Office occupancy dipped 0.3ppts QoQ to 87.1% in 3Q21 while rents declined 3.5%. Weaker leasing in 3Q21 attributed to the two-pax group size restriction, which hindered physical viewings. Demand continues to come from tech, real estate services and non-bank financial tenants. Grade A rents reported by CBRE rose for two consecutive quarters, up 2.4% to S$10.65/sqft from S$10.40/sqft as at 1Q21. We remain cautious that the market may still see some downsizing due to adoption of hybrid or remoting work arrangements. That said, as employer recalibrate their space needs, we expect them to maintain between 50-80% of their current space needs, reducing the allocation for permanent desks in favour of collaborative spaces and meeting rooms equipped with video conferencing equipment.
Industrial occupancy was unchanged QoQ at 90.1%, while the rental index improved 0.6ppts QoQ, back to 4Q19 levels. Within the industrial sector, business parks most under pressure due to weaker leasing from office-using tenants, as well as a substantial 7.9% increase in business park supply in FY21. Tenants who have leased industrial space as for office use are still contemplating their space needs in view of hybrid work arrangements. Business Park occupancy and rental index have slipped 1.9ppts and 0.8ppts since 4Q19. Factory and warehouse assets have performed modestly, in their fifth and third consecutive quarter of rental growth. Still, industrial REIT managers remain cautious on leasing due to considerable amount of available supply in the market.
Occupancy inched up 0.4ppts QoQ to 91.9%, almost back to 1Q20’s occupancy of 92.%. However, the rental index continues to dip. While sector reversions are still negative, retail REITs are beginning to sign positive reversions for suburban leases. With occupancy above 96%, retail REITs continue to outperform the general market. Most have also reported less negative reversions, implying higher rents for leases signed in the quarter. The outlook for rents should improve as more vacant stock gets absorbed.
REIT’s RevPARs continue to improve QoQ. Several Singapore hotels owned by SREITs continue to benefit from government bookings. Sep21 RevPAR up 26% MoM, driven by higher ADR and occupancy. RevPAR has been 60% below pre-pandemic levels from Mar21 to Aug21 but recovered slightly to -50% as at Sep21 (Figure 33). This was attributed to more hotels being re-booked under the government isolation business, as well as the Vaccinated Travel Lane (VTL), which began on 8 September 2021, starting with Germany and Brunei. As of 1 November 2021, 11 countries are on the VTL. They are Germany, Brunei, France, Denmark, Italy, the United Kingdom, the Netherlands, Spain, the United States and Canada. The VTL scheme will be extended to Australia and Switzerland on 8 November 2021 and to South Korea on 15 November 2021. Return of international travel should help lift ADRs further.
Maintain OVERWEIGHT on SREITs
SREITs have been active on the transaction front. Portfolio reconstitution should strengthen portfolios while disbursements of divestment gains and contributions from acquisitions could help DPUs recover faster. Several REITs are exploring redevelopment and AEIs due to lower opportunity costs in this softer leasing environment. These efforts should result in faster later-period DPU growth. SREITs under over coverage are expected to deliver 4.1-8.0% FY21e DPU yields (Figure 3).
As Bloomberg consensus forecasts that 10YSGS yields will remain below 2.0% from 2021 to 2022, before crossing the 2.0% level in 2023. SREITs’ DPUs should stay in excess of interest-rate growth, providing upside for SREITS.
Sub-sector preferences: Industrial and Retail
We believe the industrial sub-sector will be resilient. Industrial REITs have been the most active in acquisitions, owing to an early recovery in their share prices. We think industrial REITs will continue to lead the pack in acquisitions and redevelopment/AEIs for the rest of 2021. Continued border closures and acclimatation to online shopping have returned the RSI to pre-pandemic levels. Barring a second circuit breaker and closure of malls, we think the earnings impact on retail REITs will be marginal. Vacancy risks may be mitigated by supportive supply conditions.
Retail (OVERWEIGHT). Suburban malls should stay resilient regardless of the default work mode. Suburban malls are frequently located near household catchments and transportation nodes. Higher daytime populations from work-from-home arrangements should be converted to transient footfall even when work-from-office resumes, spurring incidental spending. Central malls could receive a lift when international borders eventually open. Dominant central and suburban malls which are well-located and well-managed will likely be prioritised amid retail consolidation and expansion. Prefer Frasers Centrepoint Trust (FCT SP, BUY, TP S$2.87) for its exposure to resilient, necessity-driven spending at suburban malls and growth in suburban catchments.
Office (NEUTRAL). Lacklustre demand and downsizing will likely result in office oversupply in the near term, despite mitigation from office stock taken offline for redevelopment. Rents could remain under pressure. Still, the long-term outlook of the office market is optimistic as Singapore remains one of the top cities for the location of regional headquarters. This is attributable to its political and operational stability, business-friendly policies and educated workforce. Prefer PRIME US REIT (Prime SP, ACCUMULATE, TP US$0.94) for its higher tenant exposure to New Economy STEM/TAMI sectors.
Industrial (OVERWEIGHT). The outlook for data centres, hi-spec and business parks remains favourable. These asset classes are supported by a growing technology sector and low supply under construction. Warehouses have been benefitting from higher demand from logistics players, backed by e-commerce growth. Leasing of light industrial factory space may be muted as global demand is still on the mend. The outlook for factory assets remains challenging given considerable new supply. Top pick is Ascendas REIT (AREIT SP, BUY, TP S$3.65) for its diversified portfolio, which is positioned to capture demand from New Economy sectors.
Hospitality (NEUTRAL). The hospitality sector faces a long road to recovery. We estimate that the industry may only return to pre-COVID levels in 2023-24, in line with the Singapore Tourism Board’s 3-5-year recovery timeline. With the highest vaccination rates globally, Singapore could be the first to benefit from travel channels as countries progress in their vaccination programmes. Economies with sizeable domestic demand such as China, the UK, France, Australia and the US will be the first to recover, in our view. Prefer Ascott Residence Trust (ART SP, ACCUMULATE, TP S$1.19) as we expect it to make a faster recovery from its 74% exposure to countries with large domestic markets and growth in stable, long-stay assets.