What an absolute monster of a rally this week! As at time of writing, the S&P500 is at 2750, which is a perfect 50% retrace of the original fall. 2 ways to see this – (1) the classic bear market sucker’s rally with a 50% retrace, or (2) the start of a new bull market.
As always – this article is written on 9 April 2020, and will not be updated going forward. Updated thoughts are on Patron.
My outlook for S-REITs in 2020
REITs are basically leveraged investments in real estate. It’s something that I keep talking about in the REITs Masterclass, and something that’s really important to understand.
The underlying investment is real estate.
And real estate is unique – in terms of usage, and location. This is why a REIT with US malls is completely different from a REIT with Singapore office buildings.
Which is why it is tough to discuss REITs as an asset class.
So we’ll break it down into 4 big components (retail, office, industrial, hospitality) , and discuss them all in relation to Singapore only – we’ll leave out foreign real estate for now.
Singapore Retail REITs
Retail REITs will have a tough year, no doubt about that.
SPH REIT already slashed its DPU by 80% in Q1, and I expect this to set the tone for the rest of retail REITs going forward.
Malls are shut for one month, most landlords have given up to 2 months rental waiver. The rental waiver is not coming from the government, so it’s going to come from a REIT’s distribution.
And when we reopen in May, what then? Maybe consumer spending jumps post-lockdown, but as the rest of 2020 plays out, and recession worries start to grow, will spending still be as strong?
I expect a number of retail tenants will go under in 2020, and the leases are going to be tough to replace. Rental reversions will probably plunge going forward.
The COVID19 bill that allows tenants to not pay rent has basically been neutered now:
When it comes to leases of non-residential properties, a tenant who seeks relief must show that he is unable to pay rent during the prescribed period and that the inability to pay is to a “material extent” caused by a “COVID-19 event”, said Mr Shanmugam.
But – it’s still going to create a lot of uncertainty going forward. Most tenants will want to try to withhold rent to see if business bounces back. If it doesn’t, they’ll probably fold for good.
Tourism is probably gone for the bulk of 2020, so Orchard Malls which rely on tourism are going to be hit even worse.
DBS has a report where they project 20% drop in DPU for retail REITs – which looks to be about right. The key thing to note is thugh, is that the 20% drop is averaged across all REITs. The big ones from CapitaLand / Mapletree will probably do better, the small ones, the small ones may face refinancing risk (which is a precursor to a dilutive rights issue).
It’s a pretty bleak picture for Retail REITs, but to me, that’s the perfect time to be loading up.
I think that high quality shopping malls in good locations are going to remain relevant 10 years from now, so I’ve been taking the opportunity to add to my exposure in high quality retail REITs. Picking a good sponsor, and great properties is really, really important though.
I probably won’t discuss specific names in this article – you can check out the Patron Stock Watch for names I’m looking at. I’ll keep this as a broad commentary on the different asset classes, and the buy timing.
Singapore Office REITs
Office is a really interesting one.
I think that COVID19’s work from home is going to trigger a paradigm shift in how working works.
Long story short, I think companies and employees have now discovered the possibility of doing work, while not being in the CBD.
And you can’t put the genie back in the bottle after this.
Over the past few years, we’ve seen many companies move their non-front office staff out of the CBD and towards cheaper parts of Singapore like Changi Business Park. Mapletree Business Park has also been a great success story of providing office space to premium MNCs (the likes of google) at half the price of CBD rent.
I think that trend accelerates going forward.
Premium, Grade A office space in CBD will still remain relevant because businesses need that premium space for prestige and client meetings.
But the non-Grade A? Those guys could be in real trouble.
So again, if you’re buying premium Grade A office space like Marine One or Asia Square or CapitaSpring, that’s probably fine. But the others could be in trouble, which is why a careful selection of the property portfolio is crucial.
Oh, and the more I think about it, the more I think a WeWork bankruptcy is on the cards here. WeWork leases a lot of office space in Singapore, so that could really create an oversupply of office space.
Most industry commentators tout Industrial as the most resilient asset class in 2020.
I don’t disagree with that on a relative basis, but I think Industrial could have a tougher year than most expect.
The real pain for industrial probably lies in 2H2020, once the wave of corporate defaults start to appear.
We’re looking at what is going to be the deepest economic recession since the great depression (latest forecasts are -6% for US and -9% for Eurozone for 2020, which are unbelievable). Yet everyone seems to think the global economy will bounce back once lockdowns are lifted. I find this really hard to believe.
My base case assumes global economic growth and demand will collapse in Q2 and Q3. This will impact corporate earnings and lead to inevitable bankruptcies.
The guys who rent industrial space are unlikely to be fully immune. There will probably be negotiations on reduced rent going forward.
That said, Industrial probably still performs better than retail and hospitality.
Okay so hospitality is now the orphan child in the room.
Nobody wants to touch hospitality, and I can see why.
Global air travel is probably gone for the bulk of 2020, so demand for hospitality space will just collapse.
