REITs - RHB Invest 2018-10-16: Still A Better Place Amidst Uncertainties

S-REITs - RHB Invest Research | SGinvestors.io ASCENDAS REAL ESTATE INV TRUST (SGX:A17U) CDL HOSPITALITY TRUSTS (SGX:J85) STARHILL GLOBAL REIT (SGX:P40U) MANULIFE US REIT (SGX:BTOU) CACHE LOGISTICS TRUST (SGX:K2LU) OUE HOSPITALITY TRUST (SGX:SK7) CAPITALAND COMMERCIAL TRUST (SGX:C61U) CAPITALAND MALL TRUST (SGX:C38U) FRASERS CENTREPOINT TRUST (SGX:J69U) FRASERS COMMERCIAL TRUST (SGX:ND8U) KEPPEL REIT (SGX:K71U) SUNTEC REAL ESTATE INV TRUST (SGX:T82U)

REITs - Still A Better Place Amidst Uncertainties

  • Maintain OVERWEIGHT. We believe selective SREITs still offer value for investors despite lingering concerns over rising interest rates.
  • While we do not expect a broad-based sector outperformance, we believe SREITs with stock-specific catalysts continue to find favour.
  • Key reasons supporting SREITs: a favourable demand-supply outlook, inorganic growth potential from recent acquisitions, and well-equipped balance sheets to mitigate rising borrowing costs. While valuations are closer to mean, we do not think they are stretched.
  • Among the sub-sectors, our preference is for industrial and hospitality REITs (Ascendas REIT, CDL Hospitality Trust) – we believe they are well-poised to tap into demand growth.



Growth outlook balances rate hike threats.

  • SREITs (average) are trading at a 380bps yield spread to the Monetary Authority of Singapore’s 10-year bond yield. By comparison, the 10-year average mean spread (excluding the Global Financial Crisis period) stands at 400bps.
  • In terms of P/BV, the sector is now trading at par to the 10-year average mean – 0.98x (Figure3 & Figure4 in the PDF report attached). While valuations are closer to mean, we do not think they are stretched, considering that SREITs tend to trade at a premium when the growth outlook is positive (2013-2015).
  • Additionally, we note that SREITs still offer the highest yields among REITs globally (Figure1 in the PDF report attached) and believe defensive plays like REITs will still find favour with investors due to the volatile macroeconomic environment.
  • While the threat of faster rate hikes remains, we believe SREITs are in a relatively better position on:
    1. A demand outlook that remains positive on economic growth;
    2. The oversupply threat, which weighed across SREITs over last few years, is slowly fading away;
    3. Better-equipped balance sheet positions with hedges in place;
    4. Inorganic growth potential – REITs have been active in acquisitions over last two years, taking advantage of low interest rates and liquidity.


REITs: A potential beneficiary of recent cooling measures?

  • The latest en-bloc cycle has resulted in liquidity injections of ~SGD19bn (en-bloc sales in 2017-2018), a lot of which have yet to be disbursed. Post recent cooling measures – based on our anecdotal observations – most en-bloc sellers are either taking a longer time (the wait-and-watch approach) or considering downsizing before buying another property.
  • We believe there is a good chance the excess liquidity from en-bloc sales can flow into relatively defensive REIT stocks, owing to their attractive yields and liquidity.


Well-prepared for the current rate hike cycle

  • Our analysis of SREITs balance sheets shows they are well-prepared for the current rate hike cycle compared to the past. On average, close to 80% of REIT debts are hedged, with only < 20% of total debt due for renewal up until 2020. Consequently, the rising interest rates should not have a significant impact to interest cost expenses.
  • Overall, sector gearing also remains modest at 36%, well below the 45% maximum threshold.
  • Additionally, many REITs have also diversified their funding options to include instruments like perpetual securities, retail bonds and medium-term notes, and preferential offerings.



S-REIT Sector Outlook


Industrial: Rent stabilising, positive demand outlook amid tapering supply

  • Singapore’s Manufacturing Purchasing Managers Index (PMI) has been on an expansion trend for the 25th straight month in September. The sustained growth momentum in PMI underpins the fact that the domestic manufacturing sector has been holding up fairly well despite the ongoing US-China trade war. Key drivers: growth in the electronics sector, factory output, and employment.
  • Additionally, based on the Economic Development Board’s business sentiment survey in July, the majority of firms in the manufacturing sector (weighted 85%) expect the business outlook to remain favourable till end-2018. Among the sub-segments, the transport engineering sector is the most optimistic. This is followed by the electronics, bio-medical and precision engineering industries.
  • The positive data points above augur well for growth in industrial demand. Based on JTC Corp data, about 1.6m sqm of industrial space is expected to come on-stream in 2018, with further supply tapering from 2019 onwards. By comparison, average supply stood at 1.8m sqm over the last three years.
  • Demand-supply dynamics remains the most favourable for the business park segment, followed by high-tech industrial spaces. While the logistics segment is still grappling from high-influx supply, we expect the segment to stabilise in 2H18 and see some pick-up by early 2019. Overall, we expect domestic industrial rent to increase by 1-5% for 2018 and 2019, with the business parks and high-tech segments being the early cycle play – the logistics segment will be the late cycle play.
  • For stock exposure, Ascendas REIT remains our Top Pick on its:
    1. Well-diversified industrial property exposure;
    2. Efficient capital recycling strategy;
    3. Inorganic growth potential from recent acquisitions.
  • In the logistics space we expect Cache Logistics Trust to benefit from the logistics sector turnaround in 2019.


