Monday, November 4, 2013

S-REITs enjoy positive rental reversion

S-REITs enjoy positive rental reversion
Insider Asia
Written by Insider Asia    
Monday, 04 November 2013 09:32

THE US Federal Reserve decided to put off tapering, again, in its latest meeting last week and will continue with its US$85 billion (RM270 billion) a month bond purchase programme. Followed by the 16-day government shutdown and its still as yet to be ascertained impact on the US economy, the possibility of another debt ceiling stand-off early next year as well as sluggish job growth in recent months, market observers now believe that any tapering decision will likely only come in March 2014 — although the Fed did not rule out the possibility of such a decision in its last meeting for the year, in December.

After the steep rise in yields since May this year, bond prices have recovered some poise in recent weeks. Yields on the benchmark 10-year US Treasury note, which rose from about 1.66% at the start of May to as high as 2.98% in early September, are now back down to around 2.54%.

The Fed’s caution — after months of preparing the market for a tapering event — underscores the still fragile state of the US economy against potential headwinds. It also bolstered belief among investors that the eventual rise in interest rates will be slow and gradual. This being the case, high-yielding stocks and real estate investment trusts (REITs), which took a beating when yields were rising sharply, are now looking more appealing.

Dependable income at attractive yield spread
S-REITs listed on the Singapore Exchange, for instance, are currently offering some of the widest yield spreads over risk-free bond yields in the region. At prevailing prices, 2014 net yield on S-REITs is estimated at roughly 6.5%, on average, or about 4.4% above the benchmark government bonds currently yielding 2.11%.

To be sure, caution is certainly warranted. The tapering delay is just that, a delay. And when it does happen, higher returns on risk-free government bond will make investments in REITs less attractive. So we could, again, witness selling pressure in early 2014.

Most REITs are leveraged — though not excessively so relative to the broader market — with gearing between 30% and 40%. Thus, rising rates also mean higher interest expenses. On a more positive note, many of the trusts have mitigated the immediate impact by hedging or borrowing in fixed rates.  

Notably, prices for S-REITs appear to have stabilised. Prevailing valuations are more or less neutral from a historical perspective — with the smaller trusts trading at around book value and the larger ones around 1.2 times book value.

On balance, we believe investors can come out ahead. Real estate investment trusts are good for a steady flow of distribution income, which at prevailing yields still offer significantly better alternative to cash or bank deposits — 12-month fixed deposits at large Singapore banks now stand at about 0.25% — while positive rental reversion should keep pace with inflation.

Outlook for rental reversion remains positive
S-REITs are still registering positive rental reversions. Longer industrial leases are unsurprisingly recording higher rental reversion on average but shorter retail leases are also enjoying decent increases.

For instance, Ascendas REIT (A-REIT) reported 10.2% rental reversion for about half of its leases due in the current financial year ending March 2014. The trust noted that passing rents remain well below spot market rates — between 11% and 41% — which bodes well for outlook for the rest of the year. Its weighted average lease expiry (WALE) now stands at 3.9 years.

Mapletree Logistics Trust (MLT) too reported robust rental rate increases of about 24% for leases renewed in the latest quarter ending September. This was in fact better than in the previous quarter, 1QFY14 ending March, when rental reversion averaged 17%. It has renewed about two-thirds of the leases expiring in FY14, in terms of revenue, and noted that demand for warehouses remain stable. MLT has a relatively long WALE of 4.9 years.

Elsewhere, retail-focused Fraser Centrepoint Trust (FCT) has a shorter WALE of 1.5 years. But the trust still managed to register an average rental reversion of 7.7% for the financial year ended September (FY13). Its focus on the suburban retail market segment is expected to remain resilient going forward. Some 71% of leases by revenue are due for renewal over the next two financial years, the bulk of which are for Causeway Point and Northpoint, the two largest earnings contributors.

Positive rental outlook should bode well for gradual improvement in earnings and distributions. Occupancy remains relatively steady.

MLT recorded an average occupancy rate of 98.7% across its portfolio as at end-September, compared with 98.5% as at end-March, while occupancy for FCT stood at 98.4%. FCT was boosted by the completion of asset enhancement initiatives (AEI) works at Causeway Point, up from 93.6% as at end-FY12. Meanwhile, A-REIT has occupancy of 90.1%, on average, including two new acquisitions that are still building on pre-commitments.

To be sure, yield accretive acquisitions are harder to come by, what with rising property prices. FCT is among the few that may see fresh acquisition in 2014, in the form of Changi City Point.

Most, though, are undertaking AEI to enhance their yields. For instance, MLT is targeting to complete the ongoing redevelopment of Mapletree Benoi Logistics Hub in the current quarter, which will see gross floor area increase by more than four-fold. In the next financial year, it plans to embark on another redevelopment at 5B Toh Guan Road, to increase the build-to-plot ratio.

Note: This report is brought to you by Asia Analytica Sdn Bhd, a licensed investment adviser. Please exercise your own judgment or seek professional advice for your specific investment needs. We are not responsible for your investment decisions. Our shareholders, directors and employees may have positions in any of the stocks mentioned.

This article first appeared in The Edge Financial Daily, on November 4, 2013.

Publish date: 04/11/13

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