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Singapore Developers: Is It The End Of The Road?
For the past week, news have been coming in the US about a possible hike in interest rates as remarks from committee members within the Federal Reserve started to question the continued rate of bond purchases. If the Federal Reserve were to cut down on its bond purchases, interest rates are expected to rise from the current near zero percent.
In Singapore’s property development segment, we have started to notice several strategic moves by key property developers. While most of these moves have been envisioned as long-term, we wonder if it is a sign of things to come. These developments include Keppel Corporation’s recent divestment of Keppel REIT as well as the possible sale of Keppel Land’s Tower three at Marina Bay Financial Centre. These developments beg the question, have the Singaporean property market finally exhausted its stockpile of steroids?
The Effects On Bernanke’s Policy
The possible curtailment of bond purchases by the Federal Reserve has driven up the yield of bonds almost immediately as bond prices fell (the driving up of bond yield is an indication to what will happen to the interest rate). In the event of an interest rate hike in the US, Singapore is likely to follow as we are highly correlated (correlation is a measure of how two independent variables move with each other. A positive correlation means the two independent variables move closely with each other. A positive correlation of 1 means that the two independent variables move in perfect harmony) to the US market.
Source: Factset, Graph of US and Singapore Interest Rates
Property development is an industry which is highly dependent on loans which makes them vulnerable to an interest rate hike. When interest rate goes up, the cost of loans will go up which will drive down the profit margin of developers.
Demand for properties might also be affected as higher interest rates keep buyers away due to higher costs. At the same time, there might be selling pressure in the secondary market for properties as some owners might find it difficult to refinance their loans in such a high interest rate environment. In view of such a difficult environment, is it time to sell on Singapore property developers?
The Developers
On the Singapore Exchange, there are several property developers which include a variety of big capitalisation (big cap) and small capitalisation (small cap) companies that undertake different type of property development. Big cap stocks include Capitaland, CapitaMalls Asia and Keppel Land which have projects in the residential, office and retail sectors in Singapore and overseas. Small cap stocks include Chip Eng Seng, Low Keng Huat and Lian Beng which have smaller projects in their portfolios, including projects from the Housing and Development Board.
Below is a table of local developers as well as selected investment ratios.
Source: Factset, Ratios of Keppel Land, Capitaland, Capitamall, Lian Beng, Chip Eng Seng and Low Keng Huat
Diversified Property Developers?
Developers like Capitaland, Capitamall and Keppel Land have country diversification as they develop and own properties overseas. Among which we will focus on China as there is a low correlation between the interest rate of China and US unlike Singapore. Our preference for companies with China exposure comes as President Xi Jinping of China vowed to keep the nation’s GDP above 7 percent, guaranteeing growth of the country.
The property market remains tight in key cities (Beijing, Shanghai and Guangzhou) and robust in developing cities (Chongqing and Chengdu) in China. Based on research from Jones Lang LaSalle, rentals of these regions in China are still growing at a healthy rate.
Source: Factset, Graph of US and China Interest Rates
The residential segment in key cities in China is expected to rise as there are news on plans to scrap the law on Hukou in China. This law restricts the movement of people in China as they are made to stay in their hometown which prevents rural to urban migration.
Currently, Chinese workers in urban areas with their Hukou in other provinces are considered to be illegal residents and are therefore not be eligible for social benefits or able to purchase a property in their place of work. If the law is abolished, demand for residential properties is seen to rise due to urban migration.
The Road Ahead
In view of the current outlook, market watchers have a preference for big cap stocks with strong balance sheets such as CapitaLand, CapitaMalls Asia and Keppel Land. Small cap stock such as Chip Eng Seng, Low Keng Huat and Lian Beng might face financial difficulties during an interest rate hike.
For Singapore developers in China, they will have the benefit of country diversification which reduces their direct exposures and helps to provide a buffer for domestic downsides. Also in China, Singapore developers are seen as the preferred choice compared to their local counterparts. This is mainly due to better development reputation as well as the continued support of the Singaporean government for corporates to expand in China through large scale projects such as the Suzhou Industrial Park and the Tianjin Eco-city.
Source: Factset, YTD graph of STI
The Straits Times Index’s growth since the beginning of 2013 has been nearly wiped out recently. With interest rates no where to go but up, stocks can be expected to underperform particularly cyclical counters such as the property developers. Although diversifying into China might prove to be a long term boon to property developers, investors should still exercise caution as most locally listed property developers still have significant exposure to the domestic market.
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