Hey there, Dividend Uncle family! Today, we’re diving into the intriguing world of REITs and examining why the anticipated price recovery seems to have stalled. Recently, the CSOP iEdge S-REIT Leaders Index ETF jumped a remarkable 6.6% over just two days following news of pending interest rate cuts in the US. However, the momentum quickly fizzled out, and the ETF dropped back as if the higher expectations of interest rate cuts didn’t happen in the first place. So, what’s going on? We’ll explore the possible reasons behind this and what it means for long-term investors like us.

Additionally, about one-third of REITs have announced their financial results for Q2 2024. We will explore how these results illustrate the drivers of the stagnation, but more importantly, show the way forward for REIT investors. 

Before we dive in, I must let you know that this content is for informational and educational purposes only and does not constitute financial advice. The opinions expressed are based on publicly available information and personal analysis, and they are not tailored to your specific financial situation. The REITs and institutions mentioned are cited purely as examples. While I have no affiliations, sponsorships, or financial relationships with any of them, I may personally hold positions in some of the investments discussed. Before making any investment decisions, you are strongly encouraged to consult a licensed financial adviser.

Now, let’s get into it!

Unpacking the Stagnation: Key Factors

I recently conducted a survey among my YouTube channel viewers, and the results were overwhelmingly positive. Nearly everyone expects REITs to increase by the end of the year. Remarkably, 30% of you predict a surge of over 20% from current levels! This reflects a very optimistic outlook for the market moving forward.

However, the short-lived rally might affect investor confidence going forward. Let’s unpack the key factors behind the stagnation, as reflected by the REITs’ performances in Q2 2024.

1. Lingering High Interest Expenses

 One key factor is the ongoing impact of high interest expenses. Many REITs had previously locked in lower interest rates before the recent hikes. As these hedges expire and debts are renewed, REITs may still face higher interest rates than before, even if rates are gradually falling. This transitional period of higher interest costs can dampen the price recovery. For instance, OUE Commercial REIT’s latest announcement revealed that its interest expenses jumped by 18.5%, resulting in a 11.4% decline in DPU, even though net property income was up 1.6%. This exemplifies how rising interest costs are affecting REITs’ profitability and investor returns.

2. Foreign Exchange Risks

 Another significant factor is the foreign exchange risk. The Singapore dollar has remained strong compared to other currencies, which is crucial for controlling inflation within the country. As other countries lower their interest rates, their currencies may weaken, increasing the currency risk for REITs, particularly those with international portfolios.

A recent example is Mapletree Logistics Trust, which announced that its DPU dropped by 8%, largely due to the strength of the SGD over the currencies of the countries in which it operates. This was also the case for Keppel DC REIT.

This highlights the impact of currency fluctuations on REIT income.

3. Property Sector Performance

 The performance of specific property sectors also plays a role. For instance, the logistics sector in China is struggling with oversupply and weak demand. Mapletree Logistics Trust’s recent results showed that including the China logistics rental reversion, the REIT’s overall rental reversion was 2.6%. Excluding it, the overall rental reversion was 4.6%. This discrepancy highlights the sector-specific challenges that can weigh heavily on REITs, impacting their overall performance and investor sentiment.

4. Idiosyncratic Risks

 Lastly, we have to consider idiosyncratic risks. These are unique risks specific to individual REITs.

Let’s also consider Suntec REIT. Management has recently shifted its strategy from distributing a substantial portion of the proceeds from the sale of Suntec City office units to unit holders to focusing on reducing debt. While this move is financially prudent, it has led to a 12.5% decline in distribution per unit. This decision underscores the ongoing balancing act between maintaining investor returns and ensuring the long-term financial health of the REIT.

Another example, Keppel DC REIT is facing continued rental arrears from its China data centers, which is a result of tenant concentration risk. Loss allowances for this resulted in lower distribution per unit for the REIT.

Issues like this, along with management decisions, asset quality, tenant profiles, and location-specific challenges, can significantly impact a REIT’s performance, contributing to the stagnation in price recovery.

The Dividend Uncle’s Take: The Essential Long-term Perspective And the Q2 2024 Winners

While the stalling of REIT price recovery can be disappointing, it’s crucial to maintain a long-term perspective. As long-term investors, we must focus on the fundamentals and the long-term potential of our investments. The current headwinds, such as higher interest expenses, foreign exchange risks, and sector-specific challenges, are part of the broader investment landscape. However, these should not deter us from our long-term goals.

In the long run, the potential for interest rate cuts, the strategic management of REIT portfolios, and a focus on high-quality assets can create opportunities for growth and income. Just based on the latest financial results of the REITs that have been announced so far, we can already see potential winners going forward.

For instance, Digital Core REIT’s total distributable income rose 5.1%, but distribution per unit of DPU dropped 6.3% due to increase in the number of units issued from a placement in earlier in the year. However, this will only be a passing weakness. As the newly acquired assets Osaka and Frankfurt contributes fully to the REIT, the DPU is expected to rise.

Additionally, Mapletree Industrial Trust, which has recently shown resilience, with their DPU increasing by 1.2%, thanks to newly acquired property in Osaka, positive rental reversions ranging from 2.7% to 12.3%, stronger occupancy for US data centers, and stable interest expenses. This demonstrates their ability to adapt and thrive even amid uncertainties.

Finally, the beacon of stability, Frasers Centrepoint Trust, is positioning itself well with ongoing Asset Enhancement Initiatives at its Tampines One mall, which has already achieved 100% committed occupancy, and expects an outperformance of the expected return on investment of 8%. This focus on enhancing asset value could provide a significant boost to its performance, making it a strong contender in the current market environment.

Well, that’s all for this post folks! Remember, investing is a marathon, not a sprint. Stay informed, stay patient, and keep your eyes on the long-term horizon. Thank you for joining me today, and I’ll see you in the next post!