In Focus

S-REITs' yield spread should further tighten to 3%: DBS analyst

It is currently at 3.4%, nearly hitting five-year lows.

The cautious stance by some investors and sell-side analysts towards S-REITs could be shaped by the view that interest rates are rising and valuations are “expensive” against the sector average over the last five years. However, DBS Equity Research analyst Mervin Song argued that “REITs are not straight out bonds” and the impact of rising interest rates is mitigated by an expected upturn in rents.

In a report, Song noted that whilst current yields and yield spreads are near their five-year lows, the last five years have largely seen excess supply, falling rents and sluggish business environments. “In contrast, we are heading towards a period of easing supply pressure, a more buoyant economy and rising rents,” he said.

Also read: Rate hikes put heat on REITs

The analyst proposed that investors should assess S-REITs’ against their longer historical track record and against the backdrop of a multi-year upturn in the Singapore property market. “This is our base scenario over the next three to four years. Under such an environment which also coincides with rising interest rates, yield spreads should tighten to 3% from 3.4% currently,” he said.

S-REIT valuation metrics aside, Song also thinks the market has largely ignored the benefits from the acquisitions made by various S-REITs in recent times. Since the start of the year, S-REITs announced 20 acquisitions worth $5b.

Also read: Fundraising for acquisitions slashed S-REITs' distribution per unit by 2.6%

Notable deals include Ascendas India Trust (a-iTrust)’s acquisition of industrial business parks AURUM IT SEZ and aVance 5 & 6 for $184.92m (INR9.3b) and $268.43m (INR13.5b) respectively. Far East Hospitality Trust (FEHT) also completed its acquisition of Oasia Hotel Downtown for $210m.

Keppel DC REIT bought in Kingsland Data Centre in Singapore for $295.1m. Meanwhile, Mapletree Logistics Trust (MLT) bought a 50% interest in a portfolio of 11 logistics properties in China for $203.44m (RMB985.3m).

What these deals have in common is that this allowed the REITs to deepen their presence in their existing core markets, Song said. Additionally, some S-REITs headed to new markets for the first time with, Frasers Commercial Trust (FCOT), Mapletree Greater China Commercial Trust (MGCCT), Frasers Logistics Trust (FLT), and CapitaLand Commercial Trust (CCT) acquiring properties in the UK, Japan, Netherlands, and Germany.

“On top of providing an immediate DPU accretion and boost to medium-term earnings profile as well as mitigating the impact of increasing borrowing costs, the acquisitions largely also improve the quality of the earnings stream through enhancing the resilience and diversification of SREITs,” Song added. “Furthermore, the addition of freehold properties via overseas acquisitions also protects against the risk of NAV dilution in the medium term, as the properties in Singapore approach the end of their leasehold life.” 

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