REITs have outperformed the Straits Times Index over the past 10 years. The FTSE REIT Index has gained 131.9% with dividends reinvested compared with the Straits Times Index, which with dividends is up 44% (see chart 1).
Initially, REITs were meant to be hybrid asset classes that provided most of their returns in the yield they give investors. However, some REITs, in particular those with good managers and strong sponsors willing to stand behind their REITs during fundraisings, have seen their unit prices rise in tandem with accretive acquisitions, rising DPU and rising NAV.
Not all REITs have done equally well though. The top five worst performers from 2010–2020 are Lippo Mall Indonesia Retail Trust (LMIRT), First REIT, Sabana Shariah Compliant Industrial REIT, CDL Hospitality Trusts and Starhill Global REIT, in that order (see table 2).
The poor performance of these REITs are understandable. LMIRT, First REIT and Sabana REIT listed with financial engineering in place to boost valutions. LMIRT owned mainly shopping malls in Indonesia managed by subsidiaries of the Lippo Group; First REIT owned largely hospitals in Indonesia, operated by subsidiaries of the Lippo Group, and Sabana REIT was an industrial REIT. Its previous sponsor was Vibrant Group.
Scrutinise master leases
All three REITs had unsustainable master leases during their IPOs. Since investment properties held by REITs are valued based on their cash flows, the higher the rents, the higher the valuations. The easiest way to inflate valuations is to inflate rents. First REIT’s master lessee found the rents — whiich were committed in Singapore dollars — difficult to sustain as the main properties were in Indonesia and the rupiah depreciated against the Singapore dollarregularly.
A large part of the decline in First REIT’s returns occurred in 2019 and 2020, when it became clear that the master lease agreement with Lippo Karawaci in Indonesia became untenable. In addition, First REIT was unable to meet its debt obligations and had to undertake a dilutive rights issue to repay debt.
In October 2020, Lighthouse Advisers described it best: “Initially, this was a virtuous cycle. Lippo Karawaci sold hospitals to the REIT at inflated prices, then used some of the proceeds to pay inflated rents. It also recovered some of the overpayments through its ownership of First REIT units. Retail investors were either happy to go along with the charade, or blissfully ignorant of what was really going on.”
Subsequently, investors came to realise that the debt and perpetual securities carried by First REIT and LMIRT were being priced off the risk-free rates in Indonesia rather than in US dollars or Singapore dollars as the rents and revenues of the properties in the REITs were Indonesian. The mismatch gave rise to higher costs of capital vis-a-vis the S-REITs in general.
Now though, following the recapitalisation of First REIT, its unit price is up double digits this year simply because it had a poor start in January.
Best performers in the past 10 years
The top five performers were Mapletree Industrial Trust (MINT), Mapletree Commercial Trust (MCT), Mapletree Logistics Trust (MLT), ParkwayLife REIT (PLife REIT) and AIMS APAC Industrial REIT (AA REIT).
PLife REIT is also a healthcare REIT but it was listed at much lower valuations than First REIT. While First REIT listed at a rent to ebitda ratio of 99%, PLife REIT’s was likely half of that. Over and above the lower valuations at IPO, PLife REIT’s DPU have been steadily rising since its IPO (see chart 3).
AA REIT, which was formerly MacarthurCook Industrial REIT, was recapitalised after AIMS Financial Group acquired MacarthurCook in Australia at the tail end of the global financial crisis. Since then, the REIT has been making slow and steady progress. It is also one of the few non-developer sponsored REITs, hence could appear attractive to speculative activist hedge funds.
MINT and MLT have been in the right place at the right time. For MINT, its pivot into data centres took place as digitalisation gained a foothold globally. Covid-19 accelerated the digitalisation of banking, retail, healthcare, government and so on. In the meantime, ecommerce has accelerated and demand for modern logistics assets has been rising. Hence, investors’ affinity for MLT. Finally, MCT plans on staying in Singapore, and with Singapore-dollar based assets, making it one of only a handful of REITs where its cost of capital is measured against local risk-free rates. In addition, the Singapore dollar is viewed as a safe haven.
Will these same REITs outperform in the next 10 years? If digitalisation and ecommerce continue to rise in Asia Pacific and globally, probably a couple of these REITs will retain their positions.
In the near term, PLife REIT could be getting a boost when it announces its new master lease agreement with its sponsor in the second half of this year.
