We  maintain  our  NEUTRAL  rating  on  the  sector.  Our  Top  Picks  are IJMLD,  TILB  and  MCH.  We  expect  property  price  growth  to  be  flattish, with  transaction  volumes  declining  by  5-10%  this  year.  Infrastructure projects  will  still  be  the  key  sector  re-rating  catalyst  over  the  medium-term. Meanwhile, we remain positive on Penang, in anticipation of more news flow that will likely boost property demand on the mainland.

- Maintain  NEUTRAL.  Notwithstanding  the  current  undemanding valuations, the sector still lacks positive catalysts over the near-term that could  lead  to  a  sustainable  re-rating.  Most  of  the  regulatory  measures have taken effect from 1 Jan onwards and, as such, we believe investors will need time to monitor the severity of the combined measures.  

- Back to basics. Without the interest absorption scheme, developers will have to go back to basics, ie location. Properties  in good locations with amenities  and  matured  areas  will  continue  to  be  in  demand.  Given  the affordability  issue,  mid-end  housing  and  townships  will  fare  better, compared to high-rise and luxury products.   

- Sales momentum coming off. In 2014, we expect property price growth to  be  flattish,  while  overall  transaction  volumes  will  likely  decline  by  5-10%.  Although  prices  will  remain  resilient  –  as  land,  construction  and compliance costs continue to hold  up  – developers  will  find  it difficult to raise selling prices further amidst the weak sentiment and demand. As a result, profit margins will be under pressure.

- Infrastructure  projects  are  the  potential  catalysts  in  the  medium-term. These include the MRT Lines 2 & 3, and the high speed rail (HSR) projects. The spillover to the property market is expected to be similar to that of MRT Line 1, while the HSR development will be a big boost to the property market in the KL-Iskandar corridor.

- Remain  positive  on  Penang.  We  maintain  our  bullish  stance  on  the Penang market. News flow is expected to be strong this year. Apart from the  opening  of  the  Penang  Second  Bridge  (PSB)  in  1Q14,  Batu  Kawan will see more investments that will have an overall positive impact on the property  market  on  the  mainland.  Landbank  owners  such  as  Tambun Indah  (TILB  MK,  BUY,  TP:  MYR2.08),  Global  Oriental  (GOB  MK,  NR) and  Malton  (MALT  MK,  NR)  will  be  the  key  beneficiaries  as  a  result  of the aggressive landbanking efforts by the big players.

Back To Basics: Location

Undemanding valuations but lack of positive catalysts

As at end-2013, the KLPRP index has fallen by 5% following the announcement of all the  regulatory  measures  by  the  Federal,  Johor  and  Penang  State  Governments  in Oct-Nov  2013.  Notwithstanding  the  current  undemanding  valuations,  the  sector  still lacks positive catalysts over the near-term that could lead to a sustainable re-rating. To re-iterate, we believe the market will need 3-6 months to adjust to the regulatory changes. Hence, sentiment may only recover towards 2Q14.

Cooling measures coming into effect in Jan 2014

We  maintain  our  NEUTRAL  stance  on  the  property  sector.  The  impact  of  the regulatory  measures, such  as  the:  i)  new  real  property  gains  tax  (RPGT)  regime,  ii) higher  minimum  price  restriction  for  foreigners,  and  iii)  cessation  of  interest capitalisation  scheme  –  or  more  widely  known  as  the  developer  interest  bearing scheme  (DIBS),  will  start  to  be  felt  from  January.  Some  states,  such  as  Johor  and Penang, have also imposed additional tightening measures on foreigners, such as a 2%  and  3%  levy  effective  from  1  May  and  1  Feb,  respectively.  In  addition,  as  the developers are now required to disclose all benefits and incentives packaged in their property  products,  margin  financing  (or  loan-to-value)  granted  to  borrowers  could also be reduced. Given all these, we believe investors will need some time to monitor the  severity  of  the  combined  measures  on  the  physical  property  market  going  into 1Q14.

Slow sales growth in 2014, more conservative sales targets

Sales  momentum  started  falling  since  2Q13,  and  4Q13  was  the  most  challenging period. While buyers held back on their purchases prior to the announcement of  the 2014  Budget,  some  developers  also  delayed  their  launches,  ie  both  buyers  and developers  adopted  a  wait-and-see  attitude.  Following  the  release  of  3Q  corporate results in Nov 2013, the slowdown in property sales was even more evident in 2H13. Based  on  the  nine  developers  under  our  coverage,  combined  sales  fell  9%  q-o-q  in 3Q13.

Sentiment has been dented by the punitive measures proposed in the Budget, which will be implemented this year, while rising inflationary pressure will  dampen demand for big-ticket items over the near-term. As expected, some developers delayed their product launches originally planned for 4Q13, particularly high-rise projects, given the weak  demand.  Overall  industry  sales  growth  is  expected  to  slow  in  2014,  as transaction  volumes  drop.  As  a  result,  developers  will  announce  more  conservative sales  target  for  this  year.  Thus  far,  Glomac  (GLMC  MK,  TRADING  BUY,  TP: MYR1.36)  is  the  first  developer  to  have  cut  its  property  sales  target,  while  UOA Development  (UOAD  MK,  NEUTRAL,  TP:  MYR2.35)  is  guiding  on  flattish  sales growth for 2014. The fact that even SP Setia (SPSB MK, NEUTRAL, TP: MYR3.54) – the sector bellwether – also did not indicate a new target for FY14 signals the weak confidence  in  the  property  market  that  will  start  coming  off  from  a  high  base.  Mah Sing (MSGB MK, NEUTRAL, TP: MYR2.44) is the only developer that has come out with  a  bullish  sales  target  of  MYR3.6bn,  a  20%  growth  from  its  MYR3bn  target  in 2013.  It  is  possible  that  management  could  revise  downwards  the  target  to  a  more decent level later in the year.

