Property stocks are among the best-performing issues in the market this year. For the year-to-date period, the PSE Property Sector Index is up 17 percent, more than 10 percentage points higher than the PSEi index, which is up by only 5 percent.
The main reason for the outperformance of property stocks is lower interest rates. Due to falling inflation, interest rates have gone down significantly, with rates on the 1o-year bonds down from 7.1 percent as of end 2018 to 5.6 percent currently. Property companies are among the major beneficiaries of lower interest rates as properties, which are usually bought using borrowed money, become more affordable for buyers.
Also driving the outperformance of property stocks is the strong earnings of property companies. During the first quarter of this year, the net income of property companies covered by COL Financial grew by an average of 15.2 percent. Take-ups of properties for sale increased by 11.3 percent to P129.2 billion while rental revenues from malls, offices and hotels increased by an average of 14.5 percent.
There are some risks, however. Although interest rates are now much lower than where they were as of end 2018, we don’t expect them to return to 2017 levels given the strength the economy and the government’s aggressive infrastructure spending program. Note that average GDP growth during the past five years was 6.4 percent and is expected to stay strong at 6 percent this year and 6.3 percent in 2020. Meanwhile, the Duterte administration plans to grow infrastructure spending from an average of only 3 percent of GDP under the Aquino administration to 7 percent of GDP by 2022.
The strength of the economy coupled with the government’s aggressive infrastructure spending plan will increase demand for debts, making it difficult for interest rates to stay low.
Another risk is the sustainability of demand from Chinese buyers and Philippine Offshore Gaming Operators (POGOs). Note that POGOs now account for a significant share of office space for rent, at 29 percent of total office leasing transactions during the first quarter, according to Colliers estimates. Meanwhile, Chinese buyers who are here because of the growing number of POGOs account for bulk of residential property sales to non-Filipinos, according to property companies. However, demand of Chinese buyers and POGOs might not be sustainable as any change in government policy could mean their departure from the country.
While property stocks could continue to perform well, especially with falling interest rates, investors should keep a close eye on the risk factors highlighted above as these could derail property stocks’ outperformance at any moment.