By G. Sharmila
Real estate investment trusts (Reits) have traditionally been viewed as the less risky option as opposed to investing in company stocks. But is this still true in current times and if not, which Reits are worth investing in?
Sector background: Reits have been around for awhile in Malaysia, with the first listed Reit being Axis Reit, which debuted on Bursa Malaysia in 2004. Since then several more Reits have been listed on the stock exchange, including Pavilion Reit, which was listed in 2011. According to Bursa Malaysia, there are a total of 17 listed Reits on the exchange currently.
Reits allow investors to invest in commercial real estate at a fraction of the price of investing directly in real estate. Reits typically offer stable income and attractive distribution yields.
Bursamalaysia.com defines a Reit as “a fund or a trust that owns and manages income-producing commercial real estate (shopping complexes, hospitals, plantations, industrial properties, hotels and office blocks).
The website explains that the management company for a Reit is permitted to deduct distribution paid to its shareholders from its corporate taxable income. However, to enjoy this tax-free status, the Reit must have most of its assets and income tied to the real estate and distribute at least 90% of its total income to investors/unit holders annually. Reits are traded like stocks on Bursa Malaysia.
According to an analyst with a local bank-backed research house, Reits and Malaysian Government Securities (MGS) are competing in nature, investors typically choose to invest in either. In essence, investors often teeter between the two depending on which offers more returns at any given time.
If MGS yields are high, Reits will be less attractive as MGS yields on new bonds increase, thus making them more attractive to investors of these bonds. (The yield is a return provided by the MGS.) Hence, if MGS yields increase, they will put pressure on the unit prices of Reits, making them the less attractive investment option.
Interest rates also influence MGS yields. If interest rates increase, the yields on the newer MGS increase, hence pushing down the value of existing MGS prices, making them more attractive and thus making Reits less attractive.
What analysts think: Although Reits have traditionally been viewed as a ‘safer’ investment than company stocks, analysts seem to suggest that this applies to certain Reits and not the entire sector.
In fact, analysts surveyed by KINIBIZ appeared to rather cautious concerning Reits in Malaysia. MIDF Research and Kenanga Research, for instance, both had “neutral” ratings on the sector.
According to Kenanga Research in a report dated October 7, asset acquisitions for Reits may pick up towards the end of the year and in 2016 “as asset valuations are trending closer to more realistic cap rates”. It noted that operationally resilient Reits include KLCC Reit and Pavilion Reit.
That said, the research house expressed concern over the volatility in the bond market due to ongoing macroeconomic issues such as a possible interest rate hike by the US Federal Reserve and the weakening ringgit.
“We had previously expected medium-term knee-jerk reactions up to 3Q15, pending more concrete news of the Fed’s interest rate decision, and once negative sentiment has subsided. However, this has taken longer than anticipated, compelling us to raise our 10-year MGS target to 4.00% (from 3.90%). As such, we lower all our TPs (target prices) by 1.5% to 2.0% but maintain the calls,” Kenanga said of the Reits sector.
It also advised investors to wait for the bond market to stabilise before selectively repositioning for Reits, preferably those with better-than-average earnings growth and strong yields.
The research house’s preferred pick is Sunway Reit on which it has an “outperform” rating, due to strong earnings growth in FY16 mainly boosted by the value accretion of Sunway Putra Place.
Kenanga also has an “outperform” rating on Pavilion Reit and “market perform” calls on KLCC Reit, IGB Reit and Axis Reit. It has an “underperform” rating on CapitaMalls Malaysia Trust (CMMT).
Meanwhile, MIDF Research, dubbed Reits a “safe choice but unexciting” in an October 6 report. The research house, which has six Reits under its coverage, noted that for the second quarter, only KLCC’s earnings came in above expectations while the remaining five were within expectations. (The five are Axis Reit, CMMT, IGB Reit, Pavilion Reit and Sunway Reit.)
MIDF noted that IGB Reit had the strongest distribution per unit or DPU growth of 11% year-on-year (y-o-y), adding that the superior DPU growth was in line with a -8% reduction in operating expenses due to lower utilities and reimbursement costs.
The research house also commented on the relationship between the Reits and bond market performance. “We expect MGS yields to continue being volatile in the near-term due to global economic and interest rate uncertainties. This is likely to impact the stability of the spreads between Reit-MGS yield,” it said.
It added that its in-house economist expects Bank Negara Malaysia to maintain the overnight policy rate at 3.25% for the rest of the year. “This should keep financing costs stable for all Reit players,” it pointed out.
MIDF also believes sluggish consumer sentiment will persist given the goods and services tax implementation, which could affect Reits with exposure to shopping malls (e.g. IGB Reit, KLCC Reit, CMMT, Pavilion Reit and Sunway Reit). This is because rental reversion growth corresponds with tenants’ business revenue, the research house said.
“This could result in flattish FY15 CNI (core net income) growth for Reits. Meanwhile, Reits with office exposure (Axis Reit and Sunway Reit) may face increased competition due to influx of new office space. We gather that an additional supply of 5.9m sq ft is expected to come in by end of this year,” it added.
MIDF’s top picks are IGB Reit and CMMT. “We like IGB Reit due to dividend growth of 11% y-o-y in 1HFY15 is higher than peers’ average of 3.4%, its strong ability to contain expenses, and minimal risk to interest rate increase as 98% of its loans are in fixed rate,” it said.
Meanwhile, its “buy” call on CMMT is premised on its view that the market has underappreciated the earnings contribution from the acquisition of Tropicana City Mall, its net dividend yield at 5.8% is the highest among peers (sector average: 5.2%) and the potential recovery in Sungei Wang Plaza’s occupancy rate after completion of the MRT construction.
The research house remains ‘neutral’ on KLCC Reit, Axis Reit, Pavilion Reit and Sunway Reit.
Peer comparison:
Please click to enlarge
StockStalk: According to Stewart LaBrooy, chairman of the Malaysian Reits Managers Association, Reits are a stable instrument to invest in as Reits have long-term contracts with their clients and don’t have big swings in income. “Reits will continue to do well in the next two years despite the volatility in the market,” he told StockStalk over the phone.
We agree with LaBrooy that Reits are a stable form of investment for most investors who are afraid of the volatility in the equities and bond markets.
That said, we also concur with analysts that the economic environment and consumer sentiment are causes for concern with some Reits, especially those heavily reliant on income from shopping mall assets. Like MIDF Research, we also believe that commercial properties are not insulated from the economic environment either.
However, we believe that there are still bright spots among the Reits, such as Pavilion Reit, Sunway Reit and IGB Reit, as suggested by the analysts we tracked, so all is far from lost.
The only thing we would advise investors is to wait until the bond market stabilises, especially if such investors are the cautious kind.
________________________________________________________________
Important Note and Disclaimer: This article should NOT be taken as a cue to either buy or sell any stocks. The intention is to highlight the key factors you might want to think about before plunging in or scrambling out. While KiniBiz makes every endeavour to ensure facts are right and opinion is fair, no liability can be assumed for anyone relying on this information. In other words let the buyer (or seller) beware — a reflection of Bursa Malaysia, we say.
You must be logged in to post a comment.