Maintain NEUTRAL on Developers. The KLPRP index has declined by 26%, underperforming the FBMKLCI (-7%) with the KLPRP marking the fourth consecutive year of underperformance against the broad market, not to mention that last year also saw the markedly worst underperformance since 2009. The sector still lacks catalysts while earnings quality is not stable considering inventory clearing efforts and REHDA’s commitment to lower house prices by 10% (due to SST exemptions on construction/building materials) as per Budget-2019. Over 1Q19, we will be monitoring the following events which could provide a better indicator of where the property sector is heading; (i) Affordable Housing Expo 2019, and (ii) P2P lending scheme regulations by SC. At this juncture, we expect current sales and earnings trajectory to be lacklustre - our universe’s total sales/earnings trajectory are expected to be at -4%/-15% YoY in FY18/FY19 and +2%/+13% YoY in FY19/FY20, respectively. While our universe’s average net gearing level is healthy at 0.3x, implying that there is room to land bank, most developers prefer to be prudent and such news-flow will likely remain patchy until there are clear sector catalysts. Valuations are scrapping the bottom with our universe’s RNAV discounts at 67.7% (historical high: 70.5%), while our universe’s discount ranges are pegged at -1.0SD to -2.0SD levels given issues with earnings quality, and no significant signals of ROE recoveries. With earnings quality still being subjected to pressures and achieving local sales targets are still challenging due to the massive housing overhang in the market, we see no compelling recoveries in developers’ ROEs in the next 12-24 months; hence, we expect valuations to remain ‘submerged’. Nonetheless, prolonged low valuations could trigger M&As or even privatisations, in our view. Investors wanting to take position in developers which have low valuations will need to ride out the uncertainties and earnings quality risks which may affect share prices over the next 12- 24 months. Our preferred pick is UEMS (OP; TP: RM0.850).

Another leg-down for property stocks over 4QCY18. The KLPRP index dipped by another 11% over 4QCY18* particularly with Budget-2019 (2 Nov 2018) directive from the government for developers to reduce house prices by 10% (due to SST exemptions on construction/building materials), and coupled with the broad market weakness (FBMKLCI: -8% QTD). YTD*, the KLPRP dipped by 26% which was more severe than the FBMKLCI (-7%) with the KLPRP marking the fourth consecutive year of underperformance against the broad-market, not to mention that 2018 also saw the markedly worst underperformance since 2009. In terms of the recent reporting season, earnings and headline sales deliveries were better than the previous quarter (refer to APPENDIX for 3QCY18 result review details) although future trajectories are still uninspiring with no significant recoveries in ROE in the foreseeable horizon.

Source: Kenanga Research - 3 Jan 2019