Post date: Dec 28, 2010 11:9:15 PM
Thursday, 23 December 2010
The favourable factors fuelling the regional property markets a year ago, namely strong economic growth, low interest rates and abundant liquidity, are still prevailing. However, the regional governments’ increasingly hostile reception towards the inflow of hot money is now the dominant theme in the major markets, namely China, Hong Kong and Singapore, as we move into 2011.
With the prospect of more rounds of quantitative easing overseas, regional governments will remain vigilant and are not likely to let their guard down for the time being. But while it is still early to bottom-fish for big-cap residential developers, we will keep our eyes open for buying opportunities if stocks drift further down. Not only do property counters have volatile trading patterns, particularly for mainland developers, the conducive factors, especially the low/negative real interest rates, will be around for a while, delaying the inevitable downcycle.
At this juncture, we would still avoid residential exposure in China, Hong Kong and Singapore, and will park with commercial landlords and real estate investment trusts (REIT) in these major markets. We expect this view will be good for at least 1QFY11. For investors looking for residential exposure in the region, we suggest Malaysia, Indonesia, or even Thailand, where there is little or no policy overhang.
Regional Summary
China
We do not expect further tightening measures in the near term as we move into the winter slow season. However, we see China’s quantitative tightening, which has come faster and more vigorously than expected (PBOC raised RRR for the seventh time on Dec 10 to 19% for the big banks and 16.5% for the smaller banks, and one-year benchmark interest rate was raised by 25 basis points (bps) in October, the first increase since Dec 2007), will be a major threat to the housing market.
In the last two rounds of credit-tightening (2004 and 2007), the property market slowed significantly. The impact this time could be even more severe coming from a high base, and also in a year when new supply is going to rise. We believe more reserve requirement ratio (RRR) and rate hikes are on the way. On the other hand, while the much-feared and talked-about property tax will be introduced in 1QFY11, we believe the impact will be tame given the rate of levy is likely to be lower and the target property segment smaller than expected.
The physical market could continue to slow in the next one to two quarters, led by the major cities. For 2011 as a whole, we project overall residential sales volume to come down 20% year-on-year (Y-O-Y) and average home prices to shed about 10% from the current level.
Lacking near-term catalysts, we reiterate our cautious stance, and see no rush to buy into the sector. For our two most compelling calls, we opt to buy SOHO China, which is a non-residential play, and sell Greentown China which is a highly geared housing developer that focuses on the luxury market where demand is likely to be dampened by credit tightening. Note that China is the only region, out of the six we cover, for which we do not have two buys as our top calls. That said, as mainland developer stocks are highly volatile, we could see some bottom-fishing opportunities in 2QFY11.
Hong Kong
The residential market has so far turned out to be more resilient than expected. While transaction volume plummeted after the announcement of severe anti-speculative measures on Nov 19, activities have been recovering in the past three weeks. Buyers are looking for bargains but apart from a little panic selling at the onset, sellers have not really budged in their asking prices. Until interest rate starts to trend up, we feel any imminent price correction will be contained within 5%.
Meanwhile, we expect the government to continue to monitor the housing market closely and, when necessary, to be prepared to come up with even harsher measures. This is the main reason for our cautious stance now. The overall sector fell 14% as a knee-jerk reaction to November’s tightening measures, but has since been crawling gradually back up 4%. With the government’s determination to curb runaway prices, it is only apt to assign a higher risk premium to the sector. This means upside to stock prices could still be capped, even if home prices continue to rise.
On the other hand, we continue to recommend landlord stocks, even though they have been breaking new highs. Being a designated offshore renminbi centre, Hong Kong is moving into a new phase as a regional, or even global, financial hub, given its role in the internationalisation of the renminbi. Clearly, the office segment is one of the biggest beneficiaries in this structural transformation of Hong Kong’s financial industry. Being a high value-added sector, a robust financial market will buoy growth in other segments of the economy and ultimately the whole of Hong Kong.
Conservatively, we estimate there will be new office demand of five million square feet in 2011-14, while supply in the pipeline amounts to only three million sq ft. Hong Kong is not prepared for the new business opportunities, meaning rents will continue to rise fast, supporting further upside to landlords’ share prices. While there are concerns that China might slow down the process of liberalisation of the currency, this would only be a temporary setback at worst, and not derail the trend.
We have a bias towards landlords with exposure in Central CBD, hence we have three buys: Hongkong Land, Champion REIT and Swire. The first two stocks are our top picks given 60% and 70% of their NAV are in Central grade A offices respectively.
