Steep rents set to boost office REITs only by H2 2019

Leasing costs rose by double-digits to 14.8% in Q3.

The steady pick-up in Grade A office rents in the past few months is expected to lend a boost to Singapore's office REIT sector and boost the overall performance of S-REITs although the impact may be delayed into the latter half of 2019, according to RHB Research.

Steadily rising Grade A office leasing costs which rose 14.8% YoY to $10.45psf monthly in Q3 has helped narrow down the rental gap between expiring and new leases, painting a solid outlook for the sector.

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Moreover, Grade A office rents are poised to extend their positive momentum over the next two years, with average leasing costs set to rise to 8% in 2019 and 5% in 2020.

“We believe the effect of positive rent reversions is likely to be seen in office REITs only from 2H19. Consequently, early 2Q19 might be an opportune time to re-enter the sector,” analyst Vijay Natarajan said in a report.

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The growth in net property income and distributable income of the office REIT sector expanded at a stable 4.2% and 5.9% respectively in Q3, data from OCBC Investment Research show. DPU growth also hit 1.4%.  

The explosive boom in co-working spaces is also expected to stoke office sector demand with the level of occupied flexible working space tipped to surge 42% YoY to 1.4m sq ft by end-2018, data from Edmund Tie & Co show.

As the positive impact from office REITs have yet to kick into effect, Natarajan backs the industrial and hospitality REITs as his sector preference in the near-term. He notes that demand uncertainty in the industrial sector brought about by escalating trade dispute is likely to be a short-term phenomenon as the sector is set to stabilise and pick-up in 2019 in line with higher economic growth.

“We also highlight the possibility of some high-end industrial demand from the region being shifted to Singapore if trade tensions prolong,” added Natarajan.

Although the retail REIT segment has been met by a challenge after challenge amidst a supply influx and the threat of e-commerce, Natarajan notes that the sector has outplayed market expectations.

Also read: Retail REIT recovery lags on sluggish sales and traffic

The FTSE Straits Times REIT Index has also been outperforming the FTSE Straits Times Real Estate Holding & Development Index in mid-July, data from Bloomberg show, as property stocks have declined 5.4% whilst REITs were able to eke out a measly 1% gain over the same period.

Overall, Natarajan notes that S-REITs remain in solid position despite heightened macroeconomic uncertainties with average yield and yield spread of 6.2% and 4% respectively which are the highest in the world.