Analysis: Asian REITs Under Pressure

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Real estate investment trusts were all the rage in Asia last year, as investors chased high yields in an environment of near-zero interest rates and choppy stock markets. But REITs are starting to encounter headwinds, particularly in Southeast Asia and China, where a bear market began in late May across many emerging markets.

So far this year, REITs have lost money in New Zealand (down 0.3 percent), Australia (down 5.2 percent), Hong Kong (down 5.6 percent), Singapore (down 8.0 percent), China (down 10.7 percent) and India (down 22.7 percent), according to the Thomson Reuters/GPR/APREA Composite Index.

It is a marked turnaround, with the one-year performance well into double digits for all those markets, except India. Many Asian markets are suffering from the U.S. Federal Reserve's decision to "taper," or slowly cut down, its asset purchases under quantitative easing, a move expected to hit emerging markets most severely. That is causing interest rates to rise, and the increasingly obvious recovery in the United States is encouraging investors to repatriate money from Asia to the West, and to shift from yield plays into riskier equities in developed markets.

"REITs are for sure heading down, and the reason for that is quite straightforward," Nicole Wong, the Asia head for property research at CLSA, told the World Property Channel. "REITs are about having a bit of yield when there is no risk-free income to be generated. When the deposit rate is 0.001 percent, a REIT yielding 3 or 4 percent is a lot. ... But when the risk-free rate [for bank deposits] is going up 1.5 percent, and the net yield is 4 percent, the margin over the free rate is 2.5 percent. Why bother?"

While Japan's J-REITs are likely to be supported by "Abenomics" and the central bank's pledge to buy up REIT shares, the market turmoil suggests tough times ahead for REITs in places like Thailand (15 new REITs since the start of 2010), Singapore (nine new REITs), and Malaysia (four new REITs), which have seen the fastest issuance in this decade.

A yield of 4 percent does an investor little good if stocks are being punished. CLSA has slapped a "sell" rating on the Link REIT, at HK$87.7 billion (US$11.3 billion) [by far Hong Kong's largest new REIT, with a staid portfolio of car parks and ageing suburban malls. Its shares are down 21 percent since May 16, around the time the Fed announced its tapering.

"A lot of the REITs have very slow growth," Wong explained. "Investors would rather buy into assets that are enjoying growth. Hong Kong and Singapore are also more exposed because they don't have their own interest rate regime, whereas maybe Australia will cut interest rates, which might offer some support."

Hong Kong has a pegged currency to the U.S. dollar, effectively meaning the Fed sets its interest rates, while Singapore pegs its currency to a basket of the biggest currencies in the world. A stronger U.S. dollar also encourages investment flows into U.S. equities, and forces down returns in other currencies, such as most Asian nations.

For instance, India is suffering from a sharp drop in its currency, down 6 percent against the U.S. dollar in June alone, the worst emerging-market currency. That's wiped out any promise of REIT yield, and investors have added further downward pressure by moving out of Indian stocks, fretting over both a potential change in stance from India's dovish central bank and a national deficit.

Singapore's transaction landscape is already being reshaped by the steady flow of REIT issuance. In the second quarter, two REITs that listed last year did their first deals since going public, with Ascendas Hospitality Trust bought Park Hotel Clarke Quay for S$300 million (US$235 million), and Far East Hospitality Trust bought the Rendezvous Grand Hotel and Rendezvous Gallery for S$264 million (US$207 million).

Overseas Union Enterprise is looking to divest its Mandarin Orchard and Mandarin Gallery hotels into a hospitality trust, while Singapore Press Holdings wants to spin off its retail malls Paragon and Clementi Mall into SPH REIT, which pushed back book building to July 10, from June 20, due to poor market conditions. It's looking to raise as much as S$554 million (US$434 million).

The new listings mean hospitality REITs are likely to be by far the most active, according to the brokerage DTZ Debenham Tie Leung. But with several new REITs chasing deals in an already competitive landscape, there's risk of overpaying at a time the macro Asian economy is in slowdown mode, putting pressure on room rates and occupancy.

"The stock of assets is quite limited," Lee Lay Keng, the head of Singapore research at DTZ, told the World Property Channel. "So of course they are looking at acquisitions to boost their portfolio. But we don't expect a flurry of transactions."

The number of hotel deals in Asia is up sharply this year, with transaction volumes up 85 percent in the first six months of 2013, according to Jones Lang LaSalle. But investors would do well to scrutinize the prices paid by REITs, at a time their stocks are sliding.

For instance, Singapore-listed CDL Hospitality Trusts disappointed when it issued its first-quarter results on April 26.

"We think that CDLHT's performance reflects an increasingly competitive SG  [Singapore] hotel landscape and is a reminder that demand remains fairly weak on account of the global macro-environment," Macquarie analysts Min Chow Sai and Paul Lin Zikai wrote in a report on the results.

They attributed the disappointing numbers mainly to a 6.6 percent decline in performance from the Singapore portion of the company's portfolio, due to lower revenue per room and lower occupancy. "Investor caution is still warranted, considering that the negative outlook is likely to remain through the medium term and that tourism data remain fairly weak, in our view," they wrote.