During 2024, the runaway US equity market sucked up liquidity from the rest of the world. The only stocks on the Singapore Exchange that attracted serious investors' attention, and which imanaged to keep up with the likes of the Nasdaq Composite Index (Nasdaq) and the S&P 500 Index were the local banks. Since the start of the year, the REITs, as represented by the FTSE ST REIT Index, are down 8.2% in the same period.
At the end of the year, The Edge Singapore usually takes a light-hearted look at S-REITs in a table titled “REITs: Bankers’ Best Friends”. This year, REITs are unlikely to be bankers’ best friends. Between them, the REITs raised $3 billion, of which CapitaLand Integrated Commercial Trust (CICT) and Keppel DC REIT (KDC REIT) raised more than $2 billion. ESR-REIT, Frasers Centrepoint Trust (FCT) and ParkwayLife REIT also raised equity.
The REITs have been negatively impacted by the Federal Reserve’s unprecedented accelerated hike in its Federal Funds Rate (FFR) since end-2021 when rates were near zero. This rapid rise in FFR from near zero to a high of 5.25% to 5.5% within 24 months affected REITs in three main ways. The trading prices of the REITs were the first to react by declining. This is because the distribution per unit (DPU) yield and risk-free rates trade at a relatively stable spread. Rising risk-free rates, which are the initial and main transmission in the markets of higher interest rates, caused prices to fall to compensate for higher DPU yields.
The second impact led to DPUs falling as higher interest costs affected distributable income. The third impact is on capital values. Usually, rising interest rates cause discount rates to rise. Investment properties are valued based on their ability to generate cash flow. Hence, discounted cash flow valuations fell.
In places like the US where lending rates rose to high levels of more than 6%, investment property transactions, in particular, fell. And they have not recovered. This caused US-based S-REITs to come under stress. Both Manulife US REIT and Keppel Pacific Oak US REIT have suspended DPU. Prime US REIT slashed DPU but was able to renew expiring loans in 2024 and divest a property.
See also: Keppel DC REIT divesting Basis Bay Data Centre in Malaysia at 2.6% above valuation
Inflation and interest rates dictate direction
DBS Group Research says: “The inflation outlook has turned a lot more hawkish.” Fewer rate cuts lie ahead. “Trump’s proposed tax cuts, tariffs, and deportation of millions of illegal immigrants are inflationary. Fed funds futures are now pricing just three more rate cuts from now till end-2025, down from as much as seven in September. The return of high-for-longer or slowly-lower narrative is positive for banks, vice versa for REITs,” DBS Group Research says in its 2025 outlook report.
Nonetheless, according to the report, the “buy banks–sell REITs” pair-trade will not be unidirectional. “There will be periods when the trade swings the other way. Inflation-sensitive data, the anticipated Trump-Fed exchange, changes to Fed funds futures estimates for rate cuts and equity valuation will determine this ‘pair-trade’,” DBS says.
See also: Digital Core REIT faces tenant exit for Northern Virginia property
Trump has proposed 60% tariffs on all China imports and 10%–20% blanket tariffs for the rest of the world. A significant escalation of the trade war under Trump 2.0 could lead to a sharp global economic slowdown and a considerable deceleration in Singapore’s economic growth, approaching the lower end of Ministry of Trade and Industry’s 1%–3% growth forecast, DBS warns.
REITs exposed to China and Hong Kong could bear the brunt of Trump 2.0. “Trump’s victory in the presidential election has sparked market fears over potential tariffs on China goods and a high-for-longer interest rate environment. This, coupled with the lack of policy stimulus from the Chinese government, has weighed on sentiment for H-REITs,” DBS says, referring to Hong Kong.
Similarly, CLSA reckons the FFR could end up at around 4% by end-2025, instead of below 4%, with the focus on capital management in 2025 rather than rate cuts. “We expect the market to focus on operational efficiency given the risk of a trade war by the Trump administration, which could put the brakes on a Chinese recovery, impacting S-REITs with exposure to China,” CLSA says about the outlook for 2025.
The sombre outlook for REITs with Chinese assets is despite Chinese policy lending rates being at their lowest levels in decades. The REITs with Chinese assets are increasingly borrowing onshore because of the lower cost. CapitaLand China Trust (CLCT) has moved from 6% of onshore RMB loans as of end-2019 to 31% as of end-September 2024. If the CNH400 million ($73.84 million) bond issuance in October 2024 is included, CLCT’s RMB loans have reached almost 35%. Sasseur REIT’s RMB debt is 52.6% of its total debt.
Elsewhere, Mapletree Logistics Trust (MLT) has 22.4% of its $13.4 billion of assets in Hong Kong, and 18.4% in China. Hong Kong contributed 16.8% to and China 17.7% to its 1HFY2025 revenue of $365 million (MLT has a March year-end). Some 21% of its debt is denominated in RMB, with 29% in JPY, as at Sept 30.
While all three REITs could benefit from the Chinese stimulus that is likely to be announced in 2025, Trump 2.0 could also lead to supply chain disruptions, which could have a near-term positive impact on industrial space, CLSA reckons. “However, we believe companies are better prepared for this event given the experience under the earlier Trump administration,” CLSA adds.
