SG Residential Property - OCBC Investment 2018-12-05: Tough Love For A Sustainable Future

Singapore Residential Property ~ OCBC Investment Research | SGinvestors.io UOL GROUP LIMITED (SGX:U14) CAPITALAND LIMITED (SGX:C31)

SG Residential Property - Tough Love For A Sustainable Future

  • 1H19 new launches could weigh.
  • Cheap valuations but watch the risks.
  • Top picks: UOL Group and CapitaLand.

A look back at 2018: Tumultuous returns amid surprising property cooling measures

  • Prior to the onerous set of property cooling measures in relation to the Additional Buyer’s Stamp Duty (ABSD) rates and Loan-to-Value (LTV) limits imposed by the Singapore government (with effect from 6 Jul this year), the Singapore developers under our coverage had already seen relatively lacklustre performance in their share prices (refer to Exhibit1 in the PDF report attached). We believe this was largely driven by trade war concerns and some slight concerns on potential policy tightening measures. The timing of the aforementioned cooling measures caught the market by surprise and compounded the negative returns for developers with significant exposure to the Singapore residential market.
  • YTD, all the Singapore-listed developers under our coverage have seen negative total returns ranging between -29.0% - City Developments Ltd (SGX:C09) to -4.2% - Hotel Properties Ltd (SGX:H15). City Developments (CDL) has unfortunately bore the brunt of the weakened investor sentiment, given that it is seen as a clear proxy to the Singapore residential market with its sizeable land bank.
  • We had downgraded our rating on City Developments to a ‘HOLD’ on 9 Jul, but upgraded the stock back to a ‘BUY’ on 12 Nov after its share price corrected 10.7%. Post our upgrade, City Developments’ share price has currently rebounded 3.2%, as at the closing price of S$8.72 on 4 Dec.

Quick recap on property cooling measures announced on 5 Jul and subsequent revision in guidelines on minimum unit sizes

Higher ABSD rates and lower LTV limits

  • The property cooling measures which came into effect on 6 Jul entails a higher ABSD rate of 10 percentage points (ppt) and 5 ppt for all entities and individuals, respectively, except for Singapore Citizens and Permanent Residents (PRs) making their first home purchase. An additional non-remittable ABSD of 5% will also be levied on developers purchasing residential properties for housing development.
  • Loan-to-Value (LTV) limits will be tightened by 5 ppt for all housing loans granted by financial institutions; revised LTV limits do not apply to loans granted by HDB.

Lowering maximum allowable units in new private flats and condominium developments outside the Central Area.

  • URA announced on 17 Oct a revision in guidelines to lower the maximum allowable units in new private flats and condominium developments outside the Central Area. Under the new rules, the maximum allowable number of dwelling units (DU) per development will be the building GFA divided by 85 sqm instead of 70 sqm which was in place since 2012.
  • Nine areas (previously four) including Marine Parade, Joo Chiat- Mountbatten, Telok Kurau-Jalan Eunos and Stevens-Chancery will face more stringent restrictions of having a minimum average requirement of 100 sqm. This will come into effect from 17 Jan 2019. We believe this will have a pronounced impact on the collective sales market, and may also exert some pressure on the margins of developers.
  • Separately, URA also announced that the bonus GFA cap for private outdoor spaces in residential developments (such as balconies, private enclosed spaces and private roof terraces) will be reduced from 10% to 7% (effective 17 Jan 2019). However, developers can still achieve up to 10% bonus by qualifying for other incentive schemes, such as the Green Mark Bonus GFA Scheme. Taking these into account, we expect developers to submit less aggressive bids for future land tenders.

ASPs have come under some pressure, but proven to be more resilient than our initial expectations

  • Following the significant spike in new launches by developers and frenzy buying by consumers for the month of Jul as market participants rushed to beat the deadline before the property cooling measures came into effect on 6 Jul, market transactions have since unsurprisingly cooled.
  • After 1,724 private units were sold by developers in Jul (+55.0% y-o-y), the subsequent months saw more tepid sales volumes from Aug to Oct (Aug: 617; Sep: 932; Oct: 487). However, an analysis on several projects which were launched on or shortly before 5 Jul revealed that while there were some pricing pressures post the cooling measures, ASPs have proven to be more resilient than our initial expectations.
  • Based on transaction data from URA REALIS, we note that ASPs for Riverfront Residences remained almost unchanged (-0.1%), while sales volumes have also been similar to pre-cooling measures. On the other hand, projects which saw more than a 5% decline in ASPs before and after the cooling measures include Garden Residences (-5.2%), Affinity at Serangoon (-6.0%) and Amber45 (-6.4%).

