International Real Estate: Is It Worth Investing in Singaporean REITs?
By Marc Djandji, CFA
International Real Estate: Is It Worth Investing in Singaporean REITs?
Figure 1: One year performance of FTSE S-REITs vs STI; Source: Bloomberg
S-REITs outperformed the Straits Time Index (STI) in 2012. But having run up so much we ask: do fundamentals support further gains?
Firstly, REITs in Singapore offer among the highest distribution yields available in major markets. As reported in The Business Times, S-REITs maintained the highest dividend yield and lowest volatility among comparative REIT indices last year.
Furthermore, the low interest rate environment in Singapore led to S-REITs having among the highest yield spreads among both regional and major markets.
Figure 3: Beta of REITs in selected regions. Source: SNL Financial and Ernst & Young
Further, although REITs are typically low beta in nature. S-REITs have the lowest beta among REITs in various major markets. Lower-beta stocks are less volatile and can be attractive to investors who seek an asset which offers income flows and capital appreciation with lower downside risk.
What’s the upside? The Flattening of Private Residential Property Price Index
Properties prices have soared remarkably in the years since the global financial crisis. The Private Residential Property Price Index has surged 58.96%, from 133.3 at Q2 2009 to 211.9 at Q4 2012. US quantitative easing measures as well as the temporary relief of Eurozone debt issues have buoyed investor sentiment around the world and helped to lift the property markets.
Unsurprisingly, inflows to the South East Asia region have been strong. Investors in Europe looked to shift their assets into other regions as much confidence has been lost in Europe. High unemployment figures and a low or negative growth outlook are just a number of issues that they face. Based on the stronger fundamentals of the countries and the growth potential of the region, various investors were seen relocating and investing in the South East Asia region.
However, if we look at the trend of Singapore’s Private Residential Property Price Index, there doesn’t seem to have much of an upside potential for investors to purchase properties at the current price levels. Clearly, while prices remain high, price increases are tapering and flattening out. This could be an indication that we are near the end of the peak phase of the property cycle.
Unsustainable Price Levels
Source: Singapore Statistics
Besides, the record high prices suggest that it will be hard for locals to purchase private properties in future. Since 2006, the Private Property Index has climbed 63.1% whereas the increase in income for the median household and top earners stood at 41.6% and 45.9% respectively, bearing in mind that the economy hasn’t been spectacular during the same period. In the coming years, if sellers are looking to flip their properties, it will be increasingly difficult to seek out new potential buyers as the mismatch between median household income and property prices have widened too much.
For future releases, developers will have to purchase land at a higher cost and with cost of developing properties increasing—along with the required margin that developers place on their projects—the future price of properties is likely to be higher. However, developers are unlikely to find the growth sustainable as prices have already run up so much.
Looking at the sales figures, much of the residential sales are mass market ones and are Outside Central Region (OCR). There has been a shift in sales from Core Central Region (CCR) and Rest of Central Region (RCR) to OCR. One key underlying factor is the issue of price. Transaction levels for CCR and RCR are going at $1,800psf upwards to even beyond $3,000psf. As such, much of the affordability and “value” lay in the outlying regions.
However, with transaction levels hitting $1,200 and beyond for OCR, one may foresee a correction of prices as it is difficult for the median households to afford a property of a quantum that is exceeding $1 million.
Having earlier pointed out that potential for capital appreciation is limited due to high prices; likewise, rental yield isn’t spectacular. Growth in the Rental Index has been weaker than the growth in Private Residential Property Price Index. This translates to weaker rental yields across the board, as seen in the figure below.
Much of the rental issue lies with affordability. Potential tenants are working with a tight budget and that leaves them working with a narrow rental range that they can afford. With many tenantable units and high transaction prices, rental yield has been comparatively lower in recent periods.
Government Cooling Measures
With the new cooling measures imposed by the government recently, the lowering of maximum tenure for housing loans to 35 years and the higher transaction prices would put a strain on the wallets of individuals. A bigger proportion of monthly income would have to be allocated to paying off the monthly repayments to the banks.
Another element which lowers demand for private properties is the fact that foreigners could be deterred by the new regulation that they would have to pay total stamp duties of 18% of a property’s valuation, up from 13%. Meanwhile, foreigners with permanent residency will have to pay 8% stamp duties, up from 3%. This adversely affects demand as approximately 15% of the population is affected by the ruling and potential foreign investors may look elsewhere due to the changes in regulation.
In bid to deter speculative activities, the minimum cash down payment for individuals applying for loans for second or subsequent homes was revised from 10% to 25%. Most condominiums that are freehold, new, and in good locations are switching hands at $1,800psf upwards. With such transaction prices, the cash outlay for an additional home would be around $350k just for a modest sized home of 800sf.
The higher taxes for foreigners and higher upfront payment for 2nd dwellings would all translate to weaker demand in the coming months. This would further limit the potential for capital appreciation and may even lead to a decoupling of the trend, subject to how investors actually react to the set of news.
Vacancy rates have been low. A myriad of factors could account for it, including demand meeting the supply of properties in the market as the influx of non-residents and demand from locals propped up the demand for properties.
Given the strong inverse relation between vacancy rates and the property price index, the low vacancy rates could be a reason for the sustained increase in property prices as there is high demand and low supply.
Source: Urban Redevelopment Authority
The chart above translates to a 26% increase in supply by 2014 and a 59% increase in supply by 2016.
Consequently, the double whammy of anticipated lower demand due to steep prices and further cooling measures and increased supply could see vacancy rates increase. Whether it is purely market forces of supply and demand or the inverse relationship of vacancy rates and price, the probability of a correction is increasing.
The general economic sentiment is also key to the development of the local property market. Much remains to be seen; however, unless Singapore’s economy grows significantly, a weak property market in 2013 and 2014 should prevail.
Given that analysis, REITs worth investing in are harder to find; they are no longer “cheap” which suppresses the distribution yield.
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