Be selective of S-REITs as valuations aren’t cheap, warns OCBC

OCBC is maintaining its “neutral” recommendation on the S-REIT sector as it projects overall DPU growth for the financial year to fall.

For the S-REITs under OCBC’s coverage, overall DPU growth came in positive at 2.4% y-o-y in the Jan to March period, a reversal as compared to the five straight quarters of flat to negative DPU growth.

“Looking ahead, within our coverage, we project overall DPU growth for the current financial year to decline by a market-cap weighted average of 0.2%, partly driven by Ascott Residence’s rights issue announced in March,” says lead analyst Andy Wong in a Monday report. For the next financial year, OCBC is projecting a 2.8% growth in DPU.

Wong says the markets have largely factored in expectations of a further rate hike during the upcoming June FOMC meeting. But with ongoing geopolitical uncertainties, OCBC says a question mark remains on whether there will be more than three rate hikes this year.

Furthermore, with major stock indices trading at relatively high valuations and given the continued tightening of bond yield spreads, coupled with ample liquidity in the markets, OCBC sees room for further tightening in S-REIT yield spreads in the near-term, but urge investors to be selective by adopting a prudent bottom-up stock picking strategy.

For the industrial sector, Singapore’s manufacturing PMI remained in an expansionary mode in April, while industrial production growth of 6.7% y-o-y for the same month beat market expectations.

Although core Grade A CBD office rents continued to trend downwards q-o-q in 1Q17, the magnitude of decline moderated from the previous quarter. Retail sales excluding motor vehicles also returned to positive territory in March, following a dip in February. For the hospitality sector, RevPAR and visitor arrivals from Jan-March rose 0.4% and 4.0% y-o-y, respectively.

Currently, the FTSE ST REIT Index is trading at a forward yield spread of 391 bps against the Singapore Government 10-year bond yield, which is about 0.9 standard deviations below the five-year average of 427 bps.

Besides Frasers Centrepoint Trust (Buy; $2.28 fair value), Keppel DC REIT (Buy; $1.39) and Frasers Logistics & Industrial Trust (Buy; $1.12) which OCBC reiterates as its preferred sector picks.

“We also add CapitaLand Mall Trust (Buy; $2.20) into this list. CMT has underperformed its peers and the broader sector ytd, and we believe headwinds facing the group have been priced in,” says Wong, “It is one of the few S-REITs which are still offering forward yields above their five-year averages.”

At 1.32pm, Frasers Centrepoint Trust, Keppel DC REIT, Frasers Logistics & Industrial Trust and CapitaLand Mall Trust are trading at $2.09, $1.30,$1.04 and $1.96 respectively.

This article first appeared on The Edge Markets Singapore

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