Some encouraging signs seen from launches post measures 

  • Projects which were launched after the cooling measures have seen mixed responses, but we note that there have been a number which have been encouraging. For example, City Developments’ Whistler Grand project, which was launched on 3 Nov, had sold 160 out of the 240 units released at an ASP of ~S$1,380 psf. This was only slightly lower than the S$1,398 psf sold for the nearby Twin VEW project (transactions before the announcement of the property measures).
  • Some high-end projects such as City Developments’ New Futura freehold project also managed to fetch an ASP above S$3,500 psf for the 104 units which were sold. For UOL, management highlighted that although the recent property cooling measures had adversely affected sentiment, it remains comfortable at the current run-rate of close to 70% and 30% sales for its Amber45 (six months after launch) and The Tre Ver projects (four months after launch), respectively.

Price growth of private residential properties has moderated post cooling measures

  • Prices of private residential properties in Singapore had found a trough in 2Q17 and looked poised for a firm recovery, increasing 9.1% from the nadir before the Singapore government stepped in with its policy tightening measures. According to National Development Minister Lawrence Wong, the measures are targeted at preventing property bubbles and stabilising the market so prices would move in-line with income growth and economic fundamentals.
  • Minister Wong further commented that had the government not intervened, property prices may have increased by 10%-15% this year. However, he also gave assurance that the government’s aim was not to bring prices down but to steady the property cycle. Based on URA data, the private residential property price index (PPI) increased only 0.5% q-o-q in 3Q18, a stark contrast to the preceding quarters (2Q18: +3.4%; 1Q18: +3.9%).
  • Meanwhile, the residential rental market is showing signs of a recovery, as the 3Q18 rental index grew 0.3% q-o-q, the third consecutive quarter of improvement. We believe this has been supported by manageable physical supply and demand from tenants and/or previous homeowners displaced from en-bloc transactions.
  • In terms of sub-markets, landed home prices rose 2.3% sequentially in 3Q18 (+8.5% YTD), while prices of non-landed properties was flat (+7.7% YTD). The Core Central Region (CCR) registered positive q-o-q growth of 1.3% in 3Q18 (+7.8% YTD), but the Rest of Central Region (RCR) and the Outside Central Region (OCR) saw negative price declines of 1.3% and 0.1%, but still up 5.5% and 8.6% YTD, respectively.

Transaction volumes have suffered

  • Although residential prices have thus far been fairly resilient as highlighted earlier, we are more concerned on the impact of the cooling measures on transaction volumes. Historically, if we look back at the ABSD revision and introduction of the total debt servicing ratio (TDSR) in 2013, there was a significant dip in sales volume. For 2013, private residential units sold by developers fell 33% to 14,948 units, followed by another 51% plunge in 2014 to 7,316 units. 6,959 units were sold for 9M18, and the full year figure is likely to come in lower than 2017.

Developers’ leverage has increased, but most balance sheets remain well capitalised

  • Notwithstanding the industry headwinds, we believe most of the developers have largely maintained a healthy balance sheet. For the developers we track, the average net gearing ratio came in at 65.5%, as at 30 Sep 2018, a slight increase as compared to end-2QCY18 (64.4%). Both data sets exclude Wheelock Properties (SG), which was successfully privatised by its parent in Oct this year. Looking ahead, we believe the tightening policies and macroeconomic uncertainties would result in developers adopting a more prudent and cautious approach towards land bids for government land sales (GLS) and en-bloc transactions. This will prevent them overstretching their balance sheets.

Share prices of Singapore developers performed well during the last major rate hike cycle

  • During the last major rate hike cycle, the Federal Reserve raised the fed funds rate several times from 1.25% in Jun 2004 to 5.25% in Jun 2006 before cutting rates by 50 bps to 4.75% in Sep 2007. During the period from Jun 2004 to Sep 2007, the FTSE ST Real Estate Holding & Development Index (FSTREH) jumped 248.4%, or 47.4% on an annualised basis.
  • The next leg saw the Fed funds rate being lowered from 4.75% in Sep 2007 and kept near zero until it was increased again in Dec 2015 by 25 bps to 0.375%. During this period, the FSTREH fell 25.8%, or -3.6% on an annualised basis.
  • The current ongoing cycle has seen the Federal Reserve hiking rates by eight times from Dec 2015 to Sep 2018 (inclusive). The current dots plot diagram suggests one more hike in Dec, and three in 2019. From Dec 2015 to now, the FSTREH rose 8.2% (up to 3 Dec 2018), or 2.7% on an annualised basis, although a large portion of the gains have been surrendered YTD.

