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Implications For Offshore S-REITs In Rising Interest Rate Cycle

The trauma of REIT prices crashing alongside sub-prime mortgages in the 2008 financial crisis seems to have made a long lasting indent in investor psyches. 

In the current market cycle, REIT prices have corrected long before the economy runs off a cliff. With central banks globally hiking interest rates to stem inflation that has proven to be more persistent than the market stress caused by COVID-induced supply chain breaks, REITs have seen prices correct by double digit percentages, in some instances as much as -30% or more.

This is in part due to the bond-like nature of REIT cashflows, where rising risk-free rates provide investors’ an increasingly attractive competing investment product and narrow the risk-premium of REITs over government bonds. This is compounded by REITs’ increased borrowing costs and the potential for an economic downturn to weigh on revenue, both of which negatively impact REITs’ bottom line.

S-REITs’ foreign currency exposure

In Singapore, there is an additional factor that plays a more prominent role than in other REIT markets – offshore exposure and which also gives rise to foreign currency exposure.

REIT investors in Singapore, where risk-free rates have tracked under 1% per annum for most of the past decade, increasingly turned to higher yielding jurisdictions for a yield pickup. In some instances these foreign purchases were funded by lower cost Singapore dollar or US dollar borrowings, which make sense when currencies are stable and there is a positive difference between the assets’ yield and the cost of borrowing.

But as interest rates rise, the rise is more apparent in jurisdictions which start from a low base interest rate. A 1% rise in interest rates in a market where rates are under 1% represents a more than doubling of interest rates, while in a market with a 3% starting rate the increase is a more manageable 33%. Higher yielding jurisdictions also tend to be perceived as having weaker economies which are less resilient to economic downturns and currencies tend to depreciate more. These factors magnify the impact of rising interest rates on REIT prices. 

Yet as inflation expectations temper and central bankers start to be more measured in the pace of interest rate hikes, the ‘unwinding of the carry trade’ should take a pause as well. Even if the trend does not go in reverse, some of these REITs have seen such large price declines that they could be attractively valued in today’s context.

S-REITs holding offshore assets with high yield (based on local currencies)

REITGeographic ExposureSector1yr ReturnDividend Yield
Daisin Retail TrustChinaRetail-37%18.2%
Manulife REIT USDUSAOffice-49%14.5%
Prime US REIT USDUSAOffice-34%12.9%
EC World REITChina Industrial-37%12.3%
United Hampshire REITUSARetail-13%10.4%
Elite Commercial REITEuropeOffice-20%10.2%
Keppel Pacific Oak REITUSAOffice-22%10.1%
Lippo Malls TrustIndonesiaRetail-33%10%
First REITIndonesiaHealthcare-10%9.2%
Cromwell REITEuropeDiversified-29%9.0%

Source: Bloomberg, SGX, REIT AsiaPac Media (Feb 2023)