Why Rate Hikes are not as bad for REITs as you may think

Rate hikes are bad news for REITs, at least, that is the common consensus.

Is it true?

In the article below we find out that rate hikes are not necessarily bad, and REITs always bounce back from any short term impact it may have from the rate hikes. Be it because of economic backdrop, the amount of debt within the REIT or other reasons. We will see how your income from REITs may not get affected after all.

What are Rate Hikes?

The US Federal Reserve increased their short-term interest rate for the first time in a decade in 2015, followed by another one in 2016. They are poised to make two more rate hikes in 2017. These rate hikes impact the lending rate or the cost of borrowing. Companies that rely heavily on borrowed funds may face higher costs to finance their debts.

Why should it impact REITs?

Since REITs pay out a major portion of their profits, they usually rely on debt financing for the expansion of projects. Higher costs of financing may make the REITs less profitable.


Does this mean we should sell our REITs? Let’s find out


REITs always bounce back


Since the global crisis in 2008, interest rates has gone down consistently, with only a few increases.

S&P Asia Pacific REIT USD Total Returns vs 10 Year US Treasury Yield

2011 onwards we see an inverse relationship between the US 10 year Treasury yield and APAC REITs Total returns. While rates remained low till 2013, the total returns number grew considerably.

In 2013, since US Federal Reserve first started considering raising the short-term interest rate, we see a rise in the 10 year Treasury yield. The APAC REITs were impacted, losing almost 18% of its value in just a month. However, it bounced back within six months and went on to gain almost 50% from its lowest point over the next couple of years.

In 2016, after the actual short-term rate hike was announced by the US Federal Reserve, we see another drop, this time around 14%. However, within four months the trend has reversed, and we see positive growth, roughly 9% in six months.

It is evident that rate hikes do impact REITs, but the impact is short term as REITs always bounce back very quickly.


Your Income from REITs is not affected


The 2013 rate hike may have caused a small dip in DPU in 2014 for Australia. However, Singapore and Hong Kong both gained. As for Australia, the DPU rose again in 2015 and 2016 thus displaying no long-term impact of the rate hike. All major REIT markets were able to grow their DPU despite rate hikes proving income from REITs were not impacted.

Dividend per Unit for Major APAC REIT Markets

So how do the REITs shrug-off the impact of rate hikes?


Rate hikes are not bad


Interest rates are usually used as incentives for economies to grow, lowering them considered an invitation for investors to lend more and invest thus expanding the economy. When the opposite happens, it usually means the economy is doing well. And when the economy does well, it all bodes well for the REITs. Malls see more shoppers; business parks see more tenants, hotels see more guests, the list goes on. The REITs can increase their rents thus easily offset the rising cost of debt.


Not all REITs are heavily geared


Singapore REITs are bound by the law to have a gearing ratio (debt to assets) below 45%. The median stands at 34%, meaning some REITs are borrowed well below their allowable limits making them less susceptible to rate hikes. In Australia, the gearing levels for the REITs are close to 30% in 2016. Therefore, while some REITs may get affected, a lot of them will not be impacted much.


Short Term vs. Long Term Debt


Gradual rate hikes harm short-term debt holders, as they have to adjust their debt consistently and as rates rise so does their costs. For long-term debt holders, such rate hikes pose no immediate threat. For Singapore REITs, the short-term debt is less than 2%, thus making them better equipped to manage impacts of a rate hike.


We are certainly not saying REITs are impact-free from rate hikes; we can see evidence that they are well prepared to offset the downsides thus resulting in overall growth of total returns.


Want to invest in REITs but don’t have the time to do the hard work? Let us manage it for you. Phillip Singapore Real Estate Income Fund allows you to invest in an actively managed S-REIT fund where we worry about things like interest rates, and you get quarterly dividends per year. More info here.

Want to invest in a basket of top 30 dividend paying REITs in the Asia Pacific? Try our very own Phillip SGX APAC Dividend Leaders REIT ETF. Learn more here.


