Asian REITs revived
Stimulus packages have eased risks and improved prospects
Issue: Sep 2009
The Asian Real Estate Investment Trusts (REITs) market suffered its most difficult period the past year, roiled by the bankruptcy of Lehman Brothers in September 2008 and the global financial crisis.
In October 2008, New City Residence Investment filed for bankruptcy, the first listed REIT to fail since Japan's REIT market was created in 2001. Thereafter, investors raised significant concerns about debt refinancing issues of Asian REITs, especially J-REITs and S-REITs.
Meanwhile, troubles in the US financial industry triggered a credit and liquidity crunch throughout the world. Stock markets were in a free fall and lost much of their value; the world economy dived into recession. Buffeted by this financial crisis, Asian REITs lost almost 50% of their market value. Some high-leveraged REITs suffered more than 90% price declines.
However, conditions began to ease from the beginning of 2Q 2009, and the investment mood has since changed from panic to cautious optimism. Governments took turns to announce unprecedented stimulus packages and injected massive liquidity into the financial markets. Most Asian REITs thus managed to survive the credit crunch.
As illustrated in Table 1, by the end of 2Q 2009, the number of Asian REITs remained at 83, with a total market capitalisation of US$52.4 billion, 18% higher than a quarter ago. Average dividend yield stood at 7% at the end of this second quarter, reflecting a 120-bps drop from three months ago. Yield spreads over long-term government bonds remained attractive at between 386 and 796 bps.
Table 1: Market Cap and Dividend Yields of Asian REITs (2Q09)
Source: Pramerica Real Estate and CapitaLand Research
Debt Refinancing Concerns Eased
At the beginning of the crisis, investors anticipated REITs would either sell their assets to repay their debt or be foreclosed by banks. Take Singapore REITs as an example: there was S$4.2 billion to be refinanced in 2009. Falling asset values due to lower assumption on occupancies and rentals, together with higher cap rates of commercial properties, eroded a large part of equity portions, making it difficult to raise new debt. With banks shunning real estate loans, a lack of appetite from equity markets and the shutting of Commercial Mortgage-backed Security (CMBS) & Medium Term Note (MTN) markets, the risk of bankruptcy in S-REITs became very high.
The local regulatory authorities intervened. In early 2009, the Monetary Authority of Singapore (MAS) sent a circular to S-REIT managers, offering to facilitate the refinancing of maturing debt in the light of difficult credit conditions. According to MAS, if the aggregate leverage of a REIT had risen because of a decline in property values, it would not amount to a breach of leverage limits, which currently stand at 60% if the REIT obtains a credit rating.
MAS also said that any refinancing of existing debt by a REIT would not be construed as incurring existing borrowings. This permitted REITs to raise debt for refinancing earlier than the actual maturity date, provided those new funds were set aside solely for the purpose of repaying existing loans. MAS's support for the REIT market saw bank lending to the sector pick up over 1H 2009. From Table 2, S$2.5 billion debt capital was raised in the first half of 2009 and most of debt due in 2009 has already been successfully refinanced.
In Japan, the government also proposed a new public/private sector fund to supply capital to J-REITS as part of an economic stimulus package in April 2009. This "real estate market stabilisation fund" will be established in early September 2009. The announcement of this plan removed the refinancing "dark clouds" that were looming over J-REITs. Along with the improving financial markets, Japan's credit market started to thaw in the first half of 2009. Issuances of Japan's CMBS for the first four months of 2009 reached JPY 200 billion (US$2.2 billion). Although the amount was only half of that issued in the same period of 2007, it signalled that borrowers with adequate credit quality were still able to access the loan market.
Rights Issue and Capital Structure Improvements
Table 2 : S-REITs Fund Raising in 2009
Source: JP Morgan and CapitaLand Research
Asian REITs not only benefited from improved credit and debt facilities, but also successfully raised more equity funds through rights issue, especially in Singapore. In the first half of 2009, the S-REITs market managed to raise S$3.4 billion of equity capital (see Table 2). Many of these deals were done at a pricing below net asset value, a clear sign of dilution. But the offerings were well received because they provided attractive potential returns.
Most of the proceeds from these rights issue were used to repay debt, which substantially lowered refinancing risk and interest costs. S-REITs were also able to improve their capital structure and strengthen their balance sheets, with leverage ratio reduced from 40% to 30%.
Looking forward, although there is still a large amount of debt sitting on the balance sheets of Asian REITs, the refinancing risk has eased, in the light of the further thawing of credit markets and the signs of an economic recovery.
The worst is likely over for Asian real estate markets. Government stimulus packages have helped stabilise and insulate the region from further downfall. The road leading to recovery may be bumpy, but with relatively strong economic fundamentals, the Asia Pacific region is poised to emerge leaner and stronger. Despite the challenges ahead, Asian REITs will still offer good opportunities to investors.
Contributed by Dr Boaz Boon and Zhu Haihong of the CapitaLand Research Unit.