Margins will be under pressure. As developers can no longer package the discounts and  incentives  in  their  products,  more  aggressive  marketing  campaigns  and  better product furnishings have to be provided to attract buyers. These are expected to eat into  the  margins,  given  that  all  cost  components  –  building  materials  and  labour  – remain steady.

Looking back at 2013

The recently released HPI for 3Q13 shows a weakening sign. The significant property price  appreciation  in  Johor  was  reflected  in  the  spike  in  the  HPI  in  1H13.  House prices for the state grew at >20% for three consecutive quarters in 2013. Meanwhile, the  price  growth  in  Selangor  has  gradually  tapered  off.  Interestingly,  transaction volumes already saw a decline in 1H13, but, on the other hand, property transaction values  increased  significantly  during  the  same  period.  We  also  note  that  the percentage  increase  was  the  sharpest  since  2004.  This  increase  is  in  line  with  the appreciation in property value in the secondary market, as well as the higher ASP in the primary market that we have observed.

Concentrate on good location, look for potential sector catalysts

Without the interest absorption scheme, developers will have to go back to basics, ie location.  Properties  in  good  locations  with  amenities  (ie  medical  centres,  schools, shopping malls) and  matured areas  will continue  to  be  in  demand.  Bandar  Sunway, Puchong,  and  Bukit  Jalil  are  among  the  established  areas,  while  Kajang/Bangi/ Semenyih, and Canal City/Kemuning/Shah Alam enclaves are the new growth areas within  the  Klang  Valley.  Also,  given  the  affordability  issue,  township  developments and  affordable  housing  close  to  the  city  centre  will  fare  better,  as  demand  is  more sustainable.  Many  developers  are,  therefore,  repositioning  themselves  this  year  by rolling  out  lower  value  products  and  new  phases  in  their  existing  townships  to maintain sales growth.

Over the medium-term, we believe the sector’s potential re-rating catalyst will still be driven by the upcoming major infrastructure projects. These include the MRT Lines 2 & 3, as well as the HSR projects. The spillover to the property market is expected to be similar to that of MRT Line 1, whereby demand and pricing for properties around each station are typically higher. Developers will also take the opportunity to acquire land  parcels  in  the  vicinity  of  such  stations.  We  expect  the  news  flow  to  come possibly  after  1Q14.  Meanwhile,  although  the  outlook  for  the  Iskandar  Malaysia property market is getting more challenging, sentiment and demand could be revived once the Ascendas Land International Pte Ltd-UEM Sunrise (UEMS MK, NEUTRAL, TP:  MYR2.73) JV kick off their industrial development project at Gerbang Nusajaya, as  this  project  will  be  an  indication  of  the  actual  relocation  of  small  and  medium enterprises  (SMEs)  from  Singapore.  New  job  opportunities  will  be  created.  The potential HSR development will also provide a big boost to the property market in the KL-Iskandar Malaysia corridor.

Maintaining a positive view on Penang

Penang  will  be  more  interesting.  The  news  flow  from  the  state  is  expected  to  be strong in 1H this year. In 1Q14, the PSB will have its official opening. We also expect the  State  Government  to  announce  the  successful  bidders  for  the  international  golf course  and  theme  park  projects  at  Batu  Kawan  sometime  in  mid-2014.  Meanwhile, E&O (EAST MK, TRADING BUY, TP: MYR2.70) will likely receive the approval for its Seri  Tanjung  Pinang  2  project  in  2Q-3Q14.  The  State-initiated  Batu  Kawan developments will  also continue to draw foreign investments, either in the industrial, commercial,  education  or  retail  segments,  thereby  creating  new  job  opportunities. While growth in Iskandar Malaysia could be saturated – given the amount of ongoing and  upcoming  projects,  hence  the  competition  among  many  local  and  foreign developers  –  Mainland  Penang  is  a  new  growth  area.  In  addition,  given  the sustainably  high  property  prices  on  Penang  Island,  the  younger  working  class  are already  gradually  shifting  to  the  mainland.  The  growth  prospects  in  Seberang  Perai Selatan  are  expected  to  lead  to  more  landbanking  activities  by  the  big  developers, and  new  benchmark  pricing  will  be  set.  EcoWorld  SB,  IJM  Land  (IJMLD  MK,  BUY, TP: MYR3.70) and Mah Sing have already acquired some parcels in the area in 2013 and, in our view, will likely acquire more. Other players will likely follow suit. Given the still-decent property prices on the mainland, the real estate value there may be in for another  re-rating.  Existing  landowners,  such  as  TILB,  Malton  and  GOB  will  be  the major beneficiaries.

Valuations

We maintain our NEUTRAL sector rating. Although valuations are now undemanding, near-term  catalysts  are  lacking.  More  regulatory  measures  are  unlikely,  but developers  will  likely  have  to  go  through  another  quarter  of  slow  property  sales before seeing a recovery. We are selective in our stock picks. We see opportunities in  some  small-mid  cap  stocks,  especially  the  affordable  housing  players  such  as TILB,  Matrix  Concepts  (MCH  MK,  BUY,  FV:  MYR5.00)  and  Hua  Yang  (HYB  MK, BUY, FV: MYR2.76), as they can better withstand the headwinds given their product offerings.  We  also  like  IJMLD  for  its  diversified  product  exposure,  which  gives  the company flexibility in coming out with properties that will suit market needs. 

Source: RHB