Monday, August 4, 2008

Borrow Big To Pay For Your Home? It May Not Be Foolhardy

Source : The Sunday Times, Aug 3, 2008

Taking out a huge real estate loan seems risky, but it may sometimes be a better option

After my last Small Change column was published, a colleague came up to me and said: 'Property isn't a high-risk investment.

'In fact, it appeals to a low-risk investor like me who doesn't know enough to invest in stocks and shares. What- ever spare cash I have, I use it to pay off my housing loan.'


I had argued in my column that property investment is a high-risk, high-reward game, using the example of a $1 million home bought with $100,000 cash and $900,000 borrowed.

If the price of the home rises by 10 per cent, it will be worth $1.1 million and the investor would have doubled his initial capital. But if it were to fall by an equal amount, his capital would have been wiped out.

So who's right?

Both of us are.

Residential property is a familiar investment to many Singaporeans since home ownership became the cornerstone of government policy in the mid-1960s.

Indeed, whether you are a sophisticated investor or one wet behind the ears, you can't go wrong buying a home as a long-term investment in land-scarce Singapore. Seen in this light, it is a safe investment.

It becomes highly risky only when one buys a second, third or fourth property leveraging on borrowings and relying substantially on rental incomes to service the loans.

On reflection, I realise there are many people like my colleague who pay down their housing loans very early, and take pride in doing so.

This sentiment is entirely understandable. Many of us take home ownership for granted, thanks to the Government's hugely successful public housing programme.

But for the older generation and the one before that, the fear of not having a roof over one's head was very real.

To them, it's an achievement to own a fully paid-up home as quickly as possible.

To these people, I say: 'Go ahead, if you can afford it.'

'What do you mean?' you may retort. 'If I take my spare cash to repay my home loan, surely I can afford it.'

Not necessarily.

There is a cost in putting too much equity into a home purchase.

To illustrate, let's take the example of two young couples - X and Y - who buy a Housing Board resale flat at the market valuation price of $500,000.

Let's assume each couple have savings totalling $150,000 in their Central Provident Fund Ordinary Accounts (OA) and a combined monthly income of $6,000. Both are are entitled to an HDB concessionary loan - currently at 2.6 per cent a year.

Under the rules, buyers are allowed to pay 10 per cent as down payment and borrow the remaining 90 per cent to finance their purchase.

Couple X, being very prudent, choose to use up all their OA balances to pay for their home. They take out a 30-year, $350,000 loan to finance the rest. For simplicity's sake, let's assume the entire $150,000 goes towards paying the down payment. In reality, the actual amount will be less, minus the money to pay stamp duty, home protection scheme insurance and legal fees.

Couple Y, being more gung-ho, decide to pay the minimum down payment of 10 per cent, which works out to $50,000. They, too, take a 30-year loan but for a higher amount of $450,000.

Using a financial calculator, Couple X and Couple Y's monthly loan instalments work out to about $1,400 and $1,800 respectively.

Couple X's monthly CPF OA contribution totalling $1,380 is almost just about able to cover fully their monthly instalment whereas Couple Y would have to top up an additional $420 in cash.

At the end of 30 years, Couple X will have paid a total of $504,000 to repay their $350,000 loan whereas Couple Y will have coughed out $648,000 on their $450,000 loan.

Interest charges by Couple X and Couple Y over this period work out to $154,000 and $198,000 respectively.

On the face of it, Couple X seem far better off. Their monthly repayment is lower and they incur $44,000 less in interest charges.

On closer inspection, the benefits of borrowing less are not that clear cut.

Firstly, one needs to take into account that Couple Y kept $100,000 of their OAs from the start. This means they get to earn annual interest income, which Couple X will forgo until their CPF contributions from income accumulate again.

Interest payment for OA balances is 2.5 per cent a year. For the first $20,000, a higher interest of 3.5 per cent applies.

Insofar as the first $20,000 is concerned, it is better to leave the money untouched and earning 3.5 per cent a year than to use it to pay off an HDB loan that charges 2.6 per cent per annum.

As for amounts greater than $20,000, one doesn't lose much either since the difference between interest payable on an HDB loan and earned for money kept in the OA is a mere 0.1 percentage point (2.6 per cent - 2.5 per cent).

Secondly, keeping substantial savings in the OA can be an important buffer to cope with a temporary loss of income.

The sum of $100,000 is equivalent to five years' worth of monthly repayments. So even if one or both persons who make up Couple Y were to stop working for some reason or quit to start a family or take a sabbatical, they can continue to service their loan entirely from their OAs for about five years while looking for their next job.

Couple X, on the other hand, will have no such luxury. They will be forced to tap their cash savings immediately in similar circumstances.

Thirdly, having some spare savings in the OA opens up investment opportunities and flexibility.

Bear in mind that the HDB loan at 2.6 per cent is really cheap money.

