MREITs’ fundamental outlook still sluggish

KUCHING: Malaysia’s real estate investment trust (MREIT) sector’s fundamental outlook is expected to remain sluggish as the oversupply of retail and office spaces bite into rental prices, analysts observed.

“MREITs’ reversions outlook remains sluggish with most MREITs expecting single- digit reversions at best as the oversupply of retail, office and even hotels favour tenants instead of asset owners.

“As such, strong reversions will remain challenging as tenants will prefer to prioritise occupancy over reversions but the saving grace for these segments are quality landmark assets and/or locations, which can weather oversupply conditions better by being able to attract higher footfall traffic,” the research team at Kenanga Investment Bank Bhd ( Kenanga Research) said in an update report on the sector.

It highlighted that the industrial assets segment has a better footing as its single- digit reversions are on par with other asset classes (retail and office), but lease terms are longer at circa six to 10 years (compared with two to three years for retail and office) providing earnings stability over the longer term.

“FY19 will see circa 21 to 53 per cent leases up for expiry for MREITs under our coverage, with the largest being PAVREIT at 53 per cent of net lending asset ( NLA).

“However, we are not overly concerned for Pavilion REIT ( PAVREIT) as the bulk of its lease expiries is from Pavilion Shopping Mall ( 65 per cent of its NLA up for expiry) which we believe would have no issues of securing/maintaining tenants as occupancy is consistently strong at more than 95 per cent due to strong shopper traffic.

“All in, we do not expect strong earnings growth, targeting menial FY19 to FY20E DPU growth of three to one per cent,” it added.

In light of oversupply fears, Kenanga Research believe MREITs with landmark assets could fare better with aboveaverage occupancy and positive reversions due to well managed assets.

“REITs such as PAVREIT, IGB REIT, KLCC REIT, Sunway REIT that own landmark malls such as Pavilion Shopping Mall, Mid Valley, Suria KLCC and Sunway Pyramid, will continue to remain stable from higher footfall traffic (compared with neighbourhood malls).

“These assets are able to retain close to maximum occupancy of 95 to 100 per cent compared with domestic retail occupancy of circa 80 per cent and command positive reversions, albeit at a slower growth rate, which we have accounted for.

“This is similar for landmark office assets ( KLCC and MQREIT) which are faring better than the industry average with close to full occupancy of 96 to 100 per cent compared with the Klang Valley’s average of circa 80 per cent,” it explained.

Meanwhile, it noted that the 10-year MGS yields have been declining (down seven per cent YTD) to 3.8 per cent currently, likely due to ongoing macro uncertainties (from major events such as the US- China trade war and growth moderation outlook across major economies) as well as the US Fed’s dovish outlook on interest rate hikes.

“We expect the MGS to remain range bound between 3.8 to four per cent as macro uncertainties ( US- China trade war and growth moderation across major economies) render the bond market more attractive against the volatile equity markets.

“Notably, investors have also turned to the gold market in times of uncertainty, which has been apparent as gold prices have increased seven per cent since November 2018. Given these factors, we lower our 10year MGS target to 3.9 per cent (from 4.2 per cent) which is inline with current levels of 3.8 to 3.9 per cent,” Kenanga Research projected.

All in, the research team maintained its ‘neutral’ view on the sector.