The year started off on a positive note as the sector was poised for a recovery in tandem with the economic recovery. Nonetheless, sentiment has weakened moving into 2H22 following BNM interest rate upcycle as well as the rising inflationary pressure, both of which negatively impact buyers’ purchasing power. In addition, property developers are also facing their own sets of challenges including elevated building material cost, labour shortage and rising financing costs. While sector outlook remains challenging, we believe much of the negatives are already priced in by the market as current sector valuation is undemanding. Maintain NEUTRAL with top picks Sunway, Mah Sing and Matrix.
1Q22 housing data. For 1Q22, number of residential property transaction was -10% QoQ (due to a higher base from previous quarter as buyers rush to take advantage of HOC prior to its end) and +10.5% YoY (from better sales following economic reopening) (see Figure #1). Unsold units eased slightly at -3.4% QoQ, but it had increased +21.5% YoY and remained at an elevated level (see Figure #2). As such, the property overhang issue will likely continue to exert pressure on housing price as witnessed by the HPI which came down -2% QoQ (see Figure #3).
The year started off on a positive note as we believe that the overall macro environment was supportive for the property sector with real GDP growth of +5% YoY in 1Q22, while May unemployment rate declined to 3.9% from 4.5% SPLY, signalling a healthy economic recovery. The country’s transition to endemicity bolsters for (i) the pick-up in property sales activities through resumption of sales gallery; and (ii) uplift in buyer’s sentiment through better job security as the risk of a full lockdown has substantially waned.
Nonetheless, sentiment started weakening moving into 2H22 as BNM embarked on an interest rate hike cycle (+25bps in May, +25bps in July). Based on the assumptions of a 30 years loan period and a 10% down payment, we estimate that a 25/50/75bps rate hike would increase monthly mortgage instalments by 3.2%/6.5%/9.9%. Separately, inflation is also creeping up mainly driven by higher food and transport costs, and this is expected to further escalate in 2H22 due to government’s plan to remove price ceiling of selected staple food items effective July. An interest rate upcycle coupled with inflationary pressure would weaken the purchasing power of property buyers.
Operating environment remains challenging for the property developers. Several of the key challenges have persisted from last year, including (i) elevated building material costs; and (ii) labour shortage. Property developers will likely be more cautious in their launches under a rising and volatile cost environment as any cost increase is likely to compress their margin. Due to the persistent overhang issue in the property market, this will also put a lid to the pricing power of some developers and as such, they will not be able to fully pass on the rising building material costs. Labour shortage on the other hand would delay (i) project execution timeline; (ii) revenue recognition; and (iii) cash flows to the developers. In addition, the interest rate hike would also increase the financing cost for developers.
KLPRP Index 1H22 performance was in line with our narrative as the index started off early of the year with gains of +2% in 4M22 indicating optimism at the start of the year. Nonetheless, following a hawkish Fed and subsequently the rate increase from BNM in May, the index declined sharply in the last 2 months of 1H22 by -11.3%. On a YTD basis, the index declined by -9.5% in 1H22 underperforming the KLCI index which fell by -7.9%. We maintain our NEUTRAL rating on the sector. The sector outlook continues to be challenging as there is a lack of visibility on when the challenges faced by the developers (elevated building material costs, labour shortage, property market overhang) will start to ease, while demand outlook had also weakened following the current interest rate upcycle and inflationary pressure. Nonetheless, we believe that much of these negatives were already priced in by the market as the sector P/B is trading at close to -1SD below its 5-year mean, where the only time P/B traded below this level was during the Covid downturn in Mar 2020 (see Figure #4).
Our sector top picks are selected on the basis of demand resilience, healthy balance sheet and attractive dividend yield. As such, we favour Sunway (BUY; TP: RM2.65) for its well-integrated property, construction and building material business model. It is one of the prime beneficiaries from economic recovery and borders reopening. Additionally, we like Mah Sing (BUY; TP: RM0.90) for its exposure in the affordable segment and its quick turnaround business model. Finally, we also like Matrix (BUY; TP: RM2.54) for its generous dividend payout ratio of >50%, translating to an attractive dividend yield of 7.5-8.0% for FY23-24, being one of the highest in the sector. Besides, its strategically located developments are also well positioned to capture the spill over demand from Klang Valley.
Source: Hong Leong Investment Bank Research - 14 Jul 2022