Hospitality: In a sweet spot

  • According to the Singapore Tourism Board’s official data, the island republic’s hotels revenue per available room (RevPAR) bottomed out in 2017 and has rebounded 3.52% YTD (till August). This came as visitor arrivals YTD rose a robust 7.5%YoY.
  • One of the key reasons behind hospitality REITs’ underperformance over the last two years has been the steady decline in hotel RevPAR post the 2012 peak. This decline was mainly driven by high hotel supply growth. For the last four years, hotel supply growth in Singapore has been at 4-5% pa, exceeding the 1-3% demand growth. This has resulted in pressure on hotels’ average daily rates.
  • With the supply effects tapering from this year – CAGR supply of 1.3% pa between 2018 and 2020 – and demand drivers remaining robust, we believe this sector is now at the start of a multi-year recovery. Aside from steady increases in leisure travellers, we also expect Singapore to benefit from its growing stature as a prominent global meetings, incentives, conferencing & exhibition (MICE) destination.
  • Overall, we expect RevPAR to increase 3-7% in 2018-2019, with the following factors as key drivers:
    1. Visitor arrivals to increase 4-7% in 2018-2019;
    2. Steady pipeline of new attractions and Changi Airport’s growing prominence as a regional aviation hub;
    3. Better global economic conditions resulting in an increase in corporate travel;
    4. A strong pipeline of MICE activities, especially with Singapore holding the ASEAN Chairmanship post in 2018.
  • CDL Hospitality Trust is our Top Pick for hospitality REITs due to its strategic hotel positioning across the island, which will help in tap into leisure and corporate travel growth.
  • OUE Hospitality Trust, which is a pure-play in the domestic hospitality sector, is also expected to benefit from robust tourism growth.


Office: Favourable dynamics, but positive effects on REITs will likely flow through from 2020

  • Based on CBRE data, the future supply of office space from 2H18 to 2021 is estimated at 3.8m sqf, or an average of 1.12m sqf pa. This is 38% lower than the 10-year average supply of 1.8m sqf pa and significantly lower than the 3m sqf of supply that hit the market in 2017.
  • On the demand front – in line with Singapore’s improving economy – office demand has remained healthy, albeit driven by a few key main tenant segments: co-working space operators, and technology and insurance companies.
  • Overall, office vacancy rates were flattish at 5.9%, of which Grade-A office rent rose 4.1% q-o-q in 2Q18 – this was based on CBRE’s estimates. The demand-supply outlook for the sector remains favourable in the near term.
  • While we expect Grade-A office rent to increase 5-15% in 2018-2019, the rent reversions for landlords are likely to remain muted. This is because many of the leases up for renewal were signed during the office market peak of 2013-2014, during which average rent was 5- 15% higher than current market rates. As a result, we expect the positive impact – DPU growth – to be felt by 2020 only.
  • We remain neutral on this sub-sector and recommend investors buy CapitaLand Commercial Trust on weakness.


Retail: Some positives, but outlook remains soft on higher supply

  • Despite the slight uptick in retail sales in recent months – excluding motor vehicles – sentiment on the ground continues to remain weak. This is amid fast-changing consumer trends and the e-commerce threat.
  • Based on CBRE data, c.2.5m sqf of retail supply (5% of inventory) is expected to come on-stream over the next three years. This translates into around 0.83m sqf pa of supply, higher than the 10-year average net demand of about 0.68m sqf. The higher supply, amid relatively weak retail demand, should continue to limit retail rent growth. We expect retail rent to stay flattish for 2018.
  • Amidst the challenging environment, we expect only well-positioned defensive suburban malls to register decent performances. Overall, retail rent is expected to stay flattish for 2H18, while vacancy rates are expected to see a slight increase, as more supply hits the market.
  • We recommend Frasers Centrepoint Trust to investors looking for retail exposure. This is set enhancements, as well as its stable suburban mall portfolio, solid balance sheet, and acquisition potential.


Overseas REITs: Manulife US REIT is a good proxy to US labour growth

  • Among the Singapore-listed overseas REITs, we like Manulife US REIT for its pure-play office exposure to the rebounding US economy and office market.
  • The impact of a rate hike should also be mitigated, as this ought to result in continued potential strengthening of the USD. This, in turn, is likely to benefit Asian unit holders in local currency terms.
  • Also, the rate hikes comes on a strong labour market and wage growth, which is likely to benefit US office demand.





Vijay Natarajan RHB Securities Research | https://www.rhbinvest.com.sg/ 2018-10-16
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