Cromwell 1Q 2024; Buying CFA Reit ETF and AEM Holdings using CPF-OA

 Cromwell 1Q 2024 results

Cromwell's 1Q 2024 DPU dropped 10% to 3.5c euro. 

More interesting, one of its presentation slide noted that interest expense will increase by $6.9 mil, if its all-in interest rate increse from 3.28% to 4%

This suggest that if interest rate increses to 4%, the DPU may drop by ~10% and the dividend yield will be around 8.5% at current price of $1.47 euro. 

We can use this 8.5% dividend as lower bound (or worst-case DPU), as EU is likely to cut rate in June or 2H 2024. 

I have a small stake in Cromwell. Will continue to hold the position, unless I can find better opportunities.

Buying CFA Reit ETF using CPF-OA

Recently, I bought a small position in NikkoAM-STA ex Japan Reit ETF (CFA.SI) at $0.761 using CPF-OA funds. 

The buy reasons are
1) to higher yield offered by the Reit ETF compared to T-bill (3.7% - 3.8%). 
2) the current ETF price may have reflected the higher-for-longer interest rate environment. 

I kept the stake small, as S-Reits DPU may drop further due to higher interest expense.

Buying AEM holdings using CPF-OA

I also bought a small position in AEM at $2.35 using CPF-OA. 

The buy reasons are
1) AEM is in semi-conductor testing industry which is in downturn. In its 2023 AGM slides, AEM predicts recovery in test equipment utilization in 2H 2024 or 2025. Hence, its results in 2025 will be better.

2) Its 2023 AGM slides also noted that as chips get more complicated, more testing is required. This means more business for AEM in medium term. 

The stake is also kept small, as semi-con is cyclical and I cannot tell when AEM results will recover. 

80% of CapitaLand China Trust debts are in SGD

Earlier, I noted that Chinese reits have debts in non-RMB (link). 

CapitaLand China Trust's borrowings are mostly in non-RMB too. In fact, 80% of its borrowings are in SGD. So when SGD is getting stronger while RMB is getting weaker, the leverage and the amount of interest payments rose. 

CapitaLand China Trustowns assets in China. Its gearing is 41.5%. 

Based on 2H 2023's DPU of 3 cents and share price of 0.695, CapitaLand China Trust dividend yield is around 8.6%. 

Will give CapitaLand China Trust a miss, as I don't like the currency mis-match in its debts. 

Why own S-Reits, why not own HK developers?

Singaporeans are familar with S-Reits, especially since S-Reits has been a good asset class to own in last decade till 2022.

However, in the current high interest rate environment, S-Reits share price have been falling recently. Similarly, HK developers share price also have been falling. 

Currently, some HK developers may be offerring higher yield with lower leverage, compared to S-Reits. 

Let's compare with same examples.

NikkoAM-StraitsTrading Asia ex Japan Reit ETF (CFA.SI)

Current share price: 0.745

Dividend Yield: 6.3%

HongKong Land (H78.SI)

Current share price: USD$2.90

Dividend: USD$0.22

Dividend Yield: 7.6%

Gearing ratio (from its FY2023 slides): 17%

Hang Lung Properties (101.HK)

Current share price: HKD$8.17

Dividend: HKD$0.78

Dividend Yield: 9.5%

Gearing ratio (from its FY2023 slides): 31.9%

Note: I have shares in Hongkong Land and Hang Lung Properties.

Both Hongkong Land and Hang Lung Properties are developing new malls/offices/hotels in China; they will be progressively completed between 2024 - 2030. So, their recurrent rental income could rise in coming years. 

Thus, compared to S-Reits, it could be more worthwhile to hold HK developers with higher yield and lower leverage. 

Not optimistic on S-Reits

I am not optimistic on S-Reits, as I think that US Fed rate may not decline by much this year. 'Higher (rates) for longer' lead to higher finance cost and hence lower DPU for S-Reits in general. 

Larry Summers (see link to video below) noted that Fed should not cut rates given current config of low unemployment, strong economic growth and the recent CPI data

https://www.youtube.com/watch?v=LXDNZuYUn-o

I had sold my stakes in United Hampshire Reit earlier in March 2024.

