Singapore REITs - Maybank Kim Eng 2021-01-04: Reset, Recover


Singapore REITs - Reset, Recover

Staying with recovery and growth themes

  • We stay constructive on S-REITs in 2021. While a steepening US yield curve typically discriminates yield stocks, capital inflows into the sector as a whole will likely sustain, given strong liquidity and visibility of cashflows, underpinned by rising overseas contributions, especially for industrial REIT names.
  • In the absence of a strong rental upcycle amid Singapore’s sluggish U-shaped upturn, we expect the market will remain focused on DPU recovery on the back of its reopening, and the emerging structural trends catalysed by the pandemic.
  • We believe our BUYs, Ascendas REIT (SGX:A17U) (top pick), CapitaLand Integrated Commercial Trust (SGX:C38U), Mapletree Logistics Trust (SGX:M44U) and Frasers Centrepoint Trust (SGX:J69U) are the best proxies to play into these themes.
  • Inorganic growth could also arise from accretive acquisitions funded by debt, lifting DPUs by up to 14% on average, assuming headroom is fully-deployed.

Valuations pulled back, undemanding versus peers

  • While expectations of faster economic growth along with the start of the next rate hike cycle had moderated broader investor interest in the sector since Oct 2020, supportive monetary policy remains well in place. The Fed Funds rate could steepen in 2H21 as economic recovery consolidates, and we continue to view this as being accommodative versus history, as it rises from 0.90% to 1.25% by end-2021 and 1.50% by end-2022, as the 10-year Singapore government bond yield in turn touches 1.10%, then 1.30%.
  • S-REIT valuations have pulled back, but look set to provide the second-highest dividend yields and third highest yield-spread of 3.4% against developed market peers.

Prefer Industrial REITs -> Retail REITs -> Office REITs -> Hospitality REITs

  • We expect a stronger outlook for 2021 across all physical market segments, with the exception of offices, as tenant downsizing and increasing remote work practices exacerbate weak demand.
  • We see better DPU visibility for industrial REITs, backed by structural demand tailwinds and rising overseas contributions.
  • Suburban retail malls remain a resilient asset class and better geared to recovery, as shopper traffic and retail sales gain traction on the back of easing social distancing restrictions.
  • Demand visibility remains low for hospitality although RevPARs should gradually recover, while an anticipated stronger business calendar in 2022, reopening of borders, and a benign supply outlook, could strengthen recovery further.

Industrial REITs – Themes intact

  • Industrial REITs’ DPUs have stayed relatively resilient amid the pandemic, and look set to recover in 2021. These will be driven by their rising overseas contributions, as the assets are supported by embedded rental escalations, and also tailwinds from structural trends accelerated by the pandemic:
    1. broadening e-commerce adoption,
    2. supply chain diversification, and
    3. increased remote working.
  • We expect these themes will continue to play out in 2021 and beyond, and to skew both demand growth and acquisition appetite towards prime logistics and data centre properties.
  • Construction timelines for several ongoing developments were disrupted by the pandemic, resulting in the rollover of new industrial supply to 2021-22. Future supply of 24.8m sf from 4Q20 to 2023 or 7.0m sf pa and concentrated in factory space at ~70%, is ample and could add 4.8% to stock, albeit this tapers from the historical 10-year average of 12.7m sf pa from 2010-19.
  • For business parks, the average new supply of 0.6m sf pa for 2020-23 is on par with the historical five-year annual average, as six projects set to complete by end-2021 will add 1.8m sf. Four are targeted at end-users, including new headquarters in one-north for Wilmar (0.2m sf), Razer (0.2m sf), and Grab (0.4m sf), and Surbana Jurong Campus at Cleantech Loop (0.4m sf).
  • As government stockpiling eased off in 3Q20, leasing activity for warehouse and prime logistics spaces has remained stable, contributed by third-party logistics, e-commerce and food logistics players. Occupancies improved q-o-q and y-o-y for Mapletree Logistics Trust (SGX:M44U), ARA LOGOS Logistics Trust (SGX:K2LU) and AIMS APAC REIT (SGX:O5RU) and remain tight at 94- 99%, thus strengthening visibility for logistics space. This and a subdued supply pipeline should support rental growth into 2021.
  • Demand is soft for multi-tenanted factory space, as industrialists paused expansion plans to recalibrate their space requirements against weaker trading conditions, with negative rent reversions set to persist till at least 2H 2021. Expansions by technology sector tenancies support demand for business park and high-specs industrial space, and also rent recovery in 2H 2021.
  • We select stocks which are beneficiaries of improving DPU outlook and could be rewarded with tighter market yields. We see the recent correction as opportunities to add to these structural growth names.
    • Ascendas REIT (SGX:A17U) (BUY, target price S$4.00) remains our top pick, as strong execution on AEIs, redevelopments and acquisitions has increased the concentration of ‘new economy’ type assets (business parks and suburban offices), while its sound balance sheet should support further scaling up of portfolio in its core markets.
    • We like Mapletree Industrial Trust (SGX:ME8U) (BUY, target price S$3.40) as its portfolio is now more resilient, with DPU visibility strengthened by its rising hi-tech asset investments and overseas diversification.
    • We also prefer Mapletree Logistics Trust (SGX:M44U) (BUY, target price S$2.40) as it is geared to multiple structural growth themes – rising e-commerce demand and supply chain diversification – both of which have been accelerated by the pandemic.

