undervalued vis-à-vis other sub-sectors

• Despite the better outlook, the stocks under our coverage have underperformed the FSTREI Index YTD. The hospitality sector is currently trading at about -0.5x s.d. and long-term average yield of 6.2%.
• As compared to other sub-sectors, the sector is trading at more attractive valuation and offers a higher dividend yield. The large cap hospitality REITs are trading at lower 0.89-1.03x P/BV versus other sub-sectors’ 0.79-1.35x. For the small-mid cap REITs, hospitality REITs are also trading at lower 0.84-0.94x P/BV versus other sub-sectors’ 0.75-1.05x. Due to the lower valuations, the hospitality REITs offer better dividend yields as compared to other sub-sectors.
• The hospitality REITs are trading at an average of 0.92x P/BV. This is even lower than the not so favoured industrial and retail sub-sectors which are trading at above book value. Hence, considering the better outlook, we think that the sector which currently trades at -0.5x s.d. and offers 6.2% average yield is undervalued.

The recent underperformance was partly due to a one-off event and perceived slower RevPAR growth in Jul

• The stocks under our coverage (ex CDL Hospitality Trusts (CDLHT)) have underperformed the FSTREIT by 4-10% YTD which we believe was due to
  1. the weaker-than-expected earnings in 2Q2018 as occupancy was negatively impacted by the Trump-Kim Summit, and
  2. the perceived slower industry RevPAR growth of 2.8% in Jul versus an average of 3.3% in Jan-Jun 2018 and 6.6% growth in Jun 2018.
• The slower growth in Jul was not a surprise as RevPAR started to stabilise in Jul last year (higher base effect). We continue to expect a RevPAR recovery momentum build-up towards the end of the year as the competition eases from lower supply.
• YTD, CDL Hospitality Trusts (CDLHT) has outperformed the FSTREIT by 1.3% while ART and Far East Hospitality Trust (FEHT) have underperformed the index by 4% and 4.5% respectively. OUE Hospitality Trust’s share price (-10% versus FSTREIT) declined more than its peers as its share price continued its down trend after OUECT announced a rights issue for acquisition.

Expect share price performance to be relatively immune to the potential higher Fed funds rate

• Although the Fed has been raising interest rates since Dec 2015, the REITs’ valuations continued to improve until early this year when valuations declined in tandem with the broader market.
• The resilience of the sector’s valuation against the higher interest rates could be due to the fact that the sector was already trading at about -1 s.d. P/BV and a high yield spread of 5% pts. The hospitality REIT is still trading at -0.5 s.d. currently. Hence, we expect the valuation to continue to improve in tandem with the better outlook in spite of the expectation of higher interest rates.

Reiterate our Overweight recommendation

• Although we have reduced our RevPAR forecasts, they are still showing a turnaround versus multiple years of contractions in the past. This, coupled with the relatively weaker valuations versus other subsectors, supports our Overweight call on the hospitality sector.
• We expect the recovery momentum to accelerate towards the end of 2018 as the new hotels opened in 2017 start filling up their occupancy. Once the concerns of price competition and impact of S$ on RevPAR growth are removed, we think that the sector which currently trades at -0.5 s.d. and offers 6.2% average yield could trade to at least the long-term average of 1x P/BV (from 0.9x P/BV currently).
• CDL Hospitality Trusts (CDLHT) (Maintain ADD, Target Price S$1.70) remains as our top pick for 2019 as we think that the company will deliver stronger growth driven by the
  1. recovery of the hospitality sector in Singapore, and
  2. resumption of growth from Orchard Hotel and the rebranded Raffles Maldives Meradhoo Resort.
• We also expect the trust to make an acquisition by the end of 2018 or early-2019. CDLHT is also the bellwether hospitality stock.
• Far East Hospitality Trust (FEHT) (Maintain ADD, Target Price S$0.69) is our near-term pick given the stronger FY2018 y-o-y growth, driven by the acquisition of Oasia Downtown and the refurbishment completion of Orchard Parade Hotel.
• There is more room for a RevPAR recovery given the relatively higher occupancy rate and lower ARR. Among the hospitality stocks under our coverage, FEHT had one of the strongest RevPAR growth in 1H2018. Furthermore, the stock is trading at below book value and offers a high dividend yield of about 7%.

EING Kar Mei CFA CGS-CIMB Research | LOCK Mun Yee CGS-CIMB Research | https://research.itradecimb.com/ 2018-10-03

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