What do lower US interest rates mean for Asian investment opportunities? In this series, portfolio managers share their views, starting with the impact on Asian REITs
- Asian REITs rose 5.6 percent in August as markets priced in rate cuts
- Falling rates mean lower financing costs and improved REITs profitability
- We expect Hong Kong and office REITs to be the largest beneficiary
The US Fed is poised to begin cutting interest rates very soon, with Fed Chair Jerome Powell announcing that “the time has come for policy to adjust.” At UOB Asset Management (UOBAM), we see a high probability of the first cut taking place at the Fed's mid-September meeting and expect 4 to 6 rate cuts by the end of 2025.
In anticipation of lower rates in the coming months, the yield on Singapore's latest 6-month T-bill has dropped to 3.13 percent – the lowest since September 2022. But not all assets are seeing declines. Real estate investment trusts (REITs) are widely seen as a beneficiary of lower interest rates, and Asian REITs have already gained 5.6 percent1 in August ahead of the Fed's cuts.
How will Asian REITs fare once the Fed starts easing monetary policy? Low Soo Fang, UOBAM's Asia Equities Portfolio Manager, shares her take.
1. In general, how are REITs as an asset class impacted by falling interest rates?
Falling interest rates and the resulting liquidity easing in the market could help reduce business expenses, notably costs of financing which has been a drag on REITs' earnings. A REIT's structure makes it more geared compared to other types of business models. All things equal, cheaper financing costs should boost REITs' bottom line and distribution growth.
Lower borrowing costs could also motivate some REITs to take on a more acquisitive approach to expand their assets portfolio. REITs with strong balance sheets are especially well-positioned to acquire properties in a more earnings accretive manner.
Separately, REITs also stand to gain from potentially higher property asset values on the back of downward pressure in cap rates as interest rates fall. As the majority of central banks pivot to rate cuts, property asset values should stabilise.
2. What is the average Asian REITs dividend yield that you are expecting over the next two years?
We see the dividend yield for Asian REITs ranging from 3 – 6 percent, depending on which market the REIT is listed in. On average however, Asian REITs should deliver yields of 4.5 percent over the next two years.
3. What is the potential for capital gains?
We expect Asian REITs to offer up to 15 percent total returns (inclusive of dividend yield). This is premised on the assumption that the REIT sector will revert to its mean Price/Book valuation, along with a 100 basis point cut in US Fed rates and a soft landing for the US economy.
4. Do you expect distinct differences across various Asian REITs markets in their response to falling interest rates in Asia?
We expect a divergence in the performance of various Asian REITs markets. While Asian central banks have the flexibility to cut interest rates over the next 12-24 months, domestic circumstances are expected to determine the timing and magnitude of such cuts.
Countries such as Hong Kong could stand to see a faster relief from lower interest rates given the close correlation between the HIBOR and the USD and US rate policy. In the short term, Hong Kong REITS could outperform though still-weak demand and supply side fundamentals in the domestic market could cap potential upside.
Australia and Singapore on the other hand enjoy stronger property fundamentals but could see some time lag between the first US rate cut and when local rates start to ease meaningfully. Australia is battling a stickier inflation while Singapore’s economic growth continues to hold up well.
In contrast, Japan is on a rate hiking cycle as the Bank of Japan (BOJ) recently exited its negative interest rate policy (NIRP). Market expectation is for the BOJ to maintain its tightening monetary policy in the coming months. Although rising interest rates generally do not bode well for REITS, a gradual rise in rates coupled with mild inflation and healthy economic growth is positive for REITS from the perspective of rental income growth. As such, we think Japan's REIT market could be entering into a ‘virtuous cycle’.
5. Are there specific REITs sectors that will benefit the most/least?
REITs in general are a prime beneficiary of falling interest rates, but the extent to which they benefit will also depend on an individual REIT's specific share price drivers.
Sector-wise, we expect office REITs to benefit the most from falling interest rates. Globally, office REITs had borne the brunt of higher interest rates largely due to the structural impact from flexible work arrangements. This led to average office occupancies falling and created an excess supply of office space especially in some markets such as in the US. As a result, asset values of office properties had been written down more adversely over the past 18-24 months compared to other commercial real estate assets. As headwinds from high interest rates dissipate and asset values stabilise, office REITS stand to reap the most benefits.
1Source: S&P Global, based on the S&P Asia Pacific REIT Index, as of 31 Aug 2024
| If you are interested in investment opportunities related to the theme covered in this article, here is a UOB Asset Management Fund to consider: United Asia Pacific Real Estate Income Fund
You may wish to seek advice from a financial adviser before making a commitment to invest in the above fund, and in the event that you choose not to do so, you should consider carefully whether the fund is suitable for you. |
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