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Singapore REITs - Rising 10-Year Yields A Bane For S-REITs; Beating The Odds.
- S-REITs underperformed the STI in 10 out of 12 periods when 10-year yields rose by 50 basis points or more over a three to six month period.
- Weakness is an opportunity to accumulate - S-REITs generally turn outperformers in the subsequent 6 to 12 months after a pause in rising 10-year yields.
- Higher than average yield spreads of 4.7% and a robust DPU growth profile to drive sector re-rating.
- Focus on S-REITs with growth and potential to hit pre-pandemic DPU in 2021.
Rising rates on firmer economic growth
Rising 10-year yields on recovery expectations; yield curve to steepen further.
- Rising 10-year yields is a bane for S-REITs. The 10-year benchmark US yields have been rising and are now close to 40bps off the lows seen back in Nov 2020.
- According to DBS economists, this is confidence returning on the economic recovery. We believe that the Federal Reserve (FED) is unlikely to hike rates in the immediate two years, meaning that near-term rates (2-year yields) will likely remain anchored at low rates.
- As clarity of a recovery emerges in the coming quarters, the expectations are that the yield curve will continue to steepen as well from the current 100 bps to 130bps by end of 2022. Most recently, our economists have since increased interest rates assumptions by 10-20bps over the next 2 years and expect the 10-year yields to rise to 1.75% (vs 1.40% currently) by end of 2022.
SG rates face upward pressure.
- Similarly, Singapore (SG) rates are expected to face upward pressure on the back of rising US rates given the close correlation between SG and US rates. In line with the hike in the US 10-year yield forecasts, our economists now expect the SG yield curve to steepen by about 60 basis points over the course of 2 years (from 80bps in 1H21 to 105bps) with spot yield curve at 85 bps, implying most of the steepening will likely happen.
- Looking ahead, we believe that further steepening will be gradual though there are upside risk to these forecasts if economic conditions improve ahead of expectations.
Rates and REITs
S-REITs generally underperformed when 10-year yields rose by 50 basis points or more.
- As highlighted in our outlook report S-REIT Picks for 2021 - DBS Research 2020-12-11: Ride The Winds Of Change; Time To Venture Out, the SG 10-year benchmark yields and the slope of the yield curve is a key datapoint to watch as there is a historical close negative correlation between rising 10-year yields and the Singapore REIT Index (FSTREI Index), especially when the yield curve steepens by more than 100bps over a short period of time (i.e. 6 months)
- Rising 10-year yields generally represents investors’ expectations of higher inflation rates on the back of stronger economic growth prospects. In this scenario, we generally see a rotation into more cyclical sectors, resulting in an outperformance of the Straits Times Index (STI) when compared against the S-REIT Index. Within S-REITs, we have also seen a general outperformance of the cyclical sectors like Retail and Office S-REITS when compared against the more stable industrial S-REITs. See S-REITs Share Price Performance.
- We have observed that since 2005 to 2021, there were 12 periods when the 10-year yield had increased by 50 basis points or more. During this time, the S-REITs generally underperformed the Straits Times Index (STI) in 10 out of the 12 periods. While the latest hike in SG 10-year yields of 0.3% to 1.1% from Nov 2020 to 18 Feb 2021, the S-REITs sector still returned a positive ~9.3% over the same period, but notably underperform the STI’s ~19.5% return.
- See the data tables in report attached below.
S-REITs to outperform in the next 6 -12 months.
- We expect the S-RETs’ underperformance to swing to outperformance in the subsequent 6-12 months compared to the STI, implying that investors will be able to generate alpha if they buy into the current weakness. This trend has been consistent since 2013, which we reckon is due to the S-REITs increasing relevance and higher market cap coupled with the wider spreads vs 10-year yields (on average of ~4.0% since 2013). This offers ample buffer for investors and should help to drive a re-rating of the sector when the rise in 10-year yields tapers off.
- Looking ahead, with S-REITs offering forward DPU yields of 6.0%, this represents a spread of close to 4.9% or 4.7% on a forward basis (compared against end-2021 10-year yield of 1.3%), the widest spread since 2013. This creates ample buffer to prevent a significant de-rating of share prices in the S-REIT sector. We thus believe that once the hike in 10-year yields starts to taper off, especially when the steepening of the yield curve (spot of 85 bps vs expectation of that to happen by 1H21), implying that a majority of the steepening have happened. This means that S-REITs prices should find stability.
Our S-REIT Picks: Time to venture out
Buy S-REITs with growth potential.
- While S-REITs have lagged the STI year-to-date, we believe investors should accumulate selectively on weakness. We see support from
- wider than average sector yield spreads (vs 10-year bonds) of ~4.9% (4.7% on forward basis),
- a strong rebound in DPUs of up to ~18% (~13% ex-hospitality S-REITs) as re-rating catalysts.
Pick the winners.
- We maintain our stance and believe that the recovering Singapore economy in 2021 brings more confidence that downside risks to earnings are likely to dissipate.
- We believe it pays for investors to continue allocating capital from the resilient industrial S-REITs to the pandemic-hit subsectors and pick winners like retail, office and hospitality S-REITs in 1H21. We have seen this strategy unfolding and with news of various vaccine candidates entering production during 2021, these sub-sectors should outperform.
Our 2021 S-REIT Picks.
- We recommend taking a balanced approach in our S-REIT picks in 2021, with a focus on growth and ability to deliver pre-pandemic DPUs in 2021 as a preference. We also favour S-REITs with pipelines to drive earnings surprises either through acquisitions or demand shifts.
- We like the following logistics S-REITs as possible “vaccine plays” for possible demand for warehouse storage (especially cold store) for vaccine distribution in the coming years.
- Among the other subsectors, we like the following retail S-REITs for their ability to deliver pre-COVID-19 DPUs supported by dominant malls and possible asset injections.
- Commercial landlords with a diversified portfolio of Grade A and suburban business park assets are preferred given their ability to capture demand despite a possible shifts in office space requirements.
- Lastly, we stay the course in the following hospitality s-REITs for their potentially robust CAGRs in DPUs as borders re-open.
Read also:
Geraldine WONG
DBS Group Research
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Derek TAN
DBS Research
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https://www.dbsvickers.com/
2021-02-19
SGX Stock
Analyst Report
1.200
SAME
1.200
1.350
SAME
1.350
2.350
SAME
2.350
3.000
SAME
3.000
1.850
SAME
1.850