Less speculative demand and dependence on foreigners than in the past

  • While the tighter regulatory landscape has dampened sentiment, we opine that overall risks in the system remain well-managed, as the amount of speculative activities have receded over the years, based on the number of sub-sales transactions tracked. Back in 2009, there were 3.8k sub-sale transactions, but this has since declined over the years and for 2017 and 9M18, there were only 374 and 263 sub-sales, respectively. Furthermore, we believe there is less reliance on foreigners to drive property sales as compared to the past.
  • To illustrate, foreigners contributed 15.6% of home purchases for all property types excluding ECs in 2011, but this figure has hovered around the 5% level since 2015, and currently stood at 4.8% as at 9M18. With the 20% ABSD on foreigners, we believe developers will seek to target local first-timers and HDB upgraders for their projects.

DEMAND DRIVERS - Positive factors:

Population, resident household formation and wage growth expected to remain stable

  • Singapore’s population growth was flat (+0.1%) in 2017 at 5.61m, but picked up slightly to 5.64m in 2018, implying a growth of 0.5%.
  • Looking ahead, we expect population growth to be relatively stable at 0.5%-1% per annum over the near future. As for Singapore’s resident household formation, we note that growth had held steady with at least a 2% growth per annum from 2013 to 2017, with the exception of 2016, which saw a stronger increase of 3.1%.
  • From 2013 to 2017, an average 27.6k resident households were added a year. As for wages, a survey by Willis Towers Watson revealed that salaries in Singapore are expected to increase at an average 4.0% in 2019, similar to that of 2018.

Collective sales proceeds to be redeployed into the property market

  • The en-bloc market was in full fervour until the government’s move to neutralise the animal spirits emanating from the aggressive bids by developers. While the collective sales market has dried up, we believe the previously concluded deals would still present sizeable opportunities as a portion of the displaced households would seek to buy replacement homes or to redeploy their cash windfall back into the physical market as investments.
  • From 2017 to 2018 YTD, we estimate that an aggregate S$18.4b worth of collective sales were announced, involving approximately 6.5k units.
  • Assuming 50% of owners will buy replacement homes, and that 80% of proceeds is owner equity, that would imply that ~S$7.4b of cash capital can be deployed back into the market for unsold homes (without leverage). If we apply a 45%-75% LTV assumption, approximately S$13.4b-S$29.5b of capital can potentially flow back to for home purchases. Assuming a quantum of S$1.5m per unit, we estimate that this would translate into 8.9k-19.7k of unit purchases. However, we acknowledge the difficulty of ascertaining the proportion of owners who will re-enter the market, given that they may have owned more than one home, or may look to rent instead.

Increased pool of demand from HDB upgraders given higher number of flats reaching minimum occupation period from 2019 

  • Using the completion status of HDB and DBSS flats as a proxy to estimating the end of the minimum occupation period (MOP) for these flats, we conclude that there will be a spike in the number of public housing which are eligible to be sold from 2019 onwards. Given that these households are potential aspiring upgraders, we believe there will be an increased pool of demand for the private residential market.
  • Based on our estimates, there will be approximately 30.2k, 24.2k and 25.5k of HDB and DBSS flats reaching their MOP in 2019, 2020 and 2021, respectively, versus a yearly average of 10.9k from 2012-2018 and 16.5k from 2016-2018.

DEMAND DRIVERS - Negative factors:

Global and Singapore’s economic expansion expected to moderate.

  • Based on official forecasts by the Ministry of Trade and Industry, Singapore’s economy is projected to expand at a pace of 1.5%-3.5% in 2019, which is a moderation as compared to the 3%-3.5% growth expected in 2018. Based on Bloomberg consensus forecasts, Singapore’s real GDP is estimated to grow at 3.3% for 2018, followed by a slower 2.7% in 2019 and 2.4% in 2020.
  • Downside risks to the economy would stem from increasing escalation of trade tensions between the U.S. and its key trading partners, coupled with a faster-than-expected tightening of financial conditions.

Cooling measures will continue to stifle market

  • The Jul cooling measures has increased the cost of owning a home in Singapore, with the exception of Singapore Citizens and PRs making their first home purchase. The use of leverage has also been reduced. As the impact of this has already been highlighted in the earlier parts of our report, we will not be elaborating further here. However, we wish to highlight that during the financial stability review published recently by MAS, it was revealed that although new housing loans have increased, the asset quality of housing loans remain solid. According to MAS, the share of loans that are more than 30 days in arrears was 1.0% and the non-performing loan (NPL) ratio was 0.4% in 3Q18. This was unchanged y-o-y.
  • We believe recently announced initiatives by the government would also bolster the ‘upgrade story’ over the longer term. For example, the Home Improvement Programme (HIP) II will enhance the value of the flats undergoing their second upgrading phase. This could potentially help to narrow the gap between HDB resale prices and private residential prices, thus giving HDB owners a higher chance of upgrading to the private market, in our view. Meanwhile, we believe the Voluntary Early Redevelopment Scheme (VERS) would increase the viability of older 5- room flats being sold in the secondary market in the future when it is eventually implemented, while also increasing liquidity for owners who are eligible to qualify for the VERS. All these factors would support the ability of public homeowners to potentially upgrade to private homes.

