• Minimize systematic risk…
• Rotation into defensive plays
• Prefer banks amongst cyclicals

Quick background on this today’s meltdown

Last night, the Dow Jones Industrial Average fell >800 points while the S&P 500 had its worst day since February as technology stocks were battered. Dow Jones Industrial Average, S&P 500, and Nasdaq fell 3.2%, 3.3%, and 4.1%, respectively.

On the back of poor market sentiment, we saw the STI decline 2.9% today till 1:45PM. Looking at the past week, another reason for the recent market weakness is the spike in the US 10-year Treasury bond yield from 3.06% on 2 Oct to 3.18% on 3 Oct and subsequently to a 7-year high of 3.23% on 5 Oct. S-REITs, being an interest rate sensitive instrument, have unsurprisingly seen weakness across the board.

From 3 Oct to 1:45PM today, the FTSE Straits Times REIT Index (FSTREI) has declined 4.2%. However, we note that this was an outperformance versus the STI’s -7.0% return during the same period. Going forward, there may be some reprieve seen for REITs and non-tech stocks as the US 10Y bond yield has pulled back to 3.14%.

REITs: Our top picks outperformed in recent rout; stick with defensives

In our last REITs sector report, we emphasized defensive REITs over those in cyclical sub-sectors such as hospitality. Recall that our preferred picks within the S-REITs space are Keppel DC REIT (KDCREIT) [BUY; FV: S$1.54], Frasers Centrepoint Trust (FCT) [BUY; FV: S$2.49], Frasers Logistics & Industrial Trust (FLT) [BUY; FV: S$1.19] and Mapletree North Asia Commercial Trust (MAGIC) [BUY; FV: S$1.42].

Three out of four of our top picks have performed relatively well in the market rout since 3 Oct (see report appendix). We continue to like names that offer operational stability and are less likely to suffer DPU declines in the event of economic slowdowns.

Within our four top picks, we like KDCREIT for its long WALE and positioning in a sunrise industry, FCT for the defensive nature of its suburban malls portfolio and long track record of positive DPU growth, and FLT for its long WALE and inbuilt  rental escalations.

We also like MAGIC for its attractive yield relative to the other commercial REITs listed in Hong Kong as well as for the operational resilience of its portfolio, but are cognisant that its RMB exposure may weigh on investor sentiment in this environment.

Tactical picks and candidates for corporate actions

We also saw resilient performance from both tactical picks as well as those undergoing corporate actions. OUE Hospitality Trust’s [BUY; FV: S$0.79] unit price is 1.4% down today till 1:45PM compared to the 1.7% decline in the FSTREI, while M1 [HOLD; FV: S$1.65] is down 0.5% today till 1:45PM vs. the 2.9% decline in the STI.

Hotel Properties Limited (HPL) [BUY; FV: S$4.74], a possible privatization candidate after the successful Wheelock Properties (Singapore) General Offer, is similarly down with a relatively mild -1.6% change in the same time period. Refer to our recent Oct 8 market report on corporate actions.

Regulated infrastructure businesses: Boring is good

Given increasing concerns about downside risks to corporate earnings from the ongoing trade war, we think it is opportune to revisit the merits of players in regulated infrastructure industries, given their general resilience to cycles and trade dynamics. From our coverage, we highlight CK Infrastructure Holdings Limited (CKI; 1038 HK) [BUY; FV: HK$73.42] and NetLink NBN Trust (NLT) [BUY; FV: S$0.90] as strong candidates to rotate into, as both companies typically operate in regulated regimes, long term contracts, and/or stable businesses.

The relative outperformance of both counters has been clear. From 3 Oct to 1:45PM today, NLT NBN has achieved a total return of -1.3%, relative to the -2.9% registered by STI Index. In the same time period, CKI is down 2.1%, as compared to the -6.9% clocked by the HSI Index.

Further, in CKI’s case, relatively elevated UK inflation (based on Bloomberg consensus) will have a positive effect on the revenue and asset bases of its regulated businesses. Further near-term catalysts could also be on the cards, such as the consummation of the APA Group acquisition, as well as the currently-speculated listing of some UK assets through a London IPO (refer to report on 5 Oct 2018).

Within this space, Power Assets Holdings Limited (PAH; 6 HK) [HOLD; FV: HK$55.33] is another possible candidate to consider, though longer-term growth prospects might not be as attractive. All considered, we prefer CKI, NLT and PAH, in this order.

Seek some shelter in the storm; prefer banks amongst cyclicals

For Singapore, the market has already been trending down since the high in May. The spillover effect could bring the market lower for the near term, but we expect the quantum of decline to moderate. As we head into the earnings season, we expect the defensive sectors/names that we have highlighted to demonstrate bottom-line resilience, which should give investors some relief.

Across cyclical names, we would be more selective, and generally prefer banks within that space: we like both DBS [BUY; FV: S$31.83] as well as UOB [BUY; FV: S$32.09]. Given that volatility could remain heightened in this stage of the cycle, we encourage investors to position their portfolios with a measure of defensiveness, while waiting for the stormy macro conditions to abate.
 

Source: OCBC Research - 11 Oct 2018