Singapore
Until there are signs that liquidity is being diverted from Hong Kong to Singapore, we feel the pressure to follow in Hong Kong’s footstep in terms of property cooling measures is containable. Unlike Hong Kong, Singapore uses currency as a policy tool and allows gradual appreciation of the Singapore dollar (in a trading band) to address inflationary pressures. This gives the Singapore government additional flexibility (compared with Hong Kong) to control the inflow of hot money. The Singapore dollar has appreciated as much as 5.8% against the US dollar after the introduction of monetary tightening measures in April and Oct 10.
In fact, most other countries in the region have also used monetary tools to combat liquidity inflow, and have not had to adopt Hong Kong’s heavy-handed approach. South Korea, for example, even introduced property stimulus measures. Unless other Asian countries start to change, this has also relieved pressure for the Singapore government to do more.
In terms of stocks, we would continue to go for landlords with greater exposure to the commercial segment over residential property developers. We believe office and industrial properties are still in their early stages of a turnaround and provide greater upside potential than residential prices which are already above their previous peak levels.
Moreover, we foresee liquidity inflows may lead to further yield compression for REITs as investors switch from physical properties to REITs. For example, office REITs are offering a 5.4% yield, well above prime office’s 3.4%. During the last office upcycle in 2007, yield for office REITs fell to as low as 3.5%, vs office property’s 4.3%. A similar trading yield compression implies a 62% upside for office REITs.
Our top picks are CCT which has the largest portfolio of prime office properties in Singapore, accounting for 72% of its NAV, and Ascendas REIT, which is a business and industrial REIT with a diversified property portfolio, and will benefit from the bottoming out in industrial rentals and the improvement in the manufacturing outlook.
Malaysia
As the Malaysian property market has not been affected by liquidity flow the way Hong Kong and Singapore have, it is sheltered from the asset bubble issue, and thus seems to offer more stability going forward. The prevailing strong property demand is still driven mainly by local buyers, due to a combination of historical low mortgage rates, ample domestic liquidity, attractive financing schemes and a young population.
We expect to see resilient sales momentum flow into 1HFY11 (no signs of property sales slowing down for the recent launches even with Bank Negara Malaysia’s recent 70% LTV cap) with 5%-10% ASP growth potential.
With the sector still trading at a 20% discount to NAV, vs at par with NAV in the past decade, we see good values in the stocks, especially for investors looking for residential exposure in the region. Moreover, developers have been chalking up sizeable unbilled sales, providing earnings security going forward. Mah Sing and UEM Land are our top picks because of their aggressive landbank replenishment activities and more project launches to capitalise on existing strong demand.
Thailand
Since the political problems subsided around mid-2010, residential developers have been aggressive in launching new projects, particularly condominiums. Total value of newly launched residential units by top listed developers this year is expected to surge 120% Y-O-Y. We have already witnessed slowing selling pace and heightening pricing pressure since 3Q10.
Even though there is no evidence of a property bubble, the authorities have already introduced pre-emptive measures by lowering LTV ratio from over 100% to 90% for condominiums and 95% for houses. As these measures are mild compared with that of other Asian countries, we will not be surprised if the government steps things up if the property market is perceived to be progressing too fast.
While the residential segment is under pressure, industrial real estate is in much better shape. Rising CAP U, manufacturing production index and private investment index are indicators of an investment upturn. We expect to see continued expansion of major industries like automobile, transport equipment, motorcycle, chemical products, and electronics, where CAP U is now higher than 80%. Average CAP U currently stands at 63%, still below 2005-07’s average of 67%. Over the past few years, Thailand has been underinvesting, at an average of 20% of GDP, compared with regional peers’ 28.5%.
We overweight the industrial estate developers, which are expected to report 50% net profit growth this year. Being a leading industrial estate developer, AMATA is our top pick. For our second pick, we go for residential developer Pruksa, having taken into consideration the market cap and liquidity of industrial developers. With a strong brand and a wide product range that focuses on the mass market, we see long-term value in the stock.
Indonesia
The Indonesian property market has rebounded in 2010 (after experiencing a hiccup in 2009) since the economy is doing well amid low interest rates (eg BI rate has remained low at 6.5% in the past one year). Going into 2011, we foresee the sector will continue to perform well, chiefly driven by: a) expected positive economic growth of 6.3%-6.5%, b) strong loan growth of around 25%, c) a growing and increasingly affluent middle class with per capita income reaching US$3,000, and d) a higher portion of income (about 20%) spent on housing.
Although we expect all property segments to enjoy stronger demand in 2011, we have a preference for the residential segment which is likely to experience the strongest growth as the national housing backlog is reaching seven million units and land supply is scarce. Our two picks are therefore Ciputra Developments and ASRI as both have high exposure in housing development. We expect sales and profitability to continue improving in 2011, thanks to higher land prices in Greater Jakarta, which are expected to increase by another 15%-20% Y-O-Y.