By: Tan Jia Hui
Real estate investment trusts (REITs) in Singapore are mandated to distribute 90 percent of rental income back to unitholders. As such, REITs provide quite a steady source of recurring dividends (distribution) for investors and often, investors are attracted by the yield that these REITs may offer.
With more than 30 Singapore REITs to choose from, how do investors pick the right one for dividend investing?
Certainly, savvy investors should look beyond the yield and also examine the fundamentals of the REITs.
Last Friday, I attended a three-hour seminar on Singapore REITs by Mr Kenny Loh, who is probably better known as investment blogger “Marubozu”. A part time trader with a permanent job as a senior management in a multi-national corporation, Mr Loh is passionate to share about his experience and knowledge with aspiring investors.
Never Buy At ‘Highs’
One key takeaway that Mr Loh emphasised was never to buy a REIT at their highs. This may sound like common sense, but is actually something important investors tend to forget.
This concept does not apply exclusively to REITs but to all equities in general. Taking a rather conservative approach, Mr Loh advises against buying into a stock during an uptrend, and in particular when the stock price reaches a new high.
The logic is simple, when you buy into stocks at high levels, the upside could be quite limited and is usually outweighed by the potential downside.
The concept of total loss and profit will be used on the example of First REIT.
Investors, who invested in First REIT’s shares at point A (high), attracted by the decent 5 percent yield, could find themselves making a 25.6 percent net loss when share price plunged to $1 at point B (low).
Source: ChartNexus. (Yield calculated based on previous FY’s dividend)
Such is a simple example of the potentially large downside that comes with buying a stock at high.
Understand The Different Types Of REITs
With REITs obtaining their source of income from the rental of assets in its portfolio, the performance of a REIT is affected by the yield of its underlying assets.
Investors have to note that certain types of REITs may present greater risks even though they may offer better yields in good times.
REITs can be broadly categorised into five main groups:
Most investors would agree that healthcare REITs are the most defensive out of the five as leases for assets under healthcare REITs are generally longer. Furthermore, the healthcare sector is the least exposed to the volatility of the economy cycles as people would still need to seek treatments for illnesses even during bad times.
Hospitality, industrial and commercial REITs on the other hand are more prone to the fluctuations in the business cycle.
At the moment, with cuts to forecast on gross domestic product growth and weaker purchasing managers index and manufacturing output figures, there may be resistance to upside rental reversion for industrial leases which could slow earnings growth of industrial REITs.
Presently, commercial REITs are expected to be able to enjoy positive rental reversions in the coming year as demand picks up, with a gap between the supply and demand of office spaces, the plunge in office rental rates post the 2008 global financial crisis serves as a reminder that commercial REITs can be hard-hit during down cycles.
Checklist For Selecting REITs
During the seminar, Mr Loh shared with us some of the criteria that he looks out for in a REIT, which investors can incorporate when selecting a REIT to invest.
Some of the criteria include high current dividend yield (above 5 percent) as well as alow gearing ratio (below 40 percent).
Mr Loh mentioned that he also pays attention to REITs that are undervalued, which means that the net asset value (NAV) is greater than the stock price. However, investors should take note that some REITs have historically been undervalued for a long time and there could be other fundamental reasons for such a trend in that particular REIT.
At the same time, some of the more defensive REITs tend to always be overvalued, so a strategy is to observe the historical price-to-NAV and enter into a long position when the REIT’s stock price is closer to the lower end of the observed range.
For example, examining the current price-to-NAV of CapitaCommercial Trust versus its five-year high and low values indicate that its valuation is on the high side compared to historical figures, suggesting that you should wait for a better opportunity to enter into a position.
Keppel REIT’s valuation at the moment is somewhere in the middle of the historical range and hence for investors taking a conservative approach, it is also not a good time to enter at the moment.
Source: FactSet. (Accurate as of 29 Sep-14)
While a selection checklist may help narrow down the search for investors, I find it necessary that investors check out the fundamentals of any REITs before deciding to put the money in. Taking the right approach will certainly increases your chances of winning while also capping possible downsides.