Why spiking interest rates bode ill for Singapore property sector

Developers to take a hit.

According to Maybank Kim Eng, in its view, the property sector – comprising property developers and property REITs – stands to lose the most amidst spiking interest rates environment. The broad property sector has benefited significantly from a low interest rate environment as evidenced by soaring real estate prices in Singapore.

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As the cost of borrowing is set to rise amid tighter lending rules, we expect real estate prices to correct in the years ahead, boding ill for property counters.

Loser #1: Property developers to see slower new home sales and physical property price correction. Our property developer analyst Wilson Liew believes that physical property prices will come down by 10% in 2014 due to record numbers of physical completions coinciding with slower population growth.

This situation will be compounded by higher mortgage rates and tighter lending rules. The signs are already there: HDB resale flat prices have softened, reducing the motivation for HDB owners to upgrade to mass market private properties. Under this environment, stock valuation is likely to stay compressed.

That said, we think the share prices within our coverage universe would see limited downside, given the already cheap valuations, and there is room for some of the property measures to be unwound in the event that physical property prices correct significantly.

Based on our estimates, our universe is trading at an average 40% discount to our RNAV estimates.

The key risk to our sector view is the fact that property players have de-geared their balance sheets since the 2008-2009 global financial crisis, bringing the industry median gearing ratio down to near its 10-year lows. This is not surprising as property developers were quick to turn around their landbank.

This means they need not be compelled to slash selling prices in order to move units. At the worst, there may be selective occurrences. An industry-wide phenomenon appears remote at this juncture, in our view.

Loser #2: Property REITs face NAV depreciation risk. Rising interest rates have two effects:

 Triggering a recalibration of overheated property prices, especially industrial property prices, and dampening net asset value (NAV). This will lift S-REITs’ gearing ratios (total debts/total assets), which are capped at 60% under the law, affecting the ones with high gearing ratios.

 Raising the average borrowing cost which has been kept low in recent years. Our property REITs analyst Ong Kian Lin sees little refinancing risk with the debt profile well spread out.