Last year, insurer Aviva offered an endowment plan called Big e that paid up to 3.5 per cent in interest a year. The plan, which guaranteed a return higher than 2.5 per cent, has since been discontinued.

However, such opportunities that offer low-risk returns based on positive interest differential (3.5 per cent - 2.6 per cent) can be expected to surface from time to time.

For those with a higher risk appetite, there are also numerous CPF-approved investments that have a track record of generating annual returns in excess of 5 per cent over the mid to long term.

Although I used the HDB flat purchase as an example, the argument is also valid for private property purchases, given the current low interest rate environment.

Fourthly, if your flat is rented out, you can apply to the taxman to offset your rental income with the interest paid on the loan. So the bigger the loan amount, the higher will be the interest offset.

Finally, if all else fails and there is no reasonable opportunity to earn a better return, there is always the option of using your OA balance to pay down your housing debt at any time.

Bear in mind this option is irreversible. You can pay down a housing loan but you cannot top it up.

Do note that if you take an HDB loan, you must 'invest' your excess OA balance before your first appointment with the board.

That is because HDB will exhaust your OA for down payment - minus the amount for stamp duty, legal fees and home protection insurance - before granting you a loan.

In the earlier example, Couple Y would have to withdraw from their OAs the sum of $100,000 - or an appropriate amount after taking into account the 10 per cent down payment and ancillary charges - and put it into a CPF-approved investment.

If the investment is meant to be a temporary one, choosing a low-risk, low-return fund like DBS Enhanced Income Fund would be appropriate.

After the first appointment, you may liquidate the investment and return the proceeds to your OA.

Be aware that this 'round tripping' is not cost free as agent bank fees and sales charges apply. These charges are nominal though.

To sum up, taking on a big housing debt is not necessarily a bad thing. In certain circumstances, it may even be the prudent thing to do.

Whether you choose to be Couple X or Couple Y, you must do your sums and feel comfortable with the plan.

Safe long-term bet

Whether you are a sophisticated investor or one wet behind the ears, you can't go wrong buying a home as a long-term investment in land-scarce Singapore. Seen in this light, it is a safe investment.

It only becomes highly risky when one buys a second, third or fourth property leveraging on borrowings and relying substantially on rental incomes to service the loans.

Er...What Is Confirmed List System?

Source : The Sunday Times, Aug 3, 2008

Where do you see this?

In articles about property and Government announcements on the sale of land.

What does it mean?

It is a method of selling land that the Government employs.

Sites on the confirmed list are for outright sale, meaning they will be tendered out on scheduled dates, regardless of whether developers have indicated interest.

Why is it important?

This is not a market-driven approach. But it allows the Government to hasten the development of certain sites for planning and other strategic reasons.

For instance, in its land sales programme for the second half of the year, it offered a 3ha hotel site at Bukit Chermin Road under the confirmed list.

The sale of the site, it said, is timed to coincide with the 2011 completion of Labrador Nature and Coastal Walk nearby. Together, these developments will enhance the attractiveness of the area as a premier leisure and recreation destination.

The Government also offered a site in Stamford Road comprising the existing Capitol Theatre, Capitol Building, Stamford House and Capitol Centre.

So you want to use the term? Just say...

'The Stamford Road site with the conserved Capitol Theatre is on the latest confirmed list. That means it should be sold soon. When it is restored, the area will become more vibrant.'

CapitaLand Q2 Profit Falls 43.5% To $515.2m

Source : The Business Times, August 2, 2008

Group hopes to list Malaysia retail Reit on Bursa Malaysia by end-2008

CAPITALAND group president and CEO Liew Mun Leong has urged analysts and journalists 'not to be overinfected with what's happening in the US'. He made this call yesterday at the property group's briefing on its results - which saw second-quarter net profit falling 43.5 per cent year-on-year to $515.2 million.

'Despite the cautious market sentiment, we have a positive outlook as our business units are competitively positioned and geographically diversified,' said Mr Liew.

Mr Liew: 'Our business units are competitively positioned and geographically diversified.'

CapitaLand's Q2 net profit drop was due mainly to lower fair value gains from the revaluation of investment properties, lower portfolio gains and developments profits, and the absence of writeback of previous provisions. 'Lower revaluation gains were partly a result of the moderation in price increase for the Singapore property market and partly because the group divested some of its investment properties in 2007,' the group said.

First-half net profit also declined 49.8 per cent year-on-year to $762.7 million. Mr Liew pointed out that 2007 was an exceptional year.

The group posted return on equity of 15 per cent in H1 2008, down from 38 per cent in the corresponding year-ago period but slightly ahead of the 14.5 per cent achieved for full-year 2006.

Excluding revaluation gains, CapitaLand's H1 2008 net profit would have been $345.3 million, down 19.7 per cent from H1 2007