Immigration policies expected to remain stringent in the foreseeable future

  • We expect Singapore’s immigration policy to remain tight in the near-term. With the next General Election (GE) on the horizon over the next one to two years, we do not expect any significant loosening on this front.
  • During Budget 2018, the government highlighted that it will remain selective about the profile of Singapore's immigrants. However, we believe this issue could be revisited post the GE in order to support Singapore’s longer term economic growth, especially since fertility rates remain low.


Physical supply pressures not immediate, but could pose a risk in the medium term

  • Based on URA statistics, there are currently 50,330 residential units (excluding ECs) in the supply pipeline, as at 30 Sep 2018 (+11.8% q-o-q). Including ECs, there would be 53,164 units in the pipeline with planning approvals. There is also potential pipeline supply of a further 14,200 units (including ECs) from GLS sites and awarded en-bloc sale sites pending planning approval. However, a significant proportion of the physical supply pipeline will only come on-stream in 2021 and 2022.

Rising unsold inventory some cause for concern

  • Meanwhile, developers' unsold inventories with planning approvals increased to 31.9k units in 3Q18 from 27.0k in 2Q18. Of this, 24.0% is from the CCR, 45.4% is from the RCR and 30.6% is from the OCR. The level of unsold units of 31.9k is now only a tad below the 12-year average of 32.3k units. However, we note that 57% of the unsold inventory has yet to meet the pre-requisites for sale.

Bonanza of new launches expected in 2019; time to market is critical for developers

  • We believe one of the key risks to Singapore developers in 2019 would be the potential deluge of new project launches, and this is largely driven by the en-bloc transactions completed over the past 1.5 years. We estimate that there may potentially be close to 20k private residential units (excluding ECs) which could be released to the market, of which the bulk may be launched in 1H19. Some of these may not materialise due to delays and launches being carried out in phases over more than a year, especially for the projects with more than 1k units.
  • Nevertheless, the time to market would be critical for developers to beat the potential buyer fatigue. Given that consumers would have a whole suite of products to choose from, we believe developers would have to be sensitive in their pricing. In our view, this will curtail price growth for 2019.
  • Potential beneficiaries of this trend would be the real estate agency firms, such as PropNex (SGX:OYY) and APAC Realty (SGX:CLN). This is because the developers may be tempted to increase commission fees to incentivise the property agents to boost their selling efforts amid intense competition.

Projecting private residential price growth to soften significantly in 2019

  • Given the aforementioned factors, we expect the private residential price growth to come in near the low-end of our 8%-10% forecast for 2018.
  • Moving into 2019, we are projecting price growth to range between -3% to +2%, as slower economic growth and the deluge of new launches may act as a dampener on home prices. For private transaction sales volumes, we project 8k-10k units for 2018, and 10k-12k for 2019. Drawing reference from historical data, the correlation between Singapore’s private residential price growth and real GDP growth was 0.74 from 2006 to 2017. As highlighted earlier, Singapore’s economic expansion is projected to slow down to 2.7% in 2019 from the projected 3.3% in 2018.

Valuations cheap, but cautious on near-term outlook; position for the longer-term

  • Notwithstanding our cautious near-term outlook on the Singapore residential sector, we do believe valuations for Singapore developers are cheap, given that the FTSE ST Real Estate Holding & Development Index is trading at a forward P/B ratio of 0.53x, which is 1.7 standard deviations below its 10-year average of 0.78x. However, we opt to maintain NEUTRAL on the Singapore residential sector given the near-term challenges, and would prefer to position our calls for the longer-term.

Preferred picks are UOL and CapitaLand

  • Our preferred sector picks are UOL [Rating: BUY; Fair Value: S$8.41] and CapitaLand [Rating: BUY; Fair Value: S$3.96].
  • We believe UOL’s valuations are attractive given that it is trading at a deep RNAV discount of 51.3%, while we also like its strong investment properties portfolio. See report: UOL Group - The Time To Bottom-Fish Is Now.
  • For CapitaLand, we believe it will benefit from the progress between the U.S. and China to ameliorate their trade differences, and also like its capital recycling initiatives to unlock value for its shareholders. See report: CapitaLand - Proactive capital recycling to unlock value.

Wong Teck Ching Andy CFA OCBC Investment Research | Deborah Ong OCBC Investment | Joseph Ng OCBC Investment | https://www.iocbc.com/ 2018-12-05
SGX Stock Analyst Report BUY MAINTAIN BUY 8.410 SAME 8.410