KUALA LUMPUR (Dec 13): While the spike in Malaysian Government Securities (MGS) 10-year yield has made real estate investment trusts (REITs) relatively less attractive, analysts said the fundamentals of REITs are still intact and are still commanding a premium over MGS yields.

The spread between MGS and REIT dividend yields saw a contraction as MGS yields saw a spike to above 4.45% after the outflow of foreign funds from emerging markets to the US, amid volatile global economic conditions.

“The spike in MGS yields makes REITs less attractive, but the underlying fundamentals are unchanged. Looking at [the] rental reversion, supply and demand mismatch, and asset quality, REITs are still relevant,” said Hong Leong Investment Bank Bhd analyst Lee Meng Hong.

“Yields from REITs are still higher, averaging at around 5.8% for the whole sector, compared to MGS yields of around 4.2% to 4.4%. There’s a gap in the spread there but it’s not as high as before,” said Lee.

He said the spike in yields was driven by external developments, including the unexpected result of the US presidential election.

Meanwhile, he noted that there will be other global events on the horizon which could dictate the direction of MGS yields, naming the multiple elections in Europe and a possible hike in US interest rate.

“Overall, we are seeing that global yield should be scaling up growing forward,” he said.

Another analyst said REITs still remain favourable, adding that REITs still command a premium over MGS yields.

“Yes, the spread is thinning following the spike in MGS, but at the end of the day, [a] 5% to 6% yield is still favourable. And as long as the fundamentals are still there, there’s no reason for investors to move away from REITs.

“There’s always a knee-jerk reaction and short-term volatility. But once it stabilises, interest should return to REITs,” she said, adding that investors are still looking at investments with stable returns amid the volatile global environment.

She said stable REITs with low short-term earnings risks are preferred, including Al-Aqar Healthcare REIT, MRCB-Quill REIT, KLCC Property Holdings Bhd (KLCCP) Stapled Group and Pavilion REIT.

Meanwhile, MIDF Research has revised down its target prices (TPs) for the REITs under its coverage following the spike in MGS yields, and has revised its MGS yield assumption to 4% from 3.75% previously, in view of the potential hike in US interest rates.

“We adjusted our target prices for REITs under our coverage following the revision of MGS yield which translates into [a] higher discount rate in our dividend discount model valuation,” the research house said in a note.

It revised down its TP for Axis REIT by 2.3% to RM1.68, CapitaLand Malaysia Mall Trust by 1.7% to RM1.69 and IGB REIT by 2.4% to RM1.63.

Meanwhile, the TP for KLCCP was reduced by 1.9% to RM7.16, Pavilion REIT by 2.3% to RM1.68 and Sunway REIT by 1.6% to RM1.83.

“Overall, the decline in TPs has been minimal and our recommendations remain intact,” it said.

This article first appeared in The Edge Financial Daily, on Dec 13, 2016. Subscribe to The Edge Financial Daily here.

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