S-REITs are bottoming out

Investors are “tempted” to invest at lower prices, as yields have inched up by around 50bps to around 6%.

DBS Equity Research analyst Derek Tan noted that S-REITs are nearly hitting the bottom as flows expected to return to S-REITs. “We recently brought a group of Singapore REIT managers to an investor conference in Korea and Japan, followed by marketing to investors around the region. With the recent correction in share prices for the S-REITs, we are sensing that investors are looking for re-entry opportunities,” he said.

In a report, Tan also said that despite the risk of four rate hikes over 2018, investors are “tempted” to re-enter at lower prices, as yields have inched up by around 50bps to around 6%.

OCBC Investment Research previously said most economists are now expecting four Fed hikes in 2018 after US Federal Reserve Chairman Jerome Powell’s latest policy comments. Based on the latest International Monetary Fund’s projection for January 2018, the forecast for global growth is estimated at 3.7% in 2017, with the momentum continuing into 2018 at 3.9% and 2019 at 3.9% as well.

There is an “upside surprise coming from an expected rebound in rental growth rates across most S-REITs. The strength of the SGD vs regional currencies is another key reason why investors are looking again to invest in REITs,” he added.

Moreover, the general sentiment among REIT managers is turning more positive on the back of stronger macroeconomic data points. “Declining supply risk (for office, hotels and industrial sub-sectors) are setting the stage for a gradual rebound in organic growth (estimated at 1.5% in 2018; 2% in 2019) for the overall S-REIT sector,” the broker said.

However, the outlook for the retail sector remains more modest given that retailers are still looking to consolidate operations, but the worst is over, Tan noted. “Overall retail spending has been inching higher in recent months. REITs to continue to invest overseas to grow the portfolio and diversify earnings,” he added.

Also read: Is the worst over for S-REITs?

Given supportive valuations and bountiful opportunities, S-REIT managers are ambitious to grow inorganically. We have seen a number of S-REIT managers expanding their mandates to include new geographies (e.g. MINT included data centres overseas, while MAGIC expanded its investment mandate to include Japan), which in our view, improves portfolio and earnings diversity.

Given all of these, Tan thinks the interest cost is mitigated. “We believe that investors should be less worried about the impact of rising rates on distributions given that on average (i) S-REITs have hedged 80% of their interest costs into fixed rates, and (ii) diversified funding sources which result in having no concentration of debt expiry in a single year. These result in fairly modest less than 3% reduction in distributions if interest costs rise by 1%,” he said.