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The shock of the quick appreciation in the yen/dollar over the weekend and escalation of the troubled Lehman / Merrill shops as well as other bad news pushed the TOPIX down 5% today. This was expected.

But the REIT index went down another 7% today, again, impacted by the bad news abroad but the Japanese real estate market is not fundamentally correlated to the US.

We DO see risk in the JREITs, but this is risk uncorrelated to other markets:

1) Poor price performance of the J-REIT equities means that debt LTVs are up without taking on more debt… Most JREITS have an LTV threshold around 60% and getting into that LTV range sets off triggers to creditors to push the equity back up – esp in the case of smaller cap JREITS that have predominantly asset-backed syndicate loans.  Those JREITS with more corporate debt have less of an issue.  The easiest way to push the equity up is to sell assets, but this is not a favorable environment to sell in.

2) JREITs with shorter-term debt that needs to be rolled over have serious creditor pressure and also may be forced to sell assets at a discount just to pay off the debt.

3) Spreads for both new non-recourse syndicated loans and new corporate debt have gone up, and will impact dividends at some point, again influencing JREITS that have shorter-term debt.

HOWEVER, as of today there are 9 out of 42 JREITs with a forecast dividend yield over 10% and at the top Tokyo Gross REIT with a whopping 14.6% forecast.

Now last time I checked my Japanese online trading account, I could borrow 70% on margin at 3% interest, which may be more expensive than some shops in Japan but even assuming such a 10% dividend yield gives me a 26% yield on equity.  That`s a whole lot better than 0.1% in my Tokyo Mitsubishi account.

Why aren`t the Japanese pensions and pensioners figuring this out?  The govt pension lost 4% last year, right? You would think the pensions would be the most natural investor to prop up their own country`s indirect real estate market, and have quite a bit to gain from it at this timing.  But often bureaucratic institutions don`t work so quickly here, it seems to take years to change mandates and get consensus.

We aren`t analyzing very deep here to make any buy recommendations so just in general, any JREITs with average debt term shorter than a few years, those that start to cut dividends and any that have recently sold assets at prices significantly below book value should be red flagged.  Otherwise, the strong JREITS are a super value and we should expect quickening consolidation, takeovers, and taking private of the better assets and better managed JREITS in the coming months.


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