Why Are SG REITs Underperforming in 2023? Should You Sell or Buy More Now?

Why Are SG REITs Underperforming? Should You Sell or Buy More Now?

Real Estate Investment Trusts in Singapore (SG REITS) have taken quite a beating this year with the S&P Singapore REIT index down 9.66% YTD. Unrelenting interest rates and stock market sell-offs have put huge downward pressure on Singapore REIT prices who are alot more susceptible to interest rate fluctuations.

The high interest rates environment has been pretty harsh on dividend stocks and Singapore REITs.

How Interest Rates Affect SG REITs

Higher Borrowing Costs

REITs in Singapore are highly regulated and are required to pay out at least 90% of their profit to shareholders. What this means is that the main source of funds for expansion usually comes from borrowing, which is why we look closely at gearing ratio when analysing REITs.

When interest rates soar, the cost of borrowing also increases significantly which hurts net income for REITs. As a result, we actually see a lot of SG REITs actively trying to reduce their gearing ratio during this period of high interest rates.

I believe this is the smart thing to do in order to ensure that the REIT isn’t too highly leverage and pay too much unnecessary costs. In general, anything above 40% gearing ratio (especially in the current macroenvironment) represents an extremely high amount of debt.

Because of this limitation, REITs also aren’t expanding too aggressively which may take a toll on future income and growth prospects.

More Attractive Alternatives

The prolonged high interest rate environment has also resulted in large changes in money market instruments available to retail investors as US bond yields surge to higher levels.

If you’ve been around personal finance blogs, YouTube channels and communities, you’ll probably have noticed that fixed income investments have been blowing up. Assets like Singapore savings bonds (SSB) and high-interest savings accounts are getting a lot of limelight because of rising interest rates.

With the risk-free rate on the rise, many people are flocking to offload their stocks in favor of lower risk assets that still give pretty decent returns. In general, many dividend stocks and REITs have received the blunt of the sell-offs.

Rental Reversion

Although rental rates are on the rise in Singapore, many REITs have leases that are already locked in. As old leases expire, new leases are signed at the higher market rates. It is also important to consider the rental reversion metric to see how many new leases are signed for a particular REIT to get a sense of income.

Where are we at With Interest Rates?

Expected to stay high at the band of 5.25-5.5% until the end of the year, with the slim possibility of another rate hike by the Fed.

Likely to stay high for another 7-9 months before slowing coming down (depends on the Fed).

Is Now a Good Time to Buy Singapore REITs?

Given that interest rates are likely to stay high for at least another 2 quarters, this presents strong buying opportunities to accumulate SG REIT positions during this time at lower prices.

Whilst the price-to-book ratio is looking really attractive right now for many of the major REITs (almost at all time lows), dividend-per-unit (DPU) for SG REITs are likely to remain low for the coming quarter.

It’s likely that prices may continue to decline in the near term as the current trend seems to be going down. My estimate is that prices are likely to decline further this quareter, and then move sideways for awhile next year until the Fed shows a clear indication that they will be lowering interest rates.

And then there’s also the risk of an escalation of war in the Middle East which could complicate the market sentitment.

So if you’re planning to open positions in Singapore REITs, you’ll need to have a mid to long-term investment horizon.

My strategy at this point is to wait a little longer and perhaps pick up a couple of REITs like Mapletree Industrial Trust (SGX: ME8U) and CapitaLand Mall Trust (SGX:C38U) sometime later in the year.

I will be looking more closely at Singapore focused REITs with lower volatility compared to those with a lot of assets overseas.

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