Sources: Phillip Capital Management, Bloomberg, A-REIT Survey 2016 by BDO 


Questions? Comments?

Drop us an e-mail: pcm@phillip.com.sg




Important Information

This article and the information herein is provided by Phillip Capital Management (S) Ltd (“PCM”) for general information only and does not constitute a recommendation, an offer to sell, or a solicitation of any offer to invest in the product (“REITs ETF”) mentioned herein. It does not have any regard to your specific investment objectives, financial situation and any of your particular needs. The information is subject to change at any time without notice. The value of the units and the income accruing to the units may fall or rise. You should read the Prospectus and the accompanying Product Highlights Sheet (“PHS”) for disclosure of key features, key risks and other important information of the REITs ETF and obtain advice from a financial adviser ("FA") before making a commitment to invest in REITs ETF. In the event that you choose not to obtain advice from a FA, you should assess whether the REITs ETF is suitable for you before proceeding to invest. A copy of the Prospectus and PHS are available from PCM or any of its Participating Dealers ("PDs").

The REITs ETF is not like a typical unit trust as it is intended for the units of the REITs ETF (the "Units") to be listed and traded like any share on the Singapore Exchange Securities Trading Limited (“SGX-ST”). Listing on the SGX-ST does not guarantee a liquid market for the Units which may be traded at prices above or below its net asset value ("NAV") or may be suspended or delisted. Investors may buy or sell the Units on SGX-ST when it is listed. Investors cannot create or redeem Units directly with PCM and have no rights to request PCM to redeem or purchase their Units. Creation and redemption of Units can be done through PDs if investors are clients of the PDs, who have no obligation to agree to create or redeem Units on behalf of any investor and may impose terms and conditions in connection with such creation or redemption orders. Please refer to the Prospectus for more details.

Investments are subject to investment risks including the possible loss of the principal amount invested, and are not obligations of, deposits in, guaranteed or insured by PCM or any of its subsidiaries, associates, affiliates or PDs. Past performance is not necessarily indicative of the future or likely performance of the REITs ETF. There can be no assurance that investment objectives will be achieved.

The regular dividend distributions, either out of income and/or capital, are not guaranteed and subject to PCM’s discretion. Such dividend distributions will reduce the available capital for reinvestment and may result in an immediate decrease in the NAV of the REITs ETF. Past payout yields (rates) and payments do not represent future payout yields (rates) and payments. Please refer to www.phillipfunds.com for more information in relation to the dividend distributions.

Any use of financial derivative instruments will be for hedging and/or for efficient portfolio management. PCM reserves the discretion to determine if currency exposure should be hedged actively, passively or not at all, in the best interest of the REITs ETF.

The information does not constitute, and should not be used as a substitute for tax, legal or investment advice.

PhillipCapital Group of Companies, including PCM, their affiliates and/or their officers, directors and/or employees may own or have positions in the investments mentioned herein or related thereto.

This information herein are not for any person in any jurisdiction or country where such distribution or availability for use would contravene any applicable law or regulation or would subject PCM to any registration or licensing requirement in such jurisdiction or country. The REITs ETF is not offered to U.S. Persons.

The information provided herein is based on certain information, conditions and/or assumptions available as at the date of this publication that may be obtained, provided or compiled from public and/or third party sources which PCM has no reason to believe are unreliable; and may contain optimistic statements/opinions/views regarding future events or future financial performance of countries, markets or companies. Any opinion or view herein is an expression of belief of the individual author or the indicated source (as applicable) only. PCM makes no representation or warranty that such information is accurate, complete, verified or should be relied upon as such. You must make your own financial assessment of the relevance, accuracy and adequacy of the information in this factsheet.

Accordingly, no warranty whatsoever is given and no liability whatsoever is accepted for any loss or consequences arising whether directly or indirectly as a result of your acting based on the Information in this factsheet.