THE relatively mundane stocks of real estate investment trusts (REITs) are back in vogue this year, especially with the surprise cut in interest rate to 3% by Bank Negara last week.
Since the start of this year, many REITs investors have enjoyed capital appreciation compared to the equity and the bond markets.
During this period, all 17 REITs stocks of Bursa Malaysia have outperformed the FBM KLCI’s 2% drop, while the 10-year Malaysian Government Securities yield is at about the 3.7% level.
One of the biggest gainers so far is Pavilion REIT, which has risen more than 22% on a year-to-date basis, trading at RM1.77 a share.
At the current share price, Pavilion REIT is trading at 20 times earnings, which is higher than the industry price-earnings ratio average of 16 times.
Among the factors that contribute to a the rally in Pavilion REIT’s share price is investors’ confidence in the firm’s latest acquisitions of Da:men Mall in Subang and Intermark Mall.
Hong Leong Investment Bank (HLIB) Research says it expects that Pavilion REIT’s income in financial year ending Dec 31, 2017 (FY17) would grow by 15% from its two new assets, coupled with rental reversion in its crown jewel Pavilion KL Mall, which is expiring in the fourth quarter of this year.
The research house says that dividend per unit of Pavilion REIT shares is expected to grow by 12% year-on-year and a projected dividend yield about 5.9% in FY17.
“We believe the projected FY17 dividend at 9.7 sen yielding at 5.9% at current price is still attractive with a proven management team of retail assets,” it said in a recent report.
Up to 68% of the net lettable area (NLA) in Pavilion KL would be up for renewal end of this year and that the management is looking to change some of its tenants mix.
Note that Pavilion REIT achieved 55% average rental revision in 2015 for Pavilion KL despite weak consumer sentiment due to the implementation of the good and services tax (GST) due to the prime location of the mall. Pavilion REIT bought Da:men for RM488mil and the Intermark Mall for RM160mil, which account to about 30% of its total portfolio NLA. From the purchase, the firm’s portfolio asset is now stood at RM5.2bil.
“With portfolio assets now at RM5.2bil coupled with below-industry gearing of about 26%, there is still much headroom to grow further. “Beyond 2016, inorganic growth that could be coming from its sponsor includes Pavilion mall extension (targeted to open by end-2016 t early-2017) and Fahrenheit88,” says HLIB Research.
The management of Pavilion REIT had earlier indicated that the group is looking at 8%-10% growth in revenue from the two new malls.
In its latest annual report, Pavilion REIT said Pavilion KL mall would still be the main contributor to the firm of about 84.8%, while da:men USJ, Intermark mall and Pavilion Tower would contribute 9.5%, 3.1% and 2.6%, respectively.
Among the REITs that offer the highest yield are MRCB-Quill REIT with 7.0% and YTL REIT with 7.4%. The largest REIT in Malaysia by asset size, KLCC Stapled REIT, carries a yield of 4.6%.
Note that in mid of this month the Securities Commission Malaysia (SC) released several proposal for the Malaysian (M-REITs), which include a proposal to establish a 15% cap on a REITs’ total asset
value for property development, acquisition of vacant land, as well as property under construction.
The rating agency said that the 15% cap for would provide greater latitude in asset allocation, to boost returns amid limited acquisition prospects and compressed yields.
It adds that REITs with sponsor that involve in property development such as Sunway REIT and Axis REIT will be better poised to benefit from the liberalisation.
“For REITs with ageing assets, the move presents opportunities to rebuild according to their needs that will better fit their strategies and to differentiate themselves,” says RAM head of structure finance ratings Siew Suet Ming. He says that the limit on investment in greenfield developments should help maintain the REITs as generators of recurrent income and distinguish them from property-development companies.
“This new proposal will undoubtedly be an added consideration for future Reits, versus the option of setting up a stapled security structure such as the KLCC Stapled Group,” Siew elaborates.
RAM says that most of the SC proposed changes to the guidelines on Reits are generally positive for the industry and will keep enhancing industry oversight while facilitating its growth.
“Nonetheless, we remain cautious of the associated market, execution and construction risks that may introduce earnings volatility to an otherwise stable sector,” it says.
Despite the increased risk profile of Reit, RAM says that most REITs are unlikely to trade properties to speculate on capital values. “Rather, they will allow their capital to be used earlier in the development cycles; development profit, if any, will be retained.
“We also view this as a natural extension of existing REITs activities from just an end purchaser, to enhance their value proposition to unit holders over the longer term,” it says.
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