Media mechanically tries to explain events in the ambiance of simplistic causality.
Applied to the financial markets, because the public loathes complex explanations, media serves them the silver “the law of least effort” platter by intuitively reasoning from price changes. And reasoning from price changes essentially constitutes a combination of fallacies; mostly the post hoc anchored upon the available/recency bias.
In short, public consumption of information has been mostly about confirmation of biases predicated on populist themes. And industry experts abets on these misinformation dissemination.
Because the property sector zoomed by 6.95% this week to virtually take command of the PSEi meltup, some have seen media’s report on the PSE’s push to reenergize the domestic version of Real Estate Investment Trust (REIT) as a reason for the massive pumping.
The simplistic idea is that REIT equals G-R-O-W-T-H therefore the PUMP!
What are REITs?
Essentially they are trust companies or investment vehicles that function similar to mutual funds. REITs have investments in or have ownership in real estate ventures and or real estate related mortgages that are traded in stock exchanges. One particular advantage of REITs, according toInvestopedia, is that they receive special tax considerations and typically offer high dividend yields.
Of course though tax privileges and high dividends offer an edge, everything remains pillared on economic and credit conditions of the property industry as well as the general economy.
The Philippine government has an existing REIT mandate, which unfortunately due to rigorous tax and public float provisions, none of industry participants has taken advantage of. According to theBusinessworld, “Republic Act No. 9856 or The REIT Act lapsed into law in December 2009. No major property developer, however, has yet to launch such a trust, given the stringent tax and public float requirements.”
The present tax barriers for the REIT has signified “a levy on the transfer of the real assets of property developers to the REIT and 12% tax on the additional income generated by the trust, among others”
Meanwhile, REIT float requirements consist of a “minimum 40% public float for the first two years of their listing. By the third year, public investors should have already owned 67% of the trust’s outstanding shares”
So the PSE has been pushing for an amendment to ease on these regulatory impediments.
Theoretically, REITs are useful in the development of capital markets.
But under the current conditions, REIT will only further inflate on the domestic property bubble. By enhancing access to the public savings, the property sector will be provided with even more resources which it will use to amplify and aggravate its misallocation—the race to build supply
Proof? From another June Businessworld article (bold mine): The law allows property developers to securitize their properties by transferring them to the investment trust listed on the Philippine Stock Exchange. “Maraming mare-recycle na capital. Siyem
Promoting bubbles in the name of helping people! Nice.
As to how people will be helped when the bubble pops is something inconceivable for industry. That’s because bubbles can happen anywhere but the Philippines.
Yet why has the PSE been working to promote the interests of property developers? What has been so special with property developers or the real estate industry? Why don’t the property developers lobby on their own? Why doesn’t the PSE consider promoting the establishment of a commodities market instead, in order to diversify the economy, increase investments and efficiency inunderinvested segments, as well as, to reduce the risks of concentration and dependence on a single industry?
REITs are not immune to boom bust cycles as the Great Financial Crisis has shown. In fact they were one of the focal points.
From Wall Street Journal (2010) (bold mine): It is easy to see why investors were so attracted to Reits when economies are booming spurring demand for commercial property space and increasing property prices. But the property boom had to end at some point. And when it did, Reits markets were hit particularly hard. Between February 2007 and February 2009 the FTSE EPRA/Nareit Europe Index, which tracks the performance of a diverse range of Reits listed across Europe, registered a decline of almost 75%. Reits were left reeling from a combination of debt exposure, an illiquid asset base in a falling market and an increasing cost of funding. The capital-intensive nature of the property investment business meant Reits required substantial levels of financing, which in turn meant they were particularly vulnerable to a dislocation in the credit markets. When that dislocation came and credit disappeared, Reits struggled. Their own portfolios contained illiquid assets but their structure provided investors with an easy escape route.
Déjà vu 2007?
Again REITs are all anchored on economic and credit conditions of the industry and the economy
In 2014, a high flying Canada Vancouver based REIT, League Assets Corp., filed for bankruptcy. One keen analyst presciently spotted anomalies on the said REIT that led to its demise.
From the Globe and Mail (January 2014) : (bold mine) It was a rare and little-noticed outbreak of rancour in a national real-estate scene that had been scorching hot since the financial crisis. As the rising tide lifted all boats, both quality companies and risky bets saw their valuations soar.Investors hungry for yield in an era of rock-bottom interest rates flocked to the sector, especially real estate investment trusts (REITs) like League’s, which paid monthly distributions, and are widely viewed as safe investments. Regulators had to work hard to stay on the ball as valuations skyrocketed. REITs owe their secure reputation to the fact that they normally buy income-producing properties and then pay out most of their monthly rental income to investors. But the frothy market added a new dynamic: A slew of new real estate companies were going public, and many firms already in the market were bulking up by either acquiring additional properties at a fast clip or, in select cases, adding development projects. That latter strategyentailed new risks and years of waiting for cash flow, in contrast to the safer model of banking on existing bricks and mortar. The trend toward development was particularly worrisome for neophyte management teams that had yet to live through a bust. “Real estate is highly cyclical,” says Shant Poladian, a former Bay Street real estate analyst who heads FAM REIT. “Over these cycles, the two things that keep coming back to haunt the industry are too much debt and too much development.”
To repeat: “Over these cycles, the two things that keep coming back to haunt the industry are too much debt and too much development” …rings a bell?
And does the PSE actually believe that the Philippines IS immune to economic forces?
NGDP or growth in gross revenues or real estate sales of the respective property firms from the PSEi 30, which includes holding firm DMC, have ALL trended SIGNIFICANTLY DOWN in 1Q 2016!
For 1Q 2016, the average topline growth for the abovementioned companies has sunk to 7.2% from 24% in 2015 and 10.7% in 2014. That’s a huge drop compared to (-70%) 2015 or to (-33%) 2014.
Only RLC posted a double digit growth at 14.1%, while the bigger contemporaries registered single digit growth: ALI 8%, SMPH 3.6% and MEG 9.9%. DMC’s former high flying growth collapsed to just .44% over the same period!
Remember, property sales are financed by free money through vendor financing (interest free downpayments). Yet the slowdown!
Well, won’t the massive race to build supply erode on property firm’s NGDP or gross sales? What more if income growth has significantly been LESS than what has been publicized?
Oh by the way monthly OFW personal and cash remittances growth for June stumbled again to just 1.8% and 1.9%.
So just where will demand come from? Here is a guess, from the mainstream’s perspective, like horror figure Sadako, they just pop out of their computer screens!
Yet what the above shows is that slowing sales means lesser cash flow. So under such conditions how will these firms finance operations, existing obligations and project expansions? Through debt or through equity dilution or equity sales of course!
Could this have been the reason for the push for REIT?
The BSP has a mandatory 20% cap of total loan portfolio, net of interbank loans (BSP circular 600) on bank loans to the property sector.
So could it be that REIT’s may serve perhaps as loophole to the BSP’s bank credit limits?
Or could it also have been that REITs may serve as potential alternative sources of access to the public resources by selling to them manifold “financial innovation” REIT products?
You see, REITs are no ELIXIRS on the economy.
Like telco's 4Gs, exacerbated by fugasi selling experts, the public has been grasping at the straws to rationalize or justify a mania.
Finally I would be very worried over prices that ascend in a sustained vertical fashion, particularly now seen in major property issues.
Vertical price trends have the tendency to camouflage developing internal decay. The above are wonderful examples from here and abroad.
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