Retail REITs – Reopening, resilience in play

  • Shopper traffic and retail sales have registered a pick-up with Singapore’s re-opening and will gain traction in phase 3, as social distancing restrictions ease and more people return to offices. Tenant sales were already back to 78-98% of pre-COVID-19 levels in 3Q20 (from 37-95% in 2Q20), and ahead of footfall, which was down 40-50% y-o-y, but this decline should moderate with the anticipated 25% increase in capacity limits for malls and large standalone stores (from 10 sqm to 8 sq m per shopper). Meanwhile, retail sales fell by a softer pace of 8.6% in Oct 2020, improving from -10.7% in Sep, while online sales has risen to 10.5% of total retail sales and 11.7% for 10M20, as compared to 5.8% for 2019.
  • Against the challenging operating backdrop, retailers downsized their store footprints while others exited the market, with further consolidation likely among weaker performing stores. Department stores were struggling before COVID-19 as they fought to stay relevant amidst changing consumer preferences and the proliferation of online retail, and fared worst despite the exit from the ‘circuit breaker’, with sales at ~40% below pre-pandemic levels. Robinsons emerged as the latest casualty of the pandemic, as it announced the closure of its last two stores at end-Oct 2020. F&B tenants are at 12-38% of REITs’ gross rental income, and remain in cautious expansion mode.
  • Supply growth has outpaced sales growth in recent years, but should reverse with the limited pipeline of 0.3m sf pa from 2021-23, versus 0.7m sf over 2015-19. This will help cushion vacancies, which rose from 7.5% as of end 4Q19 to 9.6% in 3Q20.
  • Rental corrections accelerated in 3Q20 with expiry of (government-backed) rental rebates, while downtown malls relying on tourist and office footfall suffered greater stress, pushing rent premium between prime suburban and Orchard Road to a historical low of 3.5%. We expect this gap to narrow further, without the tailwinds from tourism spend, traditionally accounts for ~20% of retail sales, limiting scope for positive rental reversions in 2021.
  • Suburban malls, now in closer proximity to a work-and-live population, on the back of increasing remote work practices, remain a resilient asset class and our preferred exposure. This is also given their higher essential services (F&B, services, supermarket & hypermarket) trade mix at ~40% of overall NLA and ~55% of gross rental income, relative to downtown malls.
  • Frasers Centrepoint Trust (SGX:J69U) remains our preferred pick, as its market share of suburban retail floor space has jumped from 5.4% to 10.2% following the AFR acquisition, while its liquidity improved due to the S$1.3b EFR in Oct 2020. Its portfolio has been cleaned up with the divestments of two underperforming assets - Bedok Point, and Anchorpoint, to complete by 22 Mar 2021. We forecast DPU growth of ~39% for FY21, driven by the consolidation of the ARF assets and tax savings.

Office REITs – Fundamentals weak, Work-from-home a structural negative

  • We expect office leasing momentum to slow further in 1H21, with occupiers holding back on expansions and business sentiment staying cautious as firms struggle with weaker revenue. We estimate net office absorption gradually improves to 0m sf in 2021 from -1.0m in 2020, then +1.0m sf in 2022 as the economy rebounds, bringing net absorption to zero from 2020-22. This is slower than the improvement seen in 2004, and below the average annual net absorption of 1.0m sf from 2015-19, as Singapore’s GDP recovers at a modest +4.5% in 2021 and +3.0% in 2022 from a contraction of -5.7% in 2020.
  • Against the recessionary backdrop, businesses are looking to curb costs with many downsizing through renewals or relocations. At the same time, firms are assessing office space needs as they ease out from the pandemic.
  • We believe financial institutions and professional services firms will be the most willing to implement WFH arrangements, as they trim office space needs with a larger proportion of their staff working remotely. We assume CBD office occupiers could aim to reduce their footprint by 10-20% over three years, with demand to fall by 0.5-1.0m sf pa from 2020-22, to offset the effects of de-densified office layouts. See Singapore Office REITs - Maybank Kim Eng 2020-12-15: Working In A New Normal ~ Fundamentals Weak; Work-From-Home A Structural Negative.
  • After factoring in elimination of stock due to redevelopment projects, we estimate no new net supply till 2023. The supply removed represents largely Grade B office stock or those at fringe CBD locations, where rents are at a significant discount to Grade A offices. Hence occupiers displaced by potential redevelopment works could relocate to other fringe CBD locations or business parks, which are currently seeing high vacancies of ~15%.
  • We forecast rents for Grade A office to decline by a further 5% in 2021, after falling 10% in 2020, then rise by 5% in 2022. This is on the back of weak demand at least until 2H21, and with increasing WFH and tenant downsizing offsetting near-term gains from social distancing measures and thin supply. We expect the rental decline to be underpinned by island-wide vacancies, which rose from 10.5% in 4Q19 to 12.0% in 3Q20 on the back of the slowing economy, and which could widen to 13.0% through 2022.
  • We have SELLs on Keppel REIT (SGX:K71U) (SELL, target price S$0.90) and Suntec REIT (SGX:T82U) (SELL, target price S$1.20). Their leverage would have risen to ~37% and ~43% respectively after their recent acquisitions, higher than their large-cap peers at 34-39%, and this could limit their debt capacity to fund further deals. At the same time, the high forward dividend yields for office REITs, which are above the 3-5% cap rates for prime office assets globally, could limit opportunities for DPU-accretive deals.
  • We believe it will be challenging for office REITs to raise equity to fund acquisitions, as they are trading at below 1x P/B. While this would reflect concerns on declining office rents and potentially lower capital values, we also see limited scope for asset recycling, or at the least, we think this would likely have a neutral DPU impact given weak pricing power in this cycle.

