Analysing REITS

[weijian]

Not to quibble but I think you meant more expensive equity instead of less?

- Higher dividend yields --> less expensive equity --> unable to financially engineer as well.

Depending on where you put the "expensive". If equity is less expensive, it becomes more expensive to issue it.

Interesting stuffs. Cap rate dropped along with interest rate. Eg grade A office down to 4% or lesser when interest rate was at 1 to 2% maybe in the past. If interest rate stay at 4 or 5%. What kind of cap rate is needed when interest rate stay at 5%?

Investment property value is the function of cap rate and rental

I would be actively looking forward to exceptions of the rule. Let's see how HK Land's finance dept argue with their hired valuers, and also how cap rate (or discount rate) changes for the annual valuation of their investment properties (freehold shophouses/industrial properties etc) of many SGX listed entities for year end FY23.

[CY09]

That's the risk many Singapore REITs now face. Unlike the USA SGX-listed REITs who have revalued their properties and used 6-8% capr rate that caused many of them to touch 45% leverage ratio, Singapore SGX listed REITs have not revalued to that rate. I have asked their I/R before on why 3.4-3.75% Cap Rate for office and 4.25-4.75% cap rate for retail are used. The reply is due to the favourable Singapore property market and strong occupancy rates.

Personally, I find this a bullshit answer and does not justify why Singapore valuers managed to use such a low cap rate when the current risk free rate environment was about 3% then. With SORA now hitting 3.75%, I am of the view that year end, the cap rates used has to be at least 4.25-4.5% for office and 5%-5.75% for retail. In FCT recent report, I was surprised that the valuers did not raise the cap rate despite even SORA raising by 75 basis points. The result is that Yishun North Point and Central Plaza are now valued as though they are risk free (3.75% cap rate).

Only Changi City Point was valued at what i felt was an approriate cap rate of 5%.

[donmihaihai]

Incidentally I borrowed investment property value is the function of cap rate and rental from previous CFO of HK land. He also mentioned that they look at leverage based on interest coverage ratio. I certainly agree.

I see. Expectation change slowly. If a sea change in Expectation happened in interest rate. Then isn't it possible that those linked such as discount rate and expected return from equity and property undergo a sea change as well?

Will be fun to watch the shifting in Expectation in the say next 5 years.

Just to add, IP valued by independent valuer, when the physical market demand a high rate of return, doesn't matter whether they are using direct comparison, discount cashflow or cap rate, the shift will flow through.

[EnSabahNur]

Will be fun to watch the shifting in Expectation in the say next 5 years.

Why do you think it will take 5 years?  Is it because as more fixed rate debts mature, the financing costs will go up and reality will set in for many investors/REITs?

[donmihaihai]

Will be fun to watch the shifting in Expectation in the say next 5 years.

Why do you think it will take 5 years?  Is it because as more fixed rate debts mature, the financing costs will go up and reality will set in for many investors/REITs?

5 years is a nice and neat number. If the current situation is a train wreck, then it looks like a slow motion train wreck and increase in interest cost is just chapter 1. There will be few more chapters to go, Cap rate will certainly be a chapter by itself. Recent disposal of Changi City point at 4 to 4.5% rate clearly say that the expectation of physical property remains high. ie. low rate., high valuation. ditto the expectation here. What if the expectation keeps shifting. It doesn't make sense that interest rate hit REIT/shares but not physical property.  

REIT manager and sponsor will be one big chapter. REIT of these group, in my view should not be view as a standalone REIT but look into as part of the whole. When the group is structure to recycle capital through REIT and really geared the group toward it. There will be chain reaction when it breaks. 

Sound like you expect this to be short. Why so?

[EnSabahNur]

I actually don't think it will be short, your post and others, brought up many good points why this should be longer than expected.

Our SG REITs seemed to have learned their lessons from the GFC and spread out their maturities. While this is great, I thought this means the higher interest rates, which occurred in a relatively short period of time, will hit the REITs slowly but surely.

Just to recap some points:
- cap rates remain surprisingly low, like some posts have mentioned. I have no idea why. Is there an expectation that inflation will help rents catch up and justify the firm valuation of the assets?

-under ZIRP, debt was cheap and can be used to acquire assets. Yields were low because TINA, so equity can be used to acquire assets. What happens now that debt is expensive and equity (by right) should be expensive as well? Can REITs continue to acquire with funding, or face difficulties growing?

- like you mentioned, some sponsors have explicitly said the REITs are part of their strategy to recycle capital. Related to the point above, what happens when REITs find it hard to raise funds to acquire from the sponsor? what is the impact to the sponsor?