Currently, I only has stake in Cromwell, which is a European Reit. EU is more likely to cut their interest rate given its weak economic growth and lower inflation of 2.4% in March 2024. 

Equity Risk Premium in US market

Equity Risk Premium (ERP) refers to the additional return over risk-free interest rate for holding equity. 

ERP can be computed by taking earnings yield (inverse of P/E ratio) minus risk-free rate. 

Current Fed rate and Current PE ratio

Risk-free rate = Current Fed rate = 5.25-5.5%. Let's take 5.25%.

Current S&P P/E ratio = 27 (it's around 27-28. Let's take 27).

S&P earnings yield = 1/27= 3.7%.

ERP = 3.7% - 5.25% = -1.55%

Current Fed rate and Forward PE ratio

Risk-free rate = 5.25%.

Forward S&P P/E ratio = 23

S&P earnings yield = 1/23 = ~ 4.35% 

ERP = 4.35% - 5.25% = -0.9%

Forward Fed rate and Forward PE ratio

Forward Risk-free rate = 4.25% (assuming 4 Fed cut by end 2024)

Forward S&P P/E ratio = 23

S&P earnings yield = 1/23 = ~ 4.35% 

ERP = 4.35% - 4.25% = 0.1%

So, the ERP for US equities is either negative or flat. This implies that investors are very confident on the US market that they require no additional return over risk-free rate to hold US equities. If ERP is negative, investors are 'paying' to hold US equities. 

In short, US equity market seems overvalued, based on ERP. 

(Of course, S&P can still have good returns in 2024, if the sentiment for US market is very good or Fed rate will have more than 4 cuts. I do not know how markets will perform in the future. )

S-Reits and what if higher-for-longer interest rate persist

Based on InvestingNote's tracking, out of 44 S-Reits / Biz-Trust, more than half (or 26) reported lower DPU (dividend per unit) compared to the previous year's.  

The lower DPUs can be partly (or mainly) attributed to high interest rate environment. 

What if US Fed does not cut interest rate or the cut is smaller than expected, and the interest rate continue to hold at around 4% level. 

- First, S-Reits' DPU may continue to suffer, as many S-Reits may hedge their interest cost earlier and have not borne the full blunt of the higher interest rate. Hence, when they need to re-finance their loan, they need to incur higher interest cost and lower DPU.

- Second, Singapore (and Hong Kong) properties tend to have low capitalisation rate (cap rate). If the higher for longer environment persist, say, 5 years, the cap rate may become higher and hence lower the valuation (or NAV) of the properties undering S-Reit. Lower valuation will lead to higher leverage ratio (as borrowings remain unchanged). If leverage ratio gets too high (e.g. 45% or more), the S-Reit will be in trouble. 

I do not know how US interest rate will unfold moving forward. But I will keep my reits positions small. 

14 Mar update: IFAST has a good article in Nov 2023 on how high interest rates may affect S-Reits  in near future.  https://secure.fundsupermart.com/fsmone/article/rcms282441/be-selective-in-s-reits-as-rates-stay-higher-for-longer

Musing on Keppel Pacific Oak US Reit

Keppel Pacific Oak US Reit (KORE) announced suspension of dividends this week for 2H 2023 - end 2025. This is becaue they need to conserve cash for capex for office improvements and reduce debt. This caused the share price to drop sharply from $0.25 to $0.15.

As noted earlier, I sold KORE at $0.315 (missing the subsequent run-up to $0.36), as I was not comfortable with US office risks. 

Given that KORE has suspended its dividend, if I want to buy it again, I will wait for price to drop to $0.10, which is at 15% of NAV. The lower price is to compensate for the lack of dividends and the US offices risk. 

Nonethless, I have switched to avoiding companies in net debt lately, after reading 'What I learn from Investing from Darwin'. The book is great and espouses on 'avoid risk, buy quality companies and hold' based on evolution ideas. The book can be borrowed as e-book from NLB.