(Nov 18): Yields on 10-year Singapore Government Securities have been rising, albeit gently from a low base (see Chart 1). Similarly, yields on 10-year US Treasuries are also rising, from a low of 1.4% in September to 1.945% as at Nov 11 (see Chart 2). On Oct 30, the US Federal Reserve, through a statement by the Federal Open Market Committee, announced a 25-basis-point cut in the Fed funds rate to 1.5% to 1.75%.
“This action supports the Committee’s view that sustained expansion of economic activity, strong labour market conditions, and inflation near the Committee’s symmetric 2% objective are the most likely outcomes, but uncertainties about this outlook remain,” the FOMC said.
The statement sounded more hawkish than usual, says Jan Moermann, chief investment officer of Quarz Capital Asia. “The last rate cut was less dovish and they are not signalling this as a series of cuts. Markets always look to the next move, and if there is a hint that the next move is not a cut, then interest rates are already moving,” Moermann points out.
He adds that the repo (repurchase agreement) market had liquidity issues. (A repurchase agreement is a form of short-term borrowing, mainly in government securities.) To alleviate this, the Fed has been injecting capital into the financial system to calm money markets, following a spike in short-term funding rates in mid-September.
Too many acquisitions?
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All this has come on top of the local real estate investment trust sector raising billions of dollars to support acquisitions. Including the announcement on Nov 1 of a 16-for-100 rights issue at $2.63 per unit by Ascendas REIT, S-REITs will have raised almost $6 billion for acquisitions alone (see Table 1).
On Nov 1, Ascendas REIT announced the proposed acquisitions of a portfolio of 28 business park properties in the US and two business park properties in Singapore for $1.66 billion. The US properties are located in technology and life science centres in Portland, San Diego and Raleigh. The acquisitions need the approval of independent unitholders on Nov 27, as they are interested-party transactions.
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To fund the purchase, Ascendas REIT has announced a rights issue to raise $1.3 billion (see Table 1). The rights issue does not need unitholders’ approval, as the amount is within the REIT’s general mandate.
“A key driver for the sector has been the potential for accretive acquisitions. However, over the past six months, most of the key anticipated acquisitions have already been announced. This has resulted in a record level of equity raised for the sector year to date,” notes Credit Suisse.
In addition to accretive acquisitions, another catalyst for REIT outperformance this year has been the FTSE EPRA NAREIT Developed Market Index inclusion theme for Frasers Centrepoint Trust (FCT), Keppel DC REIT, Manulife US REIT (MUST) and Ascott Residence Trust (ART).
“At current levels, REITs which meet free float market cap hurdles are already in the key indices, with the exception of MUST and ART,” Credit Suisse says. The potential for accretive acquisitions has been a key driver for price outperformance amid tight yields that have also meant lower cost of funding. Furthermore, the anticipation of accretive acquisitions of key pipeline assets by the REITs was a near-term driver. “However, the level of DPU [distribution per unit] accretion has been mixed, given the lower cap rates for office and retail assets,” the report says.
Indeed, REITs’ results for 3Q2019 indicated that accretion for some of the acquisitions have yet to show up in DPUs, as evidenced by the y-o-y declines in DPUs, based on the higher number of units and lower rental reversions in other parts of their portfolios.
Credit Suisse reckons that REITs that have acquired industrial/data centres were the main beneficiaries of this theme, but prefers developers such as City Developments and UOL Group to REITs at this juncture.
High-yielding REITs
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Elsewhere in the REIT universe, REITs with high DPU yields of 8% or more are those whose sponsor is an unknown to local investors. These REITs include Sasseur REIT and EC World REIT, whose sponsors’ assets are in China. ARA US Hospitality Trust and Eagle Hospitality Trust, whose assets are in the US, have also not gained traction among local investors. Furthermore, competition from new supply for ARA US Hospitality Trust and a hurricane that impacted hotel operations for both the US hospitality REITs have had a negative impact on investor confidence. In addition to an unknown sponsor, EHT’s unit price is suffering from perceived governance and disclosure issues.
No surprise, then, that hospitality REITs were among the worst performers since the start of the month (see Chart 3).
Lippo Malls Indonesia Retail Trust (LMIRT) and First REIT, which are both trading above yields of 8%, have Lippo Karawaci as sponsor.
Lippo Karawaci announced a net loss of IDR1.46 trillion ($141.2 million) in 1HFY2019, ahead of the completion of a rights issue in July that raised IDR11.3 trillion. The rights issue was offered to new investors from Hong Kong, who invested the equivalent of US$230 million ($313.3 million). The rights issue managed to stabilise Lippo Karawaci’s price performance.
The concern among the S-REIT investors is whether Lippo Karawaci can continue to support LMIRT and First REIT with master leases, given that it has about US$84 billion of bonds outstanding with redemption dates starting in 2022.
At the other end of the spectrum, office REITs have low yields in the range of 4% to 5%. Credit Suisse says the valuations of office REITs such as CapitaLand Commercial Trust, Keppel REIT and Suntec REIT are at valuations similar to those in the previous market upcycle. “Demand for office space has slowed and market rents look to be plateauing,” the report points out.
Among the REITs, Credit Suisse likes Keppel Pacific Oak US REIT, which made an acquisition funded by a placement (see Table 1) and is trading at an 8% yield, and CapitaLand Mall Trust, a slow and steady performer in a year when all the attention was focused on FCT. In addition, its DPU rose more than 4% y-o-y in 3QFY2019 and its unit price outperformed the retail REITs, which on average fell 1.5% (see Table 2 and Chart 3).
Except for idiosyncratic opportunities, which Moermann sees in some of the independently owned smaller industrial REITs, or for REITs due for a strategic review or a possible change of major unitholder or manager, REIT yield compression may have run its course for the year, analysts suggest.
