These indebted REITs will suffer as MAS rolls out new leverage limits

They will have to deleverage to meet the cap.

Some REITs will have to deleverage in order to meet the new leverage limit set out by the Monetary Authority of Singapore (MAS).

A report by CIMB highlighted that with permissible leverage now capped at 45%, these REITs now have less debt headroom to finance their future inorganic growth.

“We believe the biggest losers from this change are REITs currently with leverage of over 40%. These REITs include OUE-HT (42.1%), KREIT (42.4%), OUECT (41-42%) and ART (40.4%). We believe the affected REITs could potentially be motivated to deleverage in the mid-term to bring their leverage ratios to below the 40% level,” said CIMB.

The report further noted that with cap rates of commercial properties compressed around the globe, these REITs simply have no choice but finance their acquisitions with debt to make these assets yield-accretive.

“In an attempt to lower the leverage ratio to a more sustainable level, we believe REIT managers may well consider issuing hybrid securities, such as convertible perpetual preference units and perpetual securities, which MAS has categorised as equity rather than debt,” the report said.

These forms of fund raising will allow REITs to lower their leverage ratio while minimising the impact to DPU dilution, as opposed to issuing equities.

“However, the downside is that the issuance of hybrid securities usually involves higher interest payments (in the form of dividend) vs. direct bank loans (e.g. MTNs and secured debts). The disparity in cost of funding could be as high as 100-150bp. As a result, the cost of debt could be higher than the 2.6-3.0% average that the REITs are currently paying,” CIMB added.