Singapore REITs - UOB Kay Hian 2022-09-27: Rate Hikes Have Reached A Crescendo

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FRASERS CENTREPOINT TRUST (SGX:J69U) LENDLEASE GLOBAL COMMERCIAL REIT (SGX:JYEU) MAPLETREE LOGISTICS TRUST (SGX:M44U)

Singapore REITs - Rate Hikes Have Reached A Crescendo

• While the next two rate hikes will be steep, at 75bp on 2 Nov 22 and 50bp on 14 Dec 22, 4Q22 could be the last quarter of pain as the intensity of rate hikes is expected to be modest in 2023.
• We like hospitality and retail REITs as reopening plays and logistics and data centre REITs as new economy plays.
• Our bottom-up and diversified BUY picks for Singapore REITs are
  • Ascott Residence Trust (SGX:HMN) – (renamed as CapitaLand Ascott Trust (SGX:HMN) w.e.f 2022-09-30) (Target Price: S$1.29),
  • Frasers Centrepoint Trust (SGX:J69U) (Target Price: S$2.56),
  • Lendlease Global Commercial REIT (SGX:JYEU) (Target Price: S$0.91),
  • Mapletree Industrial Trust (SGX:ME8U) (Target Price: S$3.12) and
  • Mapletree Logistics Trust (SGX:M44U) (Target Price: S$1.94).
• Maintain OVERWEIGHT on S-REIT sector.

Ferocious rate hikes almost reaching a climax.

• The Fed has maintained its disciplined and hawkish stance and hiked the Fed Funds Rate by a third consecutive 75bp to 3.00% after the FOMC meeting on 21 Sep 22. Based on the Fed’s dot plot, the median projected path for Fed Funds Rate would hit 4.4% by end-22 and 4.6% by end-23.
• The projection is expected to lead to continued steep rate hikes on of 75bp on 2 Nov 22 and 50bp on 14 Dec 22, bringing the Fed Funds Rate to 4.25 by end-22. The rate hikes are front-loaded in 2022 and the intensity of rate hikes is expected to be modest in 2023.

Anticipating pain but striving to engineer a soft landing.

• The Fed is concerned that inflation remains elevated, driven by imbalances between demand and supply. It prioritises quelling inflation and has promised to “keep at it until the job is done.” Based on economic projections submitted by FOMC participants, GDP growth is expected to slow to 1.2% and unemployment rate should rise to 4.4% in 2023.

An inverted yield curve foreshadows risk of a potential US recession.

• Inflation has moderated but at a stubbornly slow pace. The US yield curve has flattened in 1H22 but inverted in 3Q22. Yield for 2Y US government bond shot up by 125bp in 3Q22, outpacing the increase of 67bp for 10Y US government bond.
• The 10Y–2Y term spread has turned negative since Jul 22 and is currently -0.52%. The current short-end of the yield curve implies forward short-term interest rates at 4.0% for 1Y, 4.5% for 2Y and 4.3% for 3Y, indicating a possibility of rate cuts in 2024.

US recession is not inevitable.

• The strong labour market increases the likelihood of a soft landing for the US economy. The unemployment rate inched higher by 0.2ppt m-o-m to 3.7% in Aug 22, near a 50-year low. Companies added 315,000 non-farm jobs, while average hourly earnings grew 4.4% y-o-y. There are currently 1.8 job openings for every unemployed worker. The strong labour market supports domestic consumption, which accounts for 68% of US GDP.

Maintain OVERWEIGHT on S-REITs

• S-REITs are not out of the woods yet, but the recent easing of inflationary pressure provides some respite. They own the underlying real estate across various asset types, which provide a hedge against inflation. S-REITs provide an attractive distribution yield of 5.90%, which is 0.9SD above long-term mean. Downside is limited to a correction of 10.1% if yields spike to 2SD above mean at 6.56%.

S-REITs weathering headwinds from higher interest rates.

• We have revised our DPU forecasts and target prices for S-REITs lower due to the following:
  1. We expect the Fed Funds Rate to hit 4.25% by end-22 and 4.50% by end-23. We have cut our 2023 DPU by an average of 2% due to higher cost of debt.
  2. Yield for Singapore 10-year government bond has increased 35bp to 3.33% in 3Q22. We have likewise adjusted the risk-free rate for our DDM valuation from 3.0% to 3.25%.
• We have cut our target prices for the following S-REITs by an average of 7%.
  • Hospitality sector:
    • Ascott Residence Trust (SGX:HMN) (renamed as CapitaLand Ascott Trust (SGX:HMN) w.e.f 2022-09-30),
    • CDL Hospitality Trusts (SGX:J85),
    • Far East Hospitality Trust (SGX:Q5T).
  • Industrial sector
    • Ascendas REIT (SGX:A17U) (renamed as CapitaLand Ascendas REIT (SGX:A17U) w.e.f 2022-09-30),
    • Digital Core REIT (SGX:DCRU),
    • Mapletree Industrial Trust (SGX:ME8U),
    • Mapletree Logistics Trust (SGX:M44U).
  • Office sector
    • Keppel REIT (SGX:K71U).
  • Retail sector
    • Frasers Centrepoint Trust (SGX:J69U),
    • Lendlease Global Commercial REIT (SGX:JYEU).
  • Diversified REITs
    • CapitaLand Integrated Commercial Trust (SGX:C38U),
    • Frasers Logistics & Commercial Trust (SGX:BUOU),
    • Mapletree Pan Asia Commercial Trust (SGX:N2IU),
    • Suntec REIT (SGX:T82U).

S-REITs Sector Catalysts

• Hospitality, retail and office REITs benefitting from the reopening of the economy.
• Limited new supply for the office, logistics and retail segments in 2022.

S-REITs Sector Risks

• Escalation of the Russia-Ukraine war beyond Ukraine.

Jonathan KOH CFA UOB Kay Hian Research | https://research.uobkayhian.com/ 2022-09-27

SGX Stock Analyst Report BUY MAINTAIN BUY 2.56 DOWN 2.740

BUY MAINTAIN BUY 0.990 SAME 0.990

BUY MAINTAIN BUY 2.080 SAME 2.080