Singapore REITs: Playing on Potential Fed Rate Cuts

Key Terms Related to REITs

Understanding the jargon associated with REITs is crucial for making informed investment decisions. Here are some key terms:

Distribution Per Unit (DPU)

This is the amount of dividends paid out per unit of the REIT. It’s a critical metric for investors seeking income, as it indicates the cash return they will receive.

Gearing Ratio

This measures the level of a REIT’s debt relative to its equity. A higher gearing ratio means more debt, which can increase risk but also potential returns. Singapore has a regulatory cap of 50% on the gearing ratio to maintain financial stability.

Net Asset Value (NAV)

This represents the value of the REIT’s assets minus liabilities, divided by the number of outstanding units. It’s used to determine if the REIT is trading at a premium or discount to its actual value.

Occupancy Rate

This is the percentage of the REIT’s properties that are currently leased. Higher occupancy rates generally indicate better performance and higher income stability.

Revenue per Available Room (RevPAR)

This is a performance metric used in the hospitality sector, calculated by multiplying a hotel's average daily room rate by its occupancy rate. It helps assess a REIT's ability to generate revenue from its hotel properties.

S-REITs: Sectors and Drivers

S-REITs encompass a diverse range of property sectors, each with unique characteristics and key players:

Retail REITs

Retail REITs invest in shopping malls and retail spaces. Their performance is closely tied to consumer spending and economic conditions.

• Key Players: CapitaLand Integrated Commercial Trust (CICT), Frasers Centrepoint Trust (FCT), Paragon REIT
• Characteristics: Depend on foot traffic, retail sales, and consumer confidence.
• Current Trends: Increased international visitor arrivals and return-to-office trends are favouable for retail REITs.

Office REITs

Office REITs focus on commercial office buildings. They thrive in environments with robust business activity and low unemployment rates.

• Key Players: CapitaLand Integrated Commercial Trust (CICT), Keppel REIT
• Characteristics: Influenced by office space demand, employment rates, and economic growth.
• Current Trends: Return-to-office trends could be favourable for office REITs, but increased downsizing especially in tech firms could be a headwind.

Industrial REITs

Industrial REITs invest in warehouses, logistics facilities, and manufacturing properties. They benefit from economic expansion and increased trade activities.

• Key Players: Mapletree Logistics Trust, Ascendas REIT
• Characteristics: Linked to manufacturing output, trade volumes, and e-commerce growth.
• Current Trends: The slowdown in manufacturing activity as high interest rates filter through the economy will likely affect industrial property demand. However, industrial REITs are benefitting from secular growth trends such as semiconductor manufacturing, biomedical research, etc.

Hospitality REITs

Hospitality REITs own and manage hotels and serviced residences. Their performance is highly dependent on tourism and business travel.

• Key Players: CapitaLand ascott Trust, CDL Hospitality Trusts, Far East Hospitality Trust, Frasers Hospitality Trust
• Characteristics: Driven by tourist arrivals, occupancy rates, and average room rates.
• Current Trends: Increased tourism will continue to boost this sector especially if Chinese tourists return. Increased MICE and entertainment events will also continue to drive hospitality revenues.

Healthcare REITs

Healthcare REITs invest in hospitals, nursing facilities, and senior living properties. They are considered defensive investments.

• Key Players: Parkway Life REIT, First REIT
• Characteristics: Less cyclical, reliant on healthcare demand and aging population.
• Current Trends: This is a more defensive play against risks of economic downturns, supported by aging population trends and AI-related healthcare uplift.

Data Center REITs

Data Center REITs own and operate data storage and processing facilities. Their demand is driven by increasing data usage and cloud computing needs.

• Key Players: Keppel DC REIT, Digital Core REIT
• Characteristics: Linked to technology adoption, data consumption growth, and digital transformation trends.
• Current Trends: This is a relatively new category, and growth of AI bodes well for this sector.

Diversified REITs

Diversified REITs own and manage a varied portfolio that includes multiple types of properties such as office spaces, retail locations, residential units, and sometimes industrial facilities.

• Key Players: CapitaLand Integrated Commercial Trust, Mapletree Pan Asia Commercial Trust, Suntec REIT
• Characteristics: Linked to technology adoption, data consumption growth, and digital transformation trends.
• Current Trends: A diversified portfolio helps mitigate risks and a balanced exposure to different REITs sectors.

Why Add S-REITs to Portfolios?

Stable Income

S-REITs are known for their regular and attractive dividend payouts. They are mandated to distribute at least 90% of their taxable income to unitholders, making them a reliable source of passive income. This makes them particularly appealing to income-focused investors, such as retirees.

Diversification

Adding S-REITs to a portfolio provides diversification, reducing overall investment risk. Real estate often has a low correlation with other asset classes like stocks and bonds, meaning it can provide stability during market volatility.

Liquidity and Accessibility

S-REITs are traded on the Singapore Exchange (SGX), providing investors with liquidity and ease of access. Unlike direct real estate investments, which can be illiquid and require significant capital, S-REITs allow investors to buy and sell units easily and with lower initial investment amounts.

