Wednesday, 6 April 2016

The dangers of investing in reits (With pictures and stock recommendations!)

Too long didn't read (TLDR) version: I'd advocate buying AAreit, Starhill Global, Frasers commercial trust on their
- Attractive valuation
- Cash flows being able to meet dividend payments
- Lower risk of private placements that dilute your shareholdings
- 6-7% yield
There are plenty of blogs/newspaper articles going about how reits are the best source of stable passive income for shareholders, will settle your retirement plans, a godsend, the 2nd coming and will take care of our nation’s problems.
(Obviously these people have not heard of DBS 4.7% preference shares, or a stock called VICOM)
This then leads to a horde of people dumping cash in reits and uttering the oft-quoted line ‘it generates a steady stream of passive income’ and act all investment-savvyish.
Don’t get me wrong, these people have done extremely well in the initial rush of reits listings (think 2011)
 
If you invested in the Phillip's real estate income fund since inception, you would have gotten a 4.8% annual return + 5% yearly dividends to boot, resulting in a 10% annual gain that puts fund managers, your cpf, your weight gain to shame
But the problem is that now when reits become extremely commonplace, and that the initial 'pop' of a new category listing is over, buying reits with the thought of 'wow 7-8% yield', 'hurr durr reits are super steady and gib monies' doesn't cut it anymore.
Here are some of the dangers that investors should watch out for before investing.
1. Unrealized losses are STILL losses
Ok I cheated, this really isn't something you look out for but its a mindset you should keep in mind. By just claiming 'never mind lah, will still get dividends' isn't a right mentality, not when your reit dropped 20%,and it only paid out 7% yield (when you bought it). 


Even if you include dividends, being down 20% should show you that reits aren't just something you chuck in and collect cash. Buy the wrong one and it becomes something like giving your spendthrift friend $100 and being happy to receive $80 back.


Sabana Reit: Down 30%, while paying out 8% yield (if you bought it a year ago)
 

Keppel Reit: Down 18%, while paying out 6% yield

2. Check the sustainability of dividends
After a reit sinks and yield moves to a tasty 9-10% yield, some investors may think 'how much higher can the yield go?', prices have to rise. t
Problem is that yields can decline by payouts decreasing and not just by increase in prices.

Sabana: on the way down

For me I would like to look at property income & operating cash flow per share to compare against the dividends paid per share. If the company operating cash flow doesn't even cover its dividend payments then its a big red flag for me.
Just remember, reits are supposed to pay dividends out of their earnings. The problem about these 'earnings' along with property companies is that they can come from a variety of sources such as 'revaluation' and 'other property income'.
Companies can't pay you dividends with a newly revalued floor tile of the property they own (although I would love to see that) so its always better to check the operating cash flow on the sustainability of dividends
 

3. Check its net debt to assets
Ok so as a reit, if you are forced to pay out most of your cash in dividends, you can't really build your property empire unless you raise funds from outside sources such as Mr debt and Mr placement.
The problem is that MAS has recently put a cap of 45% for a reits debt/assets ratio. Unfortunately this means companies hitting that debt limit has to raise cash by Mr placements, which means diluting you, you poor shareholder.
Lets take a look at some examples:
Cache logistics trust
What happened: private placement (Only to accredited investors, not you buddy) of 100m @94 cents, 6% discount to current price, nov 3 2015
Debt to Asset ratio: ~40%
How you lose: Stock fell 3% after announcement, # of units increased by 13% (means you get a smaller slice of the dividend pie)
1 month return after dilution: -9.5%

Frasers commercial
What happened: private placement of 96m shares at a discount, 24 july 2015
Debt to Asset ratio: ~37%
How you lose: Stock fell 3% after announcement, as usual dilution of your dividends yada yada

1 month return after dilution: -18%

Ascendas reit
What happened: private placement of 90m shares 10 Dec 2015
Debt to Asset ratio: ~37%
How you lose: Stock fell 6% after announcement, as usual dilution of your dividends yada yada
1 month return after dilution: -7.5%

In addition, all the stocks that undergo a private placement went thru short term pressure of selling and underperformed. -7.5% does not seem much, but it did occur within a single month.
Also this 'loss' would have exceeded the yearly dividends that areit distributes, by putting of your purchase AFTER a private placement, you could have some a fair amount of cash
Even if the company states its for 'accretive purchases' you can generally avoid these scenarios by searching for companies with a low debt/asset ratio, so they would raise debt first before private placement which sticks the bill to you.

4. Beware the 'new' reits
Similar to what happened in the oil and gas sector in 2013-2014, where you see names such as pacra and posh rush to list before the window closes, the same thing can be said for reits that IPO-ed recently, (4 years ago or less)


There might be quality stuff over there, but for me I'm quite sceptical of things with no track record and claims to pay a high dividend.


