CapitaLand Commercial Trust - OCBC Investment 2019-06-24: Tailwinds From Rates But Price Is Not Right


CapitaLand Commercial Trust - Tailwinds From Rates But Price Is Not Right

  • Dovish Fed.
  • Not immune to macro challenges.
  • Yields at very tight levels.

Dovish Fed with possibility of rate cuts this year

  • The share price of CapitaLand Commercial Trust (CCT) has ballooned 22.3% YTD (total returns: +25.2%), supported by a flight to defensive safe names and a dovish bias from the Fed.
  • While the Fed left the benchmark rate unchanged (2.25%-2.5%) at the Jun FOMC meeting, it dropped the word “patient” in its statement. Furthermore, eight of the Committee members indicated that they were open to one rate cut this year, while only one preferred the status quo and another still called for a hike.
  • Based on the Fed funds futures rate, there is a 100% probability of at least one rate cut this year, while the probability of 2-3 rate cuts is high at above 70%.

Compression in yields overdone, in our view

  • Given this dovish Fed outlook and the increase in CapitaLand Commercial Trust’s share price as highlighted earlier, its FY19F distribution yield has compressed to 4.3%, based on our forecast, or 4.2% according to Bloomberg blended forward 12-month consensus.
  • The latter is not just at the lowest level over a 8-year period (-2.2 standard deviations from mean), but we would have to go all the way back to Nov 2007 when CapitaLand Commercial Trust (SGX:C61U) last traded at such tight valuations in terms of absolute yield.
  • While it is true that the Singapore government 10-year bond yield was at 2.8% then (2.0% currently), meaning that the yield spread was 134 bps at that point in time (Nov 2007), the current yield spread of 223 bps is still 1.7 standard deviations below the 8-year mean, which we believe is expensive. Let’s also not forget that global and Singapore’s GDP were growing at 4.7% and 6.6% during that period, versus consensus expectations of 3.3% and 2.2% growth in 2019, respectively.
  • Even if subsequent rate cuts do happen, it would likely be driven by a slowdown in macroeconomic conditions.

Office rents have room to grow but dependent on economic outlook

  • While we acknowledge that CapitaLand Commercial Trust’s high quality portfolio will remain resilient (portfolio WALE of 5.7 years by NLA as at end-1Q19), it would not be immune to the vagaries of the macro environment.
  • In a slower growth scenario, business sentiment would take a hit, consolidation of businesses would continue and going beyond 2019-2021, a bumper crop of office supply awaits in 2022.
  • We downgrade CapitaLand Commercial Trust from Hold to SELL, with an unchanged fair value of S$1.88 on valuation grounds.

OCBC Research Team OCBC Investment Research | https://www.iocbc.com/ 2019-06-24
SGX Stock Analyst Report SELL DOWNGRADE HOLD 1.880 SAME 1.880