Potential for Capital Appreciation

Besides regular income, S-REITs can also offer capital appreciation. As property values increase over time, so does the value of the REIT. This can result in price appreciation of the REIT units themselves, providing investors with potential gains.

Inflation Hedge

Real estate is a tangible asset that typically appreciates in value over time, offering a hedge against inflation. Rental income, a significant part of REIT earnings, often increases with inflation, providing a natural protection against rising prices.

Professional Management

S-REITs are managed by professional managers who handle property acquisitions, leasing, and maintenance. This allows investors to benefit from real estate investments without the hassle of direct property management.

Stringent Regulation

Singapore’s REIT sector is governed by stringent regulatory requirements, ensuring stability and protecting investors. These include:

• Distributing over 90% of taxable income to shareholders annually.
• Maintaining a gearing ratio of less than 50%.
• Limiting property development investment to a maximum of 25% of their total asset value.

Current Outlook for S-REITs

Potential Fed Rate Cuts

With the possibility of upcoming Fed rate cuts, S-REITs stand to benefit in three ways.

1. Rate cuts generally lead to lower borrowing costs, which can enhance profitability for REITs given that they are usually heavily reliant on debt to finance their property acquisitions. Lower interest expenses mean more net income, which can be distributed to unitholders.
2. Lower interest rates make REIT yields more attractive relative to bonds, potentially driving increased investor demand for S-REITs
3. Lower interest rates can increase property valuations, as a lower discount rate will need to be applied when valuing asset prices. This can enhance the NAV of REITs and potentially lead to capital appreciation for REIT investors.

Sustained Economic Resilience

Singapore’s economic growth has been robust in the first half of 2024. The manufacturing sector has halted its contraction with the upswing in the global tech cycle, while construction also rose with the increase in public sector projects. The services sector has also been strong with performances by popular artists like Taylor Swift and Coldplay in H1, and the F1 race will likely sustain the momentum for tourism and services sector in H2. The continued pickup in economic activity is a positive for rental growth and could underpin the momentum in REITs as well.

Current Valuation Discount

The performance of S-REITs has been negatively affected in the last three years by the high interest rates. But this has meant that many S-REITs are currently trading at a discount to their Net Asset Value (NAV), presenting a buying opportunity for investors. As per Bloomberg calculations, the FTSE ST REIT Index current trades at a forward dividend yield of 6.23%, higher than the current yield of 5.25%, and the forward price-to-book ratio of 0.89 times is lower than the 10-year average of 0.99. This discount indicates that the market price of the REIT units is lower than the value of their underlying properties, potentially allowing investors to acquire quality assets at a bargain.

S-REITS vs. Singapore Bonds and Bank Stocks: A Comparison

S-REITs offer compelling yields compared to other income-generating investments such as Singapore bonds or Singapore bank stocks.

According to Bloomberg, the 12-month forward dividend yields for REITs vs. banks are below:

• FTSE ST REIT Index: 6.17%
• DBS Bank: 6.46%
• UOB Bank: 5.64%
• OCBC Bank: 5.88%

This compares to the 10-year MAS Benchmark government bond yield of 3.4%.

Clearly, S-REITs have comparable dividend yields to Singapore’s banks, and significantly higher than Singapore government bonds. The allocation among bonds, banks, and REITs largely depends on an individual’s risk tolerance and investment goals. Bonds usually have a lower risk profile, compared to REITs and bank stocks. Meanwhile, bank stocks offer a higher growth profile compared to REITs.

Investors seeking stable income with a lower risk appetite may prefer a higher allocation to bonds, known for their historically lower price volatility. S-REITs are attractive to a broad range of investors, offering steady income, lower risk, and portfolio diversification through real estate. Meanwhile, bank stocks are ideal for those seeking both growth and income, but comfortable with volatility.

Investment Strategy

Investing in REITs is as straightforward as trading stocks. However, it is essential to consider your own financial goals and risk tolerance. The following criteria can be used to evaluate potential REIT investments:

• Strong Sponsors: Sponsors with robust financial health and a history of successful projects.
• High-Quality Properties: Properties in high-demand locations that can pass on rent increases to tenants.
• Property Tenancy Quality: High occupancy rates with reputable tenants.
• Stellar Track Record: Consistent and growing distributions over time.
• Low Gearing: Especially important if interest rates are expected to rise.
• Strong Management Team: Experienced and competent managers who can navigate market challenges.

For investors looking to gain diversified exposure to S-REITs, several ETFs offer an efficient way to invest:

• Lion-Phillip S-REIT ETF: Focuses on S-REITs, providing exposure to a diversified portfolio of Singapore-listed REITs.
• NikkoAM-StraitsTrading Asia ex Japan REIT ETF: Includes S-REITs along with other Asia ex-Japan REITs, offering regional diversification.
• Phillip SGX APAC Dividend Leaders REIT ETF: Tracks high-yielding REITs across the Asia-Pacific region, including S-REITs.
• CSOP iEdge S-REIT Leaders Index ETF: Replicates the performance of the iEdge S-REIT Leaders Index.
• UOB APAC Green REIT ETF: This is the world’s first APAC Green REITs ETF. The Fund aims to replicate the iEdge-UOB APAC Yield Focus Green REIT index.