Developers share prices were severely bashed down over 1QCY18 even though most developers met their FY17 sales targets. Our stock universe expect unexciting FY17E//18E sales (-4%/+2% YoY) and earnings (-4%/+9% YoY) trajectory with average unbilled sales at 1-year visibility and a healthy average net gearing at 0.3x. However, the sector has been plagued with a lot of negative news-flow (e.g. oversupplies, affordability issues) and risk-adverse market sentiment running up to GE14, while headwinds like rising inventories and increasing competition in the affordable housing segment have been keeping investors at bay. For the first time since 2003, the KLPRP index has underperformed the FBMKLCI for 3 consecutive years (2015-17) and it looks like this may be extended to 2018 – such underperformance cycle was last seen in the 1995-97 and 1999-02 down-cycles which experienced 3-4 years of consecutive underperformance. We also note that developers are no longer a high-beta sector or a proxy to broad market performance. Admittedly, the market has been too focused on headline sales in the past; but considering a challenging landscape that is unlikely to change anytime soon, we think profitability has to take the centre stage. Developers’ (KLPRP) ROE used to be higher than contractors (KLCON) which should be the case since developer's (asset owner) risks are higher than that of a contractor (service provider) but developer’s ROE has compressed and is now comparable to contractors (KLCON). Based on our analysis, the KLPRP PBV has not de-rated in-line with the quantum of its ROE compressions, which could explain the recent sell-down. Considering that the KLPRP average CY18-19E ROE is expected to be 5.3%, this would suggest that the KLPRP PBV (currently close to - 0.5SD) should trade at 0.65x which is close to its -1.0SD levels. Developers’ RNAV discounts are approaching historical high levels at 62.0% discount vs. its historical high of 66%. We rebased most of our RNAV discounts to -1.0SD to historical high levels which resulted in lower TPs for our stock universe; even so, they mostly remain as MARKET PERFORM given the recent sell-downs. While we do have OUTPERFORM calls (ECOWLD, MAHSING, MRCB, SPSETIA) as values have emerged albeit the steep RNAV discounts, we caution investors that it will take time for our OUTPERFORM recommendations to reflect their true values given increasing investors’ aversion towards developers. Our Preferred Pick is MAHSING for deep-value, net cash position and strong dividend yields. Key re-rating catalysts would be loosening of lending liquidity to the sector or M&A/privatisation plays. Reiterate NEUTRAL.

Fundamentally unexciting but expected as much. There have been no major changes in sector dynamics since our last sector report (4/1/18). Our universe’s headline sales are seeing mainly flattish trend while earnings are expected to be uninspiring, although still profitable while average net gearing at 0.3x is also healthy (refer to Appendix). Most developers cited that the lending environment has seen no major improvements and remains challenging (refer to Appendix for property loan indicators); but this has been the case since 2015 and since then, most developers have adjusted to the current environment by rolling-out more affordable housing products.

However, the biggest sell-down happened in 1QCY18, even though most developers are keeping to a flattish headline trajectory and have proven to be able to achieve those targets as seen over 2017. The KLPRP registered -6.5% YTD against the FBMKLCI (+3.7% YTD) and we find this current timing to sell-down as peculiar considering that the decline in developers’ headline sales occurred two years ago. Note that the bigger boys (-11.4% YTD) saw a larger sell-down compared to the small-mid cap players (-6.6% YTD). (Refer to Appendix for YTD charts). Having said that, we are aware of the wave of bad news-flow for the sector; (i) Risk of another OPR hike (25bps) in 2H18, which our economist opines is a low probability, but it has, nonetheless, causing jitters for investor, (ii) Oversupply resulting in rising overhang rates of high-rises in Klang Valley and Penang (Johor sees high overhangs of terraced units), in addition to more incoming supply of office/retail space, which is also reflected in our developers which are seeing new highs in inventory levels, (iii) Increasing competition in the affordable housing segment from federal/respective state housing schemes (PR1MA, Rumah WIP, Rumah Selangor-Ku, etc) and private developers. There have been negative undertones from Bank Negara Malaysia (BNM) recently with regards to housing affordability where the affordable level is RM282k/unit vs. the current median of RM313k/unit. Safe to say, we are unlikely to see any monetary easing policies that will benefit the listed developers as we are likely to see more government housing initiatives, and (iv) Pre-election jitters running up to GE-14, but even so, after GE-14, developers’ share prices might still be lacklustre in the absence of any major catalysts (e.g. loosening of lending to the sector, reversal in interest rate directions, M&A activities).

Source: Kenanga Research - 5 Apr 2018