S-REITs: Opportunities for yield arbitrage

S-REITs have re-rated strongly year-to-date on the risk rally but the gains haven't been equally distributed. We are seeing some interesting pockets of yield divergence. Using consensus estimates, Suntec REIT is trading at a 300 points yield premium to CapitaCommercial Trust (CCT) despite support from its retail portfolio and fairly similar gearing. Similarly, consensus DPU estimates for Suntec and K-REIT are identical over FY09-10, but Suntec still trades at a significant yield premium. Part of the premium, in our view, is driven by expectations of an equity issue. Meanwhile, CDL Hospitality Trusts is trading at a 260 basis points premium to Ascott Residence Trust (ART). Gearing and geography may play a part here.

Outlook driven?
There is also some notable yield divergence between sectors. Pure foreign plays (excluding Saizen and First REIT) are trading at an average consensus yield of 8.8% versus the office REITs at an average of 10.1%. This is an interesting discrepancy that is overriding the typical country risk premium that is awarded to some of those names. Industrial and office REIT yields are at par on average, but average price to book is 0.7x for the industrials versus 0.5x for the office owners.

Arbitrage opportunity
Economic data is still really sideways, in our view – there is some recovery and bottoming out thanks to stimulus efforts but private sector and consumer activity is still a question mark. As such, we don’t expect much capital appreciation for the sector ex major news flow. We do expect opportunities for yield arbitrage as the divergence corrects, especially as clarity increases on the office outlook.

Rights issues, repackaged
Recent activities in the sector includes equity issues (A-REIT, round two); acquisitions (Suntec and K-REIT); and a combination of both (Fortune REIT). Things don't change as much as branding does: managers will toss around buzz words including "position of strength" and "acquisition opportunities" but the end result will be the same: further equity issues. This is not always a bad thing, in our opinion, as either avenues of growth open up or gearing is lowered (still desirable). We expect more activity as: 1) managers exploit significant re-rating; 2) laggard REITs start de-leveraging; and 3) managers resort to inorganic options to propel the next leg of DPU growth, or even to sustain DPU. We identify Suntec, Mapletree Logistics Trust and Frasers Centrepoint Trust as likely candidates for an equity/acquisition two-for-one in the next six months. Maintain neutral for the sector. Top picks are CCT and ART.










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