Price performances of 'bombers' for new reits (since 2014)
sabana -40%
far east hospitality -24%
oue htrust -17%
 




5. We have never seen reits in a 'normal' yield environment
Since 2011, we have been stuck in a yield-chasing environment where people will chuck money at lives, breathes and pays 5% yield. Unfortunately this "should" not continue forever and we may see a sudden shock to the sector.
 
 


Anyone remember the taper tantrum? Prices tanked 17% over a few days and never recovered
 
 
Recommendations:
 
By setting up a screen and ranking stocks based on
  1. Debt/asset <38% (I don't want to get dilution, 38% is usually a danger level)
  2. Operating cash flow vs dividends per share (cash in should be more than cash out, to show that mgmt. can afford to pay growing dividends)
  3. Price/Dividends per unit (inverted dividend yield to measure cheapness)
  4. Price/Nav (same valuation method as property stocks)
  5. Positive dividend growth (negative dividend growth comes as a double whammy of both lower prices and yield
  6. Yield: yes I look at it last
Here are my few picks so far


Aims capital reit (buy at 1.3)


  1. Debt/asset = 31%
  2. Operating cash flow vs dividends per share: 7% buffer
  3. Price/Dividends per unit: -1% undervalued vs 5 year historical
  4. Price/Nav: -2% vs historical
  5. Positive dividend growth: yes
  6. Yield: 8.4%
Frasers commercial trust (bought at 1.25)


  1. Debt/asset = 36%
  2. Operating cash flow vs dividends per share: 2% buffer, due to recent placement
  3. Price/Dividends per unit: -16% vs 5 year historical
  4. Price/Nav: 2% overvalued vs historical
  5. Positive dividend growth: flat
  6. Yield: 8%
Starhill global (bought at 0.78)


  1. Debt/asset = 35%
  2. Operating cash flow vs dividends per share: slim -0.83% buffer
  3. Price/Dividends per unit: -10% vs 5 year historical
  4. Price/Nav: 3% overvalued vs historical
  5. Positive dividend growth: flat
  6. Yield: 6.6%
 
As you can see, the reits above are not really cheap, it was during the great Singapore sale, but I happily missed like the oblivious person I am.

Also some of them don't really have a high buffer for paying out dividend income. (Unlike most mapletree reits, but those are overvalued in my view).

In addition, I have not taken into account industrial factors (like omg there's a huge pile of offices coming on stream in 2016-17). But, if I have to choose 3 reits this would be it.





14 comments:

  1. Yeah, Sabana was one of the mistakes I made as a newbie investor. Divested and never looked back. I also just got FCOT. Quite impressed by them managing to get such a small discount to trading price for their placement.

    ReplyDelete
    Replies
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  2. Good job on the divestment on Sabana, its what i did too when the price was still at 90+ cents.

    Its never good to hang on to a stock that has increasing yields because
    - the dividend falls
    - but the stock price falls even more.

    ReplyDelete
  3. how about CCT? looking good too..

    ReplyDelete
    Replies
    1. Yep CCT is not too bad due to its low debt/asset ratio (28.56%)

      The slight downside is that its operating cash flow per share is just slightly below its dividend per share.

      That combined with a not favourable outlook for office reits may cap any upside in dividends.

      With that outlook, cct at its current levels are ok-ish, just 8% undervalued vs historical dpu.

      With my model, I would be more interested at 1.35 (sell at 1.5), but that's because I already have a couple of office reits on hand

      Delete
  4. Nice article...is there some sort of minimum yield u are expecting from a reit. For example, how do u tell if the maple reits are overvalued? Thanks.

    ReplyDelete
  5. Well the minimum yield should at least be greater than what I can get from a dbs 4.7% bond or genting 5.125%, which both currently gives around 4ish%.

    That being said, its not that good to 'buy reit at high yields'.

    Retail reits generally have low yields 5-6%, but they have usually been outperforming (CT and FCT have barely budged despite the STI meltdown).

    On the other hand logistics reits with yields at 7-8% have been tanking (think Cache and sabana)

    That being said, I usually find out reits are overvalued by comparing

    - p/dpu vs 5 year historical
    - p/dpu vs industry average
    - p/nav vs 5 year historical
    - p/nav vs industry average
    - spread vs US 10 year treasuries

    To clarify my model is showing not really showing a 'sell everything' overvalued level (maybe with the exception of MINT). But its not at attractive levels for me to buy.

    All these ties back to 'you get what you paid for' Maple reits are generally well-run and investors are happy to assign them a higher valuation (hence lower yield) and vice-versa. Its why I try not to put in too much weightage into the yield of the reit.

    I rather have a reit that pays me 5-6% a year with barely any fluctuations then try to reach for an additional 1-2% but with negative surprises (think hospitality)

    ReplyDelete
  6. Any views on IReit? Thanks...

    ReplyDelete
  7. No views sorry! I don't invest in reits that don't have a track record. Caused me to miss out on some winners, but I avoided a few bombs too

    ReplyDelete
  8. This comment has been removed by the author.

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