Treading a fine path
•Flows over fundamentals impacting prices
•Volatility to stay; not time to pile in
•Potential downside risks if further hikes are seen; however some offer value
•Picks: CDREIT, Cache, Suntec and CRCT
Flows presiding over fundamentals. Despite reporting a firm set of financial performance in 2Q13 (growing top line and stable interest costs), S-REITs share prices continue to remain under pressure. The weakness in share prices appears to derive from fund outflows and heightened required returns rather than weakening fundamentals.
Volatility to stay; not time to pile in. While valuations for the sector appear more palatable at 1.05x P/Bk NAV, FY13-14F yield of 6.3%-6.7%, we believe that volatility is here to stay. Looking back at historical performance as a guide, S-REITs traded within a volatile range in times of rising interest rates (through the previous rate hike over 2004-2006) with only a sustainable re-rating kicked-start by a period of high DPU growth of c13% over 2006-2008. This period also coincided with the S-REITs trading at a tighter than average yield spreads of 250 bps. Our forecasted slower growth of c5% over FY13-14F implies the risk of thinning spreads coming from further bond yield hikes (DBS forecasts 10 year bonds to spike a further 30 bps from current levels) . Thus, we believe that as a sector, the S-REITs appear fairly priced at yield spreads of 370-380bps.
Adjusting to a more volatile environment; further downside if bond yields spiked above 3.5%. As we update assumptions to reflect higher discount rates (+0.05 in average betas and higher interests) as the sector negates its way through the current interest rate upcycle, our TPs are reduced by up to 10%. Further sensitivity analysis of the impact of further hikes in bond yields to 3.5%/4.0 and required returns (pegged to 2009 levels) imply further downside of between 4% and 20% for most S-REITs.
A right price for everything. Amidst the “blood in the street” we found certain S-REITs that have fallen below our bear case TPs, implying that most of the negatives are already priced in. Selective BUYs in CDREIT, Cache, Suntec and CRCT.
Publish date: 23/08/13