I am very surprised the blue chip REITs like the Cap land family, remain trading at low dividend yields of about 5 to 6 percent. While I am not in the business of guessing where prices go in the short term, I wonder what I am missing here?

I have more questions than answers. Hope the valuebuddies can share some insights.

[CY09]

To why Capland REITs are at low yields of 5-6%, if i were to venture a guess. This is due to the low cap rates they are using (Cap rate used has been around 3.75%-4.00% which is the current SORA rate and means Singapore valuers value SG properties as close to risk free, foreign SGX listed REITs are using 6-8% cap rate). With the ability to report low Cap rates, Singapore based REITs run a lower risk of being over leveraged. A comparison of local SGX REITs and foreign SGX REITs shows their ICR (earnings/interest ratio) are similar, however, on the leverage ratio part, local SGX REITs report much lower leverage (which suggests Cap rate used has a large effect)

Secondly, Singapore has a unique problem where it is cash rich with a huge amount of money circulating in our country. This is due to (i) investors using the Sing Dollar as a safe haven and hedging against their own local currency, besides the HKD and USD, Sing Dollar has appreciated against every currency, (ii) China nationals are taking their wealth and converting it to SGD, Singapore does not want to admit but in recent years, there has been a flood of Chinese money because PRC nationals are allocating more of their wealth to SGD due to our relatively better security, rule of law which ensures their wealh cannot be confiscated by a head of state and that culture is similar to China. The result is that the cost of borrowing is relatively low and in Capland reports, it has been able to issued SGD fixed term notes priced at SORA levels.

This is unique reality Singapore faces. SGD is strong and appreciating, economy is flush with cash which depresses borrowing cost. REITs benefit from this because they can report theirbalance sheet is strong and they have the ability to repay their SGD/JPY loans

[weijian]

Putting this here since we are talking about risk free rates...

Author put up an interesting perspective that technology is long term deflator, but short term inflator. That is what we have been seeing for the past 2 years as everyone is striving for "net zero"?

But I would disagree using 800years of history as a guide because the context is totally different. Pascal is only about 400 years old and the Black-Scholes Model is only about 50years old. I tend to believe human progress allows us to approximate closer to the truth.

The Long, Long View of Interest Rates

If people live longer than they work, and provide for their old age by saving money; if technological advances are deflationary over time and haven't been happening as often as they did at the peak; and if countries still grudgingly rely on the dollar; then the long-term set point for rates will decline over time......but it's true that the deployment of AI will increase spending right away while reducing it later on. So, enjoy high rates for a while, at least if you happen to be enjoying them. The safe long-term bet is what it's been for the last 800 years.

https://www.thediff.co/archive/the-long-...est-rates/

[donmihaihai]

My brain shut off every time technology is being said as one of the key.

If technology is a long term deflator, why deflation belong to the past? Inflation in 1800 was 2.44% inflation from 1800 to 1810 look like 0%. The rich rode horse and poor walk then. Now in countries like Malaysia and Taiwan, a 5 min walk from their houses is crazy to most. Back then, I believe most people in 1800 spend most of the time to get foods. Not the case now unless one is born in a wrong country.

https://www.officialdata.org/us/inflatio...C342.77%25.

[weijian]

My brain shut off every time technology is being said as one of the key.

If technology is a long term deflator, why deflation belong to the past? Inflation in 1800 was 2.44% inflation from 1800 to 1810 look like 0%. The rich rode horse and poor walk then. Now in countries like Malaysia and Taiwan, a 5 min walk from their houses is crazy to most. Back then, I believe most people in 1800 spend most of the time to get foods. Not the case now unless one is born in a wrong country.
 
https://www.officialdata.org/us/inflatio...C342.77%25.

Well, when I was studying in University, I got my 1st ever laptop courtesy of a bank loan, for ~3000sgd dollars....Fast forward to another 15years, thanks to Moore's Law, I think I got another one for >50% less than my first laptop.

I am a MLTR fan and got their CD album for ~20bucks then? Fast forward to now, I can listen to their greatest hits on Youtube any time I want (at the cost of enduring some 10-15s ads)

Those huge Jap CRT 15inch TVs that my parents bought and put in our living room....Now that I got my own accommodation, the Korean brand costs the same (actually they cost less since we need to discount the yearly inflation) but several times bigger, and hey, I can even surf the net with it!

Statistics shut my brain off, whenever it doesn't align to reality.

P.S for those who don't know what MLTR stands for, you can google it