Hospitality REITs – In transition

  • While the pandemic has written off previous year’s gains, travel-enabling solutions are progressing, with Singapore having introduced several government-to-government arrangements. They include fast/ green lanes to facilitate essential and business travel with countries with low virus transmission rate and quarantine-free air travel bubbles to promote tourism recovery. However, ballooning Covid cases in Hong Kong have since derailed plans for the latter, from 21 Nov 2020 to 2021. With international leisure travel unlikely to reopen soon, the STB further initiated a S$45m marketing campaign, together with a S$320m credit scheme for Singaporeans to encourage domestic tourism.
  • The rollout of vaccines spells the start of a recovery for the hospitality sector, but it remains to be seen if business travel volumes will be adversely affected in the long run by a shift towards virtual meetings. We expect demand to take three years to normalize to pre-pandemic levels, but full recovery will take time across markets and regions and at differing paces. Stricter border controls which are likely to persist even after the pandemic is over, will change the future of air travel, while virus tests at airports will increase costs and time. See report in PDF: ASEAN Economics 13 Nov 2020 - The Post-Pandemic Normal.
  • Demand visibility remains low, but we expect RevPARs to gradually recover in 2021, supported by an uplift in ADR as hoteliers move away from lower yielding bulk government business in 2020 serving stay-home-notices and quarantines, towards staycation demand. We have penciled in a 10% ADR growth, with occupancies improving by 15% to ~70-75%, and RevPAR rising ~25%. Afterwards, an anticipated stronger business calendar in 2022, reopening of borders, coupled with a benign supply outlook, could strengthen RevPAR recovery further.
  • With hospitality REITs up 11-31% since Oct 2020, ahead of the sector’s 10% rise, the market has likely priced in an earlier-than-anticipated recovery, while waiting for DPUs to catch up. We have kept DPUs unchanged but raised target prices in line with higher COEs.
  • We remain positively biased towards Ascott Residence Trust (SGX:HMN) (BUY, target price S$1.25), as its properties are leveraged to sizeable domestic markets, which should support RevPAU recovery in FY21-22. We like its diversified portfolio, concentrated long-stay assets, and S$180m in residual divestment gains, which could lift capital distributions amid slower DPU growth.
  • Far East Hospitality Trust (SGX:Q5T)’s (BUY, target price S$0.70) pure Singapore operations has been bolstered by transient demand originating from travel and border restrictions, with occupancies for its hotels and serviced residences high at 87-97%, and RevPARs/RevPAUs declining less than its peers. The high proportion of minimum fixed rent from its master lease offers downside support amid a slow recovery in 2021.

Balance sheets strong, deals to pick up pace

  • Sector balance sheets are strong with average leverage at 36.9% as of end-Sep 2020, and debt headroom (at 50% limit) at 13-50% of AUMs. We expect acquisitions in business parks, data centres and logistics assets will likely gain pace in the coming quarters. Ascendas REIT (SGX:A17U) raised S$1.2b in new equity and has set aside S$750m for the acquisition of a portfolio of data centres in Europe, after completing the purchase of its fifth suburban office property in Australia in Dec 2020. Low cost of equity particularly for the larger REITs, and borrowing costs, should extend support for DPU-accretive deal opportunities.
  • We expect Ascendas REIT (SGX:A17U), Mapletree Industrial Trust (SGX:ME8U) and Mapletree Logistics Trust (SGX:M44U) to push further on overseas diversification, backed by their visible sponsor pipelines.
  • See S-REITs peer comparison table in the PDF report attached below.

Chua Su Tye Maybank Kim Eng Research | https://www.maybank-ke.com.sg/ 2021-01-04
SGX Stock Analyst Report BUY MAINTAIN BUY 4.000 SAME 4.000