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REITs lose lustre as bond yields rise

KUALA LUMPUR: Real estate investment trusts (REITs), the darling of risk-averse investors a year ago, are losing their lustre as investors switch to government debt papers, the Malaysian Government Securities (MGS).

This comes as the yields of MGS rise with the outflow of funds following the US Federal Reserve’s impending move to reduce its asset purchase that has been in place since 2009.

An Affin Investment Bank Bhd analyst told The Edge Financial Daily that when REITs were the flavour of investors, the gap between MGS and REIT yields was apparent.

“Back when government bonds yields were at 3%, they were about 100 to 150 basis points lower than REIT yields. Now, the difference is not that much. Investors who are looking for REIT stocks now are only buying for acquisition growth,” the analyst said.

Bloomberg data showed Axis REIT has an indicated gross yield of 5.38%, Pavilion REIT (5.49%), CapitaMalls Malaysia Trust (5.8%) and Sunway REIT (6.22%). However, IGB REIT’s gross yield is at 2.77%.

REITs, a fairly new concept in Malaysia, are riding on the notion of the sector being stable and defensive. As these trusts are required to pay shareholders at least 90% of income from lease collection, their shares continued their upward trajectories despite a lack of growth in the local stock market a year before the 13th general election took place.

On June 19, Federal Reserve chairman Ben Bernanke said the asset purchase  would be reduced in measured steps through the first half of next year and subsequently end by mid-2014 if the US economic data continues to improve.  

This has caused a flight of capital from emerging markets back to the US. Malaysian government bonds, which have about 30% foreign holders, have come under some selling pressure causing their yields to rise and making REITS less attractive.

For instance, after international rating agency Fitch Ratings revised its outlook on Malaysia’s debt to “negative” from “stable” on July 31, the 10-year sovereign note’s yield climbed to 4.134%, the highest in more than two years.

Last Thursday, the 10-year MGS’ yield inched down to 3.948%.

Between June 19 and last Friday, CapitaMalls lost 18.13% in market value to close at RM1.49, Sunway REIT receded 19.75% (Friday closing price of RM1.30), IGB REIT shares fell by 7.46% (RM1.24), Pavilion REIT dropped by 18.52% (RM1.32) and Axis REIT lost 14.57% (RM3.40).

Affin Investment Bank analyst agreed that investing in bonds is now more attractive than accumulating REIT stocks. The analyst and a HwangDBS Vickers Research analyst said Pavilion REIT is their favourite.

They attributed Pavilion’s strength to its attractive location — being in the heart of the city — its earnings resilience and near-term acquisition growth with the upcoming purchase of Fahrenheit88 mall and expansion of Pavilion KL.

“Bond yields went up recently, but REIT stock prices have come down, too,” the HwangDBS analyst said.

With many anticipating Prime Minister Datuk Seri Najib Razak to introduce the goods and services tax (GST) in Budget 2014 in October, TA Investment Management Bhd chief investment officer Choo Swee Kee told The Edge Financial Daily that the government might need to increase the overnight policy rate (OPR) from the current 3%.

The GST, he said, will result in a one-off inflation surge and eventually an increase in interest rates to combat rising costs.

“If interest rates rise in the future, then MGS yields will certainly be attractive. If the scenario occurs, then this will affect REITs’ profitability as they have to pay their borrowing costs at a higher amount,” said Choo.

While the implementation of GST has been discussed for years, the government has put it on hold due to public backlash and the lack of understanding of its difference with the present sales and services tax system.

Najib has made a commitment to reducing Malaysia’s fiscal deficit to 4% this year from 4.78%.

HwangDBS Vickers Research said REITs are shielded from rising interest rates as their debt maturity profiles indicate little need for refinancing in the next one to three years, with more than 70% in fixed rate debt.

“The majority of REITs under our coverage have more than 70% in fixed rate debt which will not require refinancing for another two to three years. On this note, we do not expect rising bond yields and interest rate hikes to affect the REITs’ interest costs for that period. Currently, the average cost of debt for these REITs ranges from 3.8% to 4.6%,” the research house said in a note recently.


This article first appeared in The Edge Financial Daily, on August 26, 2013.

 

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