Sustained re-rating for property stocks seen

KUALA LUMPUR: AmResearch expects a sustained share price re-rating cycle for the property sector as the disconnect between the robust physical market and valuation of property equities will soon reverse.

Maintaining an overweight on the sector, AmResearch said thus far this year, property equities had underperformed the rising market despite physical transaction volumes rising with consistently strong pricing trends, while sector stalwarts, S P Setia Bhd and IJM Land Bhd, had underperformed the market by 1% and 6.9%, respectively.

“But we are unmoved given our expectation that the disconnection between the robust physical market and valuation of property equities will soon reverse. In our opinion, property equities may be fast approaching an inflexion point — of a sustained share price re-rating cycle on several counts,” it said in a report yesterday.

Among the reasons, it said property equities tended to underperform at the early stages of an interest upcycle because of an associated increase in property risk premium from a higher discount rate in net asset value (NAV) valuation.

“With three sequential hikes in the overnight policy rate to 2.75% this year, we believe that the interest rate drag on valuation is already behind us, at least for the next 12 months. Focus will now shift to growth kicker on residential demand from an expanding underlying economy, and not interest rate,” it said.

AmResearch said the uncertainty over earnings recognition on presales from the proposed introduction of IFRIC 15 appeared to be overplayed.

“Technically, valuation of property equities should not be adversely impacted because cash flows remain constant, although accounting profits may be volatile — depending on the timing of physical completion.

“Furthermore, IFRIC 15 is still being debated by various parties with vested interests, including Rehda. In our opinion, the proposed introduction of IFRIC 15 may be delayed for perhaps two years to ease the transition period for developers, like in Singapore,” it said.

The research house said property equities in the region had started to outperform rising markets in recent months. It said historically, large-cap sector bellwethers would be the first to be re-rated by the market — as institutional investors looked for liquid proxies to the property market.

“Strong underlying demand fundamentals, ample property liquidity and easing concern over policy risks underpin this belated rerating,” AmResearch said.

Also, it expects the redevelopment of the Malaysia Rubber Board’s (MRB) highly sought after land (3,400 acres) in Sungai Buloh to propel property stocks into the limelight.
It added that the master developer, the Employees Provident Fund (EPF), may carve out select parcels to co-develop with established developers.

AmResearch also expected a broadening in residential demand, with a return of pent-up buying in the mass housing market — forming a stronger base to rejuvenate the upgraders’ cycle after a lull of more than two years.

“As it is, developers are already looking to accelerate presales. For example, S P Setia is confident of achieving its all-time record presales of RM2 billion this year. IJM Land has already achieved more than RM1 billion in new presales this year.

“Transaction volume — a key share price driver, should continue to rise. In turn, this will provide the fundamental underpinning - for a sustained property price appreciation and by extension, NAV upgrades,” AmResearch said.

On the stocks to buy, it admitted, S P Setia’s valuations — forward FY11 price-to-earnings (PE) ratio of 19 times and a 4% discount to its fully diluted NAV of RM4.61 per share — was somewhat was less attractive compared to IJM Land.

“The latter is trading on a much cheaper forward FY11 PE of 12 times, and also a wider discount of 41% to our estimated fully diluted NAV of RM4 per share.

“But S P Setia is still the property sector’s bellwether due to its larger market capitalisation of RM4.5 billion versus IJM Land’s RM2.6 billion.

“Hence, S P Setia will be re-rated along with IJM Land because of its traditional status as a big-cap proxy to the property sector. We are buyers of both SP Setia and IJM Land although we prefer the latter on valuation and its steeper underperformance,” AmResearch said.

It is also a buyer of Ivory Properties Group, which is a pure proxy to the robust residential market in Penang because of its strategically located prime development sites and astute deal makings particularly in successfully reviving “abandoned” projects.

“We see scope for transformational growth from the large NAV-accretive land deals under negotiation. Its active acquisition pipeline should generate strong news flow momentum, which will underpin share price performance.

“Valuations are attractive - trading on a forward FY11 PE of just four times and 54% discount to our NAV of RM2.70 per share,” it said.

A deep mis-pricing of IJM Land-WA
Meanwhile, AmResearch said a deep mis-pricing of IJM Land-WA provided the opportunity for leverage trade on IJM Land.

“It is interesting to note that the market is currently mis-pricing IJM Land-WA. IJM Land-WA is currently trading about RM1 per warrant. Exercise price is RM1.35 per warrant and the warrants will only expire on Sept 11, 2013.

“Break-even price is therefore RM2.35 per warrant, a tad below IJM Land’s current share price of RM2.36 per share. As such, the market is currently not assigning any time value at all for IJM Land-WA,” it said.

In contrast, it said S P Setia-WB would expire a tad earlier on Jan 21, 2013.

“Yet, S P Setia-WB is currently trading at a steep 15% premium to its break-even price of RM5.06 per warrant — as the underlying S P Setia’s current share price is RM4.42 per share,” AmResearch said.