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Make room for REITs

DATUK Stewart LaBrooy, chairman of the Malaysian REIT Managers Association, seems truly baffled by the fact that few people invest in real estate investment trusts. "Why aren’t you guys investing in REITS? Do you understand what they are?" he asked the crowd of roughly 500 at The Edge Investment Forum on Real Estate 2013 that was held at The Royale Bintang Damansara hotel on May 11.

His presentation was aptly titled "Is it the REIT time?" However, retail investor exposure to REITs may have improved: about 10 hands shot up when LaBrooy asked if anyone held REIT units, leading him to quip, "This is much better than before … usually only two hands go up." But he noted that individuals account for only 2% of REIT investors. While he acknowledged that owning real estate is the surest path to wealth, LaBrooy said there were other ways to "own" property.

'You can buy Pavilion Kuala Lumpur' REITs are essentially properties held in trust and managed by a group of professionals. The units that represent stakes in the assets are floated on the stock market. "A REIT is a real stock and also a real asset that you own," LaBrooy explained.

Most of the rental income generated by the assets or profit from the disposal of the properties is distributed to unitholders as dividends on a quarterly or half-yearly basis. (REITs are required to distribute at least 90% of their earnings to unitholders to qualify for tax exemption.) In the case of Islamic REITs, the difference is that tenants must conduct syariah-compliant businesses.

One of the benefits of REITs is the lower entry cost compared with buying property, especially if the intention is to hold on to it for the long term. The units are also easier to trade than properties and business risks — such as tenants, maintenance and taxation — are managed by the asset managers. Dividends are subject to only 10% withholding tax compared with 25% income tax for properties.

REITs also offer various types of assets, such as industrial properties, warehouses, offices, shopping centres, hotels, hospitals, medical centres, plantations and even car parks. These give investors access to a variety of industries and sectors.

"You can't say, 'I want to buy Sunway Pyramid'. No individual can do that. Maybe you can buy the lion's nose. You can, however, buy a share in a property that you have no possibility of owning in your lifetime. The Petronas Twin Towers are now listed [via KLCCP Stapled Group — which comprises shares and units in KLCC Property Holdings Bhd and KLCC REIT — that was listed on May 9] and you can own part of these iconic buildings," said LaBrooy.

"So, instead of buying a shoplot, you can buy Pavilion Kuala Lumpur. Instead of buying a condo, you can buy a hospital. They all come with very strong rental income and cash yields."

REITs are defensive stocks that offer stable capital gains and dividend yields without great price fluctuations, thanks to low liquidity and the assets appreciating every year. Betting on the correct stock could also give faster returns than traditional property ownership.

For instance, industrial-commercial Axis REIT, which was listed in August 2005, had seen capital gains of 196% as at March 30 while plantations-based Al-Hadharah Boustead REIT's capital gains have risen 90% since it was listed in February 2007.

Quill Capita Trust (QCT), consisting of mainly commercial properties, has appreciated 90% since its listing in January 2007. High demand for safe-haven investments in the run-up to the 13th general election drove up the prices of REITs to near-target levels, which compressed yields.

According to an analyst, yields are at 6.4%, down from 7.4% in January 2012. However, LaBrooy said there are still REITs that are trading below their net asset value. As at March 30, these included AmanahRaya REIT (-9%), AmFirst REIT (-10%), QCT (-8%) and Tower REIT (-13%).

Prices aside, LaBrooy advised investors to make room for REITs in their investment portfolios. "It would be a good thing if you had REITs as 20% of your portfolio. You can speculate on the rest of the stocks in your portfolio, but keep the REITs to get steady yields. We are not a glory stock, we are a boring one."

He also opined that REITs would not face competition from business trusts — which recently received the green light from Securities Commission Malaysia (SC) — because of their different structures.

"Business trusts are like normal companies, but they are allowed to not apply depreciation to their bottom lines. It makes sense for big companies like DiGi.Com Bhd and Maxis Bhd [to set up business trusts] because of their high capital expenditure, which they have to depreciate every year and that knocks their dividend payouts down. As a business trust, they can deliver maximum dividends."

A forum attendee, who is renting his work space from a REIT, was skeptical about whether REIT-owned properties were better than regular ones. He said REITs were inclined to raise the rents of their properties more often to boost dividend yields, which he felt was at the expense of tenants.

However, LaBrooy said REIT properties benefit from better maintenance, management and tenants. "New properties that come onto the market have to charge higher rent or the guys who built them would go broke."

"But it's a fair comment," he agreed. "They say nothing rises forever, but property prices do. lf you were to buy a condo for RM400,000, then another one for RM700,000, you wouldn’t want to rent them out at the same price, would you? You’d charge higher rent for the more expensive one.

"Good assets are becoming scarce. There isn’t any space for a new Mid Valley Megamall in town. Supply is actually constrained and everybody wants to be there. That’s why they can raise rents."

Another attendee asked about the impact of a hike in interest rates — to 11% to 12% — on REITs.

LaBrooy replied, "First, everybody will be toast! I think everybody in the property sector will go bankrupt, then prices will drop and REITs will buy properties cheaply and start all over again."

While the real estate market is influenced by interest rates, he pointed out that REITs do not take a 90% loan to buy properties unlike individual property investors.

"A lot of REITs actually take long-term funding positions. Axis REIT issued a 10-year sukuk at 4.5%. So if interest rates go up to 11%, I am not bothered. My funding cost is fixed for 10 years."

Another member of the audience asked about the effect on the safe haven status of REITs if they embarked on greenfield developments.

The Malaysian REIT Managers Association will make a formal request to the SC this year to allow REITs to buy greenfield assets. This will offer the funds an alternative to acquiring only mature properties and give them development profits and higher yields.

LaBrooy said REITs were unlikely to take on risky large-scale projects and added that while the SC was considering the possibility of small property developments by REITs, the funds must seek the permission of the authorities to undertake such projects on a case-by-case basis.

"If the REIT wants to buy land, no. Building an office tower takes three years and without knowing where the market is going, it is also very risky. So, I believe there will be checks and balances and the risks will be heavily mitigated."

In Singapore, LaBrooy pointed out, although greenfield developments may account for up to 10% of a REIT’s portfolio, its exposure to these projects is controlled.

He illustrated this with an example — a potential tenant requests Axis REIT to build a building for it in exchange for a 15-year lease and at the same time, injects the property into the fund.

"With that, you have a starting yield of 12% to 15% and a big valuation upside for the REIT because you do it at cost. So, you get the developer’s return on profit plus yields. In that case, yes."


This story first appeared in The Edge weekly edition of May 20-26, 2013.

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