A lot of the smaller providers, if they cannot secure refinancing, they are probably bankrupt. The bigger ones who are backed by likes of CDL and Far East, they’ll probably survive especially with the government support, but DPU is not going to look pretty.
I think it’s too early to be even looking at this space. I may only start looking in Q3 once we have a better idea of who’s going to survive in this space.
When to buy?
So that’s the outlook for the 4 big asset classes. The next question is when to buy.
After the big rally in REIT prices this week, I got readers reaching out to ask me whether this is the right time to buy.
And hand to my heart, I really want to help you guys. But without knowing your personal situation (risk appetitite, income stability etc), I genuinely cannot advise.
Being able to invest properly in this market requires a whole framework to understanding the global macro, each asset class, how yields and asset prices plays out going forward, when and how to buy, and when and how to sell etc. Oh, and you also need to know how to balance REITs with bonds, gold, and stocks in your portfolio.
Without such a framework, it’s just going to be sailing blind into the hurricane.
What I did though, is that I compiled all these lessons into the REIT Masterclass, for you to learn at your own pace. So if you serious about investing in REITs in 2020 – I highly highly recommend you to check it out.
It’s on 25% off launch promo now, and comes with a free 3 month subscription to the highest tier of Patron (worth $150). Promo ends this Sunday (12 April), so don’t miss it.
Don’t be penny wise pound foolish here – if youre investing just $10,000 in REITs, a 20% fall is $2000, which covers the course price many times over. And you’ll probably invest more than $10,000.
With that said, I’ll do my best to share my own thinking on buy timing below, but really do do check out the REITs Masterclass.
Macro Outlook: Update on 4 Macro Signals
We’ll start with an update on the 4 macro signals set out in last week’s article.
Macro Signal 1 – Virus
As talked about previously, virus count is definitely peaking in Europe / US. Social distancing and lockdown measures are starting to take effect.
If we are at the peak now, we still need the curve to drop back down before we can reopen, which will take approximately the time it took us to get here (3 to 4 weeks).
So that assumes a reopen in Europe/US some time in end April / early May, possibly spilling to June for certain higher risk zones.
The lesson from China though, is that the reopen isn’t as straightforward as most people imagine. The reopen has to come with restrictions (eg. limited social distancing measures), to prevent a second outbreak.
And I also don’t see international travel returning meaningfully any time soon.
My base case is for EM nations to grapple with COVID-19 in the next few months, and continued restrictions domestically (and limited international travel) for most parts of the world well into Q3.
Macro Signal 2 – USD Strength
USD strength has tapered somewhat the past week.
Most notably, Indonesia was granted a swap line from the Feds, which will really help the rupiah going forward.
I still think that the real USD strength lies ahead though.
Macro Signal 3 – Policy Response
I published a note to all Patron members yesterday on policy response – extracted it below:
Okay so for those who missed it – The Feds just confirmed that they are now buying junk bonds.
This to me, is a complete gamechanger.
The Feds are technically legally prohibited from touching junk bonds, and the fact they they have now decided to “bend” the rule, indicates the start of a slippery slope from which there is no return.
We talked about the monetary endgame in the past, and we are now well on track in this Endgame.
Short term, this will be a boost to US stocks, and US futures which were down on news of the 6.6 million unemployment number, are now sharply higher.
Mid term though, this will accelerate the path towards the monetary endgame. Bonds will gradually start to become an ineffective hedge, and gold will probably go higher from here on out (as denominated in USD).
We talked about the start of the end of the USD as reserve currency status, and today might just mark the day that we will look back on years from now.
This is a historic day, no doubt about it.
Feds buying junk bonds simply cannot be understated. This has never happened in history.
Macro Signal 4 – Corporate defaults
The corporate default wave hasn’t started yet. We’ll probably see this start to come in the coming months, once the initial post-COVID europhoria has died down.
Are REITs a good investment?
Long story short – It all depends on your investing horizon, your picks, and your buy in price.
I think there are going to be big losers here, who may never recover. Avoid those.
I think there are going to be REITs who will recover stronglywhen all this is over. Buy those.
And the investing horizon really matters too. 12 to 18 months, REIT prices can go anywhere. But 3 to 5 years out, I really, really like the risk-reward at these prices, especially if you stick to REITs with high quality properties from great sponsors.
High quality real estate can be used as a hedge against the wave of inflation that will come (governments will probably print money to solve COVID-19, this will debase fiat currency and reduce the inflation adjusted value of cash). Ray Dalio came out the past week to say that cash is trash, and I agree with him.
At some point during this crisis, we will need to start moving our assets from cash/bonds (excluding what is needed for short term spending) into gold, real estate, and equities, to protect our wealth against the inflation that will come. Failure to do so will see a repeat of 2008, where the value of cash gets eroded by all the money printing that happens.
We’re probably not there yet – but we will get there soon.
My thinking on buy timing
There’s a quote from Churchill I really like:
Now this is not the end. It is not even the beginning of the end. But it is, perhaps, the end of the beginning.
