Property stocks outperform contrary to expectations

The property sector was one of the best performing sectors during the recently concluded first half earnings season. Median earnings growth of listed property companies covered grew by 14.8 percent in the first half of 2018, more than double the 6.6 percent median earnings growth of all listed companies that we cover.

During the first half of the year, property firms continued to enjoy brisk sales of residential properties despite rising interest rates, contrary to expectations. Based on our estimates, the combined take-up sales of residential units by listed property companies that we cover grew 24.2 percent to P239.2 billion which is a record high for the said time frame. Aside from strong demand of local buyers, property companies benefited from strong demand from Chinese buyers. For example, in the first half of the year, Chinese buyers accounted for 8.4 percent of Ayala Land’s take-up sales and 15 percent of Megaworld’s.

Recurring profits from property companies’ leasing businesses—malls, offices and hotels—were also up by 13.6 percent in the first half of year. Growth was driven by a combination of higher rental rates and larger leasing portfolios. Demand for office space was particularly strong, also defying expectations. According to Leechiu Property Consultants, office take-ups reached 634,344 square meters in the first six months of the year, already 82 percent of the total amount of office space leased out in 2017. Although demand from the offshore gaming segment softened, which was the main concern earlier this year, this was more than offset by the strong demand from the IT-BPO segment and other non-gaming, non-BPO segments that accounted for 45 percent and 40 percent of demand, respectively.

The outlook for property companies also remains attractive. For residential units, property developers increased the value of their launches by 90.8 percent to P182 billion during the first six months of year as a result of strong demand. However, since the value of launches is still much less than the P239.2 billion worth of properties sold in the first half of the year, inventory levels of newly constructed residential properties available for sale should continue to shrink, allowing selling prices to stay healthy.

Meanwhile, because of the stronger than expected demand for office space, Colliers Research recently revised its office vacancy rate forecast down to only 5-5.6 percent up to 2020. Low vacancy rates should also help keep lease rates elevated.

Given their strong first half earnings performance and favorable outlook, it is not surprising that property companies were able to outperform the stock market lately despite higher interest rates.

Admittedly, demand for residential properties could weaken assuming that interest rates continue to go up going forward. To minimize risk, investors can stick to buying property companies with large rental portfolios such as SM Prime (SMPH), Ayala Land (ALI), Megaworld (MEG) and Robinsons Land (RLC) as rental income which tends to be more stable should help minimize earnings volatility.