Investment Highlights

• We maintain our OVERWEIGHT recommendation on the REIT sector. We believe retail REITs will largely be on a recovery path moving into 2H2021 as the economy reopens in stages. We assume the country’s economy is to reopen largely by the end of the year (which we believe is an opportune time to capture the year-end holiday season when people are most likely to spend). This is in line with our assumptions that domestic footfalls will fully recover by year-end or even exceed historical peaks as people are more likely to travel domestically while waiting for clarity on new regulations for international cross-border travel.
  
  Apart from that, 2H2021 retail sales recovery will also be fuelled by pent-up consumer demand after the lockdowns, similar to what has happened in the past as consumers tend to revenge spend and gather once movement restrictions are lifted. Based on the previous occasions when lockdowns were lifted, the malls under our coverage observed higher average sales per footfall. We believe earnings visibility and associated risks of REITs now are much better as compared to last year, thanks to the widening rollout of vaccines both locally and globally.
   
• Opportunity to collect quality assets. We believe the current lacklustre performance in retail REITs’ share prices offers investors a good opportunity to invest in quality retail REITs assets, whose property values have remained largely intact despite the pandemic. This is supported by:

1. better quality tenants, which are more likely to survive the economic downturn caused by the pandemic and thus support occupancy rates of the malls;
2. the stronger market position that allows malls to enjoy a premium in chargeable rental rates as they act as the primary gateway for new international brands to enter the Malaysian market; and
3. targeting markets mainly focused on consumers with better spending power and are more resilient during an economic downturn (thus support the recovery of footfalls and sales at the malls post-lockdown).
   
   Looking beyond 2021, we believe the recovery in international tourist traffic will further boost retail REITs’ earnings prospects.

• Healthy occupancy rates. For the retail REITs under our coverage, we take comfort that the average occupancy rates at the anchor malls remain healthy at above 90% despite a slight decline observed as compared to pre-pandemic levels due to termination of tenancy contracts. However, this was quickly replaced by new tenants although the transition period took slightly longer than usual from delayed renovation works due to the various movement restrictions in place.
   
• Comfortable debt-to-asset ratios. In terms of financial health, the REITs under our coverage continue to maintain a comfortable debt-to-asset ratio of 22%–42% vs. the regulatory threshold of 60% (which was temporarily raised from 50% until 31 December 2022 by the Securities Commission as a Covid-19 relief measure), which allows REITs to gear up for further acquisitions. We do not rule out potential acquisitions to materialise over the next 12–18 months for the REITs under our coverage with the emergence of yield-accretive assets, which could further drive inorganic growth over the medium to long term despite the short-term earnings headwinds.
   
• We maintain our OVERWEIGHT recommendation on the REIT sector. Based on our estimates, the REITs under our coverage provide distribution yields of over 5% for FY22F and beyond compared to the current low interest rate environment. We like the sector as a recovery play as it is poised to benefit from the growth in Malaysia's post-pandemic economy
  
  Our top pick for the sector is Sunway REIT (fair value RM1.81), for its diversified investment portfolio (which includes retail malls, hotels and offices as well as a university and hospital) and a large pipeline of potential assets for future injection.
   
• We may downgrade our stance to NEUTRAL if: (1) footfall recovery is slower than expected; (2) there is a massive decline in occupancy rate due to increased competition from the oversupply of retail spaces; and (3) consumer spending/sentiments deteriorate further or recover slower than expected.

Source: AmInvest Research - 26 Jul 2021