Office REITs – OCBC

The Going gets Exciting as Competition Heats Up

Office rents strengthening. Office rents continued to strengthen in 3Q10 after turning around in the 2Q10. According to CRBE, Prime-Office rents averaged $7.40 psf/month, up from $6.90 psf/month in the previous quarter; Grade-A rents also rose 6.5% QoQ to average $9.00 psf/month. Major leasing deals were principally concentrated on new Grade-A developments. Financial institutions, legal firms, insurance and professional services remained the major source of occupier demand. Investment activity in the office market also warmed up. Improving visibility of the office recovery and rental cycle stand to benefit the four local Office REITs, namely Suntec REIT [BUY, FV: S$1.64], CapitaCommercial Trust (CMT) [HOLD, FV: S$1.52], K-REIT Asia [NOT RATED] and Frasers Commercial Trust (FCOT) [NOT RATED].

MBFC – the place to be at. K-REIT Asia and Suntec REIT intend to each acquire a one-third interest in Marina Bay Financial Centre (MBFC) Phase-One, constituting Towers 1 and 2, Marina Bay Link Mall and slightly less than 700 carpark lots. Excluding rental support, both are paying about $2400 psf for Singapore’s latest iconic development. MBFC is deemed a strategic acquisition on the back government’s commitment to pump more than S$1b into infrastructure works to support Marina Bay’s growth over the next 10-15 years and increasingly greater demand for Grade-A office space in Singapore. Noticeably, the acquisitions, if successful, will also propel Suntec’s investment properties to ~$5.8b, surpassing CCT’s S$5.2b (as reported in 3QFY10 results). K-REIT Asia’s investment properties, accounting for the divestment of both Keppel and GE Towers, will also levitate above S$2b from the current $1.38b. We view these two enlarged REITs as not only upping the stakes but also exerting pressure on CCT and FCOT, who have yet to announce any local acquisitions YTD.

Valuation. Office-REITs trade at an average forward yield of 5.6% and an average-price-to-book of 0.80x, which compares favourably to the broader S-REIT sector of 0.952x. We have a BUY rating on Suntec due to its wider exposure to the revitalizing Marina Bay area and improved quality of its office space (more Grade-A exposure) and we like K-REIT for similar reasons. We also noted that CCT is sitting on a cash pile of some S$731m following the sales of Robinson-Point and StarHub-Centre and certainly has the financial muscle for new acquisitions. In addition, we feel that market attitude towards Office REITs is turning due to increased leasing activity, better employment outlook and proactive lease management tactics taken by office landlords. We remain upbeat on the office sector recovery; and now have an OVERWEIGHT rating for the Office-REITs subsector.