Office REITs – UOBKH
Office REITs – Outstripping Improvement In Fundamentals
The Federal Reserve extended the TALF programme to commercial mortgage-backed securities (CMBS) starting 1 Jun 09, hence the optimism and rally for S-REITs. However, we believe the rally in the past two weeks for office REITs has already factored in the improvement in fundamentals.
Office rentals still falling but at a slower pace. Due to the ongoing financial crisis, rentals for prime office space corrected 6.8% in 4Q08 and 30.0% in 1Q09 to S$10.50psf pm after hitting a peak of S$16.10psf in 3Q08. The Raffles Place micromarket registered the steepest fall of 17.9% in 4Q08 and 28.5% in 1Q09 to S$10.50psf pm. Our survey of office REITs indicates that office rentals have fallen by a slower 5-10% so far in 2Q09 due to an improvement in market sentiment.
Deals starting to flow. There are more transactions in the secondary market for strata office space recently. Capital value for Suntec City Office Towers has rebounded 10.8% to S$1,781psf ytd. Capital value for International Plaza has similarly rebounded by 9.2% to S$1,100psf. Unlike in previous recessions, there has been no distress or fire sale in the office market during the current recession. As such, cap rates have been stable.
Revaluation results in higher gearing. We remain concerned about the correction in office rentals due to new supply coming on stream. A total of 8.3m sf of office space will be completed from 2Q09 to 2013, representing 11.5% of total stock. A markdown in the value of investment properties on revaluation will result in higher gearing and potential rights issues.
Maintain OVERWEIGHT for REITs. Current yield spread is 3.61%, higher than the historical average of 2.97%. We expect yield spread to contract further as credit markets normalise. Refinancing risk has abated with the potential reopening of the CMBS market. We prefer switching to laggard retail and industrial REITs. BUY Frasers Centrepoint Trust and Ascendas REIT. Our only BUY for office REITs is K-REIT Asia.
Link : Table