Amazing quote – that really sums up where we are right now.
Phase I of the virus panic is over. So we get a relief rally, and an almost perfect 50% retrace in the S&P500.
But Phase II will come soon. And Phase II is going to be about the collapse in corporate profits, earnings downgrade, and the deepest recession since the great depression.
So I don’t think the COVID19 saga is anywhere close to being over just yet.
My current thinking – is to buy on dips, for the rest of 2020 (and perhaps some of 2021). Any big rallies (like the one we are in right now) can be used to adjust tactical allocation – sell low quality, and move to high quality counters.
I bought a bunch of REITs in late March when I thought prices looked good. I bought more last Friday as the market was freaking out over the COVID19 bill. But after the big rally this week, I decided to hold off for a bit and watch the earnings play out.
No one has unlimited firepower in this fight (unless you’re the Feds), so using your bullets wisely and where they count is going to be crucial in the fight ahead.
I continue to think that active investing is a MUST in this climate. For example, CRCT was trading at a great price in March (below $1). I got lucky and I picked a bunch up at that price, and it’s recovered about 40% since. With China’s recovery on track, it probably wouldn’t retest those lows.
So if you dollar cost average or just buy an index, you’re going to miss out on opportuities like that.
But don’t worry if you missed out on the March lows, or the April lows. I still think there will be great opportunities for the rest of 2020. Stay sharp, stay nimble, stay vigilant, and there’ll be plenty more opportunities to come.
Just be ready to buy when the moment comes. Too many investors get greedy when prices drop, and they keep waiting for prices to drop further. Then prices recover and they get FOMO (fear or missing out) – and start to chase the rally.
Don’t be like that. When prices drop, and you think they look attractive, just buy some. Nobody can time the bottom perfectly, and trying to is a fool’s errand.
Closing Thoughts: What if I am completely wrong?
Now in investing its important to always cater for the possibility that you are wrong.
So let’s say everything that I set out above, turns out to be completely wrong. Let’s say the bulls are right – Late March was the bottom in stocks, and we never retest the lows. Let’s say that stocks and REITs scream higher from here, they go on to make all time highs in June 2020, and only go up for the rest of 2020.
What needs to happen before this pattern plays out?
What needs to happen, is that global governments and central banks need to act perfectly in injecting sufficient fiscal and monetary stimulus, with the right mix of regulatory policy, to effectively offset the effects of the global slowdown.
Now the chances of getting the amount of stimulus just right, is close to zero. There are just too many moving parts for policy makers to gauge what is the right amount of stimulus. More likely than not, policy makers either (1) inject too little (undershoot), or (2) inject too much (overshoot).
If they undershoot, we have my base case. If they overshoot, we have stagflation.
Now governments are reactionary. They wait for the problem to appear, then they react. In early March, we wrote that this would be why COVID19 would be such a big issue, that that turned out to be spot on.
Chances are the same thing happens here. Chances are that governments undershoot on stimulus, companies go bankrupt and economic growth tanks, and then they panic and overshoot on stimulus. That is why my base case assumes a deflationary bust, followed by deleveraging and reflation (ie. a classic 2008/1930s style deleveraging).
Let’s say that view is wrong and governments overshoot. Let’s say the Eurozone and US manage to set aside all their political differences, and come together to coordinate a massive fiscal package to counter COVID-19.
In this scenario, they’ll probably inject too much stimulus to be on the safe side. This will drive up asset price / consumer price inflation, just when economic growth craters. This will be a classic stagflation scenario. The amount of money in the system goes up, but the amount of goods and services in the world drops (because of COVID-19). More money chases a smaller amount of goods/services, and we have stagflation.
But most of us investors have no experience with stagflation. The last time the developed world saw stagflation was back in the 1970s.
And what do you want to own in stagflation? You want to own gold, equities, and high quality real estate (or REITs).
The main difference from a deflationary portfolio – is that the cash and the bonds have to be quickly rotated into equities and REITs, once you see signs of stagflation.
For the record, as at 9 April 2020, I don’t think anyone can definitively say which outcome we will see. Both are possible futures. So the guys who are all-in stocks/REITs at this stage are basically just hoping we see the latter outcome, which doesn’t sound like a great way to invest.
But with the Feds starting to buy junk bonds yesterday, and the Bank of England directly monetising UK government debt, this scenario isn’t completely impossible too.
If I were to put a number on it, I’ll say 20% to 30% chance stagflation plays out in 2020, 70% chance we have the base case above.
But 20% to 30% is not zero.
So it’s important not to neglect this possibility. Don’t dump all your gold / stocks / REITs. Keep a balanced allocation.
And more importantly, keep an open mind. Governments and central banks have indicated a willingness to throw out the existing rulebook for COVID19. It would be foolish not to heed that warning.
What do you think? Share your comments below!
Reminder: The REITs Investing Masterclass is 25% off (ends on Sunday 12 April). Sign up now and you also get free 3 months access to the highest tier of Patron (worth $150).
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