SREITs – DB
Returning to a virtuous cycle
Re-rating based on organic growth, acquisitions and availability of funding
We expect the re-rating of Singapore REITs to continue, based on: 1) firm trading performance, 2) the availability of funding allowing the return of acquisitions to the sector, and 3) steady physical asset markets. We see a return to a virtuous cycle for the larger REITs, which have demonstrated their ability to raise capital and acquire assets. The valuations for CMT and Suntec REIT are attractive (as CMT has been weak since the Atrium acquisition, and Suntec has lagged its peers).
Better-than-expected 1Q08 earnings; reversion cycle supportive
The REITs delivered 1Q08 DPU growth ahead of expectations (avg 19.1% YoY), based on reversionary rental growth and full occupancy rates. The near-term outlook remains positive, as office and industrial passing rents still trail market rents and retail rents are firming up due to asset enhancements and the entry of new retailers.
Raising capital, a pick-up in acquisitions; majors gaining market share
Singapore REITs have announced S$2.9bn of acquisitions YTD as activity from opportunistic funds have slowed. AREIT’s acquisitions have gained momentum at the expense of competitors who face funding constraints. The REITs have been able to raise funds for acquisitions and debt refinancing, and the completion of KREIT’s S$552m rights issue helps to address concerns over refinancing. Funding costs have been largely contained, as declining swap rates offset a rise in spreads.
Physical market steady as REITs and core funds stepped up to acquire
More than 2/3 of the REITs are trading below book NAV. Recent investment transactions, such as 71 Robinson (S$3,125psf), One George Street (S$2,600psf), and the Serangoon White Site (est. breakeven S$2,000psf), suggest firm asset pricing due to REITs and core funds being more active. Book NAVs for commercial REITs are typically conservative and are at discounts to recent open market transactions.
Focus on large, quality names; smaller REITs likely takeout plays
Yield spreads remain well above average at yields of 5.0% for CY07 and 6.1% for CY08E, representing a 342bps spread over the 10-year gov’t bond and avg. 9.1% discount to book NAV. Inflows into real estate funds have improved in recent weeks, supporting global REIT markets. We prefer the larger REITs which are able to deliver organic growth, mobilize funding, and potentially gain market share. We view the smaller REITs as likely takeover targets if deep NAV discounts persist.
Top picks for REIT sector: CMT, Suntec REIT and AREIT
CMT is attractive after the pullback following the CB issue for the Atrium deal. We believe that CMT has the right platform to extract value and synergies from that asset. Suntec REIT continues to benefit from robust demand in both the office and retail segments. We also like AREIT for its leverage on the rising business park segment. Risks include any protracted economic slowdown affecting demand, further deterioration in credit markets, and inability to refinance.