TSE Cash Markets

REIT interest rates ‘4% rock bottom’

THE NIKKEI via scoutAsia

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January 10, 2023 3 min read
REIT interest rates ‘4% rock bottom’

Real estate investment trusts (REITs) are showing firmness in the bottom line. The Tokyo Stock Exchange REIT Index, which shows overall price movements, fell sharply after the Bank of Japan‘s policy correction in December 2022, but has since been recovering. One rule of thumb that investors use as a buying guide is “The bedrock of a 4% dividend yield will not crumble.” Will the law continue even as interest rates continue to rise? Market source has taken notice.

“The trend of supportive buying at around 4% was ironclad again.” An investment manager at a regional bank shared this impression of the REIT market during the year-end and New Year period.

The Tokyo Stock Exchange REIT Index fell 5% from the previous day to 1838 at the close on December 20, when the Bank of Japan raised the maximum allowable long-term rate. Reflecting the decline in investment unit prices (equivalent to stock prices), the projected dividend yield hit the 4% range for the first time in a year and 11 months.

“Then, domestic financial institutions, aware of the undervaluation, moved in en masse to buy” (Yosuke Ohata, Mizuho Securities). The REIT index then recovered a little over 1% by the foot of the market.

On January 5, the REIT index temporarily sold off 1.5% from the previous day, as the new 10-year government bond auction increased speculation of higher interest rates. The price subsequently declined and closed only 0.5% lower.

The rule of thumb that the “4% range bedrock” can be confirmed only after 2013, when the economic policy of the Shinzo Abe administration, “Abenomics,” was in full swing. “Since that time, the difference between the dividend yield and the longterm rate has hovered at an average of 3.5%, a level that is still within the book”(Naoki Fujiwara, Shinkin Asset Management Investment Trust).

When the market reaches a level of around 4%, investors will be tempted to get ahead of the market, as they will be buying. The law has generally been true this past 2010, with the exception of the period of confusion immediately following the entry of the COVID-19 pandemic.

Will the 4% rule of thumb live on even if interest rates rise in the future? A manager at the aforementioned regional bank said that the bank plans to continue to increase its REIT balance in 2023 as “Even if the interest rate is effectively raised, there are no other high-yielding financial instruments that can be traded daily in yen.”

The yield on Japanese government bonds is 1.9% even for 40-year bonds, and the dividend yield on the Nikkei Stock Average is 2.4%. US government bonds yield as high as 3.6% for 10-year bonds but are not profitable given the cost of raising dollars. REITs also attract “process of elimination” type buying.

On the other hand, there is some bad news in the near term, given the real estate marketearnings environment and REITdividend levels. There is a tailwind of “earnings improve dramatically” (Mr. Yasuyuki Kuroki of Mitsubishi UFJ Kokusai Asset Management) due to the recovery of inbound tourists (foreigners visiting Japan) for hotel REITs, which had squeezed their dividends significantly due to the COVID-19 pandemic. However, in the largest sector, offices, vacancy rates in central Tokyo remain high and rents continue to fall.

In order to maintain the dividend level even under these unfavorable conditions, some office REITs have sold their holdings for a profit against the backdrop of rising real estate prices. “If the long-term rate rises above 0.5% (with further policy revisions), there will be a slowdown in the trading market,” noted Daisuke Seki of Ivy Research Institute. If sales stagnate, it may become difficult to maintain dividend through property sales.

Hiroto Iwasa of Nissay Research Institute points out, “In the long run, REITs will continue to have high yields. Financial instruments suitable for long-term investment.” It is essential to invest with a long-term perspective. Yield investors will find their courage tested in 2023.

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The English translations provided through this service are the result of automatic and mechanical translation of contents written in Japanese and created by Nikkei or licensed by a third party, by an automatic translation system provided by a third party after certain processing of the contents by Nikkei. Nikkei disclaims all warranties, express or implied, related to the English translations, including any warranty of accuracy, reliability, validity and fitness for a particular purpose. Users shall use this service with the full understanding that it employs an automatic translation system that automatically and mechanically recognizes and analyzes information and outputs the results.