Help from the regulator
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The Code of Collective Investment Schemes (CIS), which the S-REITs fall under, will be amended to streamline leverage requirements.
On Nov 28, the Monetary Authority of Singapore (MAS) made the reporting of interest coverage ratio (ICR) mandatory. “To rationalise requirements, a minimum [ICR] of 1.5 times and a single aggregate leverage limit of 50% will be applied to all REITs with immediate effect. The previous requirement was that a minimum ICR of 2.5 times was imposed only on REITs which intended to increase their aggregate leverage from 45% to 50%,” says MAS in its announcement.
In addition to these new regulations, REIT managers will have additional disclosures that apply from March 31, 2025. REITs will need to disclose sensitivity analyses on the impact of changes in ebitda (earnings before interest, tax, depreciation, amortisation — the numerator in the ICR formula), and interest rates on REITs’ ICRs.
The sensitivity analyses should minimally include two separate scenarios, one based on a 10% decrease in ebitda and another based on a 100-basis-point increase in interest rates, MAS says.
Where the ICR of a REIT has fallen below 1.8 times, the REIT manager should take steps and/or have plans in place to improve the REIT’s ICR, and disclose this additional information, MAS adds.
Interestingly, Lippo Mall Indonesia Retail Trust’s (LMIRT) adjusted ICR is 1.55 times as of Sept 30, the end of its 3QFY2024.
If a REIT’s ICR falls below 1.5 times, the manager would need to notify MAS of the breach and rectify the breach in accordance to the provisions in the CIS Code. The manager should also not enter into any transaction that would increase the extent of the breach.
REIT managers will also have to report on the outlook and management of their leverage and ICR levels in their interim financial result announcements and annual reports, MAS says.
An important change is the definition of the ICR which takes into account distributions of perpetual securities. Since MAS introduced the ICR into REITs’ financial reporting in 2022, REITs reported ICRs on a trailing 12-month basis, and separately on an adjusted basis (adjusted ICR), which includes the impact of the coupon of their perpetual securities.
Since the “adjusted ICR” definition was put in place in January 2022, the industry has adapted to the reporting of adjusted ICR in the past two years.
MAS announced it will streamline the computation of ICR to the trailing 12 months’ ebitda excluding effects of any fair value changes of derivatives and investment properties, and foreign exchange translation, divided by the trailing 12 months’ interest expense, borrowing-related fees and distributions on hybrid securities (including perps).
Separately, aggregate leverage increasing to 50% takes into account the declines in valuations during times of high interest rates, which indirectly affect valuations through discount and capitalisation rates.
In July, when these changes were first mooted, Vijay Natarajan, vice-president of real estate and REITs at RHB, said the proposal to simplify aggregate leverage and ICR requirements “provides greater flexibility and clarity while ensuring prudence. It also gradually shifts the managing appropriate debt levels onus to REIT managers and market mechanisms”.
In his view, the beneficiaries are likely to be the smaller overseas REITs, and a couple of larger REITs, which use perps in their capital structure.
Based on The Edge Singapore’s table “Performance of Singapore-listed REITs by sector”, three REITs have their ICRs either at 1.8 times or below 1.8 times, with a fourth REIT approaching 1.8 times.
Key trends: Singapore assets in demand
The most obvious trend during 2024 was investor interest in Singapore assets. CICT raised $1.1 billion with apparent ease following the announcement of CapitaLand Investment divesting its 50% stake in Ion Orchard for $1.85 billion. Investor interest pointed to strong demand for a stake in Ion Orchard when a private placement of 171.737 million new units in CICT was 3.7 times covered. CICT raised $350.3 million and opted not to upsize the issue.
Downtown rents are expected to outperform suburban rents according to CLSA. Additionally, Ion Orchard has something for the ultra-high-net-worth and ordinary Singaporeans and tourists.
An equity fundraising for the remaining $757.2 million saw CICT receiving 130.5% of the total number of preferential offering units available under the offer.
Not to be outdone, KDC REIT upsized a placement to $1.086 billion because of strong demand, and had a preferential offer raising more than $300 million to acquire two data centres in Genting Lane which cost $1.38 billion. The land tenure was a mere 15.5 years with an option to renew for a further 10 years.
REITs have divested Singapore assets with low land tenures at premiums, such as Rail Mall by Paragon REIT, and 3 Toh Tuck Link by AIMS APAC REIT. Citadines Mount Sophia and 21 Collyer Quay were also divested at a premium to book value.
Both MLT and Mapletree Pan Asia Commercial Trust have stated that they prefer to recycle assets by divesting older assets that have reached their optimum life cycle to acquire newer assets at higher yields with upside potential.
“Risk of pre-emptive equity fundraising should be lower. Most S-REITs have carried out equity fundraising thus far in 2024 (CICT, ESR-REIT, Frasers Centrepoint Trust, KDC REIT), removing equity raising overhang and creating more stable gearing going into 2025,” CLSA says.
If so, REITs may not be bankers’ best friends in 2025, but that remains to be seen.
