Maintain OVERWEIGHT. We believe the sector deserves more weighting as most earnings risk has been priced in, especially in 2Q17 when we trimmed earnings estimates, while their recent 3Q17 results season met our expectations. Meanwhile, we expect FY18 earnings fundamentals to be intact on minimal lease expiries (14-30% of NLA for MREITs under our coverage), and unexciting single-digit reversions. The 10-year MGS outlook also appears stable as; (i) we do not expect any significant impact from potential OPR hikes in 2018, while (ii) upcoming US interest rate hikes are already widely anticipated. We maintain our 10-year MGS target at 4.00% (more conservative than the current level of 3.93%). Even so, most MREITs under our coverage are attractive at current levels, with most warranting an OUTPERFORM call (save for AXREIT and KLCC), backed by stable gross dividend yields of 4.8-6.9%, suitable for investors who seek yield and flight to safety. MQREIT is our Preferred Pick due to its stable asset profile and attractive dividends, commanding the highest yield among MREITs under our coverage (at 6.9%) vs. large cap peers’ average of 5.7%.

Results within expectations. All MREITs’ results were within our expectations in 3Q17, better than 2Q17 when only 4 results came in within and 3 below (i.e. AXREIT, KLCC and PAVREIT). YoY-Ytd, all MREITs saw mostly flattish to positive top-line growth, whilst delivering bottom-line growth, save for CMMT (-1%), KLCC (- 1%) and PAVREIT (-8%) due to higher operating and financing cost. QoQ, top-lines were mostly flattish to positive (1% to 7%), which translated to positive bottom-lines (1% to 23%), save for AXREIT and MQREIT. All in, we left earnings forecasts unchanged, which was better than 2Q17 when we downgraded AXREIT, KLCC and PAVREIT on weaker quarterly results. All our Calls and TPs were maintained in 3Q17.

IGBREIT remains top gainer. IGBREIT is the top gainer YTD, up 3% (as of 15 Dec 2017) due to its asset stability from strong occupancy (>99%) on double-digit reversions, while MQREIT was up +1% YTD benefiting from its asset stability due to long-term leases and minimal expiries. Top losers were AXREIT (-9%), PAVREIT (-8%), and CMMT (-8%) on earnings weakness in CY17, missing our estimates in 2Q17, while PAVREIT missed consensus estimates in 3Q17 despite meeting ours. Other MREITs under our coverage (KLCC and SUNREIT) were fairly flattish, down less than 1%. Notably, MREITs’ capital gains have not fared well in CY17 unlike the strong run-up in CY16 (9% average gains) likely due the multiple downward earnings revisions in 2Q17, while most results met expectations in CY16, save for AXREIT. 4Q17 has also been particularly weak with MREITs under our coverage declining 1% to 9% (save for CMMT). We believe this was in tandem with the broader market with the FBMKLCI declining 0.1% and FBMSC declining 0.9% in 4Q17 alone, while the new REIT Index (established on 2nd Oct-17) was down 2.8% during this period, on a relatively stable 10-year MGS at 3.9%. Additionally, we believe the MREITs sell-down in 4Q17 may have been due to profittaking activities on some MREITs closer to year-end since the broader market has been rather unexciting, and on possible investors’ concerns of an OPR rate hike in CY18 which in our view is unwarranted.

Source: Kenanga Research - 3 Jan 2018