Don't buy S-Reits on high yield spread

Nomura analysts warn against it as they see mis-pricing in retail & industrial

Investors should not buy S-Reits just because of high yield spreads between Singapore real estate investment trusts and government bonds, Nomura analysts have cautioned.

'We see the greatest mis-pricing in the retail and industrial sectors,' said analysts Tony Darwell and Sai Min Chow in a report last week. But they see the negative views in the office sector as having been more than priced in.

Current yield spread between S-Reits covered by Nomura and 10-year Singapore government bonds stands at 543 basis points compared with the five-year historical spread of 324 basis points.

But investing based on higher yield spreads is 'somewhat simplistic'. 'The low yield spreads of 2005-2008 reflected leveraged acquisitions amid positive rental reversions delivering 16 per cent sector DPU (distribution per unit) growth per annum,' the analysts noted in the report.

'We think a supply and demand imbalance in the office, retail and industrial sectors, amid weak economic activity, will underpin a widespread contraction in DPUs as Reit portfolios are faced with rising vacancy and negative reversions (on lease expiry).'

The net take-up in the central business district was a surprisingly low negative 558,418 square feet in the first quarter of this year, the analysts noted. 'With the demand outlook weakening, vacancy is likely to rise faster and remain higher for longer than expected, suggesting a drawn-out recovery.'
Sliding retail sales are likely to put stress on Singapore's retail landlords and the new supply of retail space might allow some tenants to bid down rents.

'As supply increases and retailing activity remains broadly weak, retailers will begin to rationalise the number of outlets and become increasingly selective of mall locations and sensitive to asking rents,' they said.

With manufacturing output down, industrial landlords will also face declining rents and downward pressure on asset prices.

Nomura has a 'buy' call on CapitaCommercial Trust but cut its ratings on Mapletree Logistics Trust to 'reduce' and on Starhill Global Reit and Suntec Reit to 'neutral' as prices of the latter three stocks have run up recently.

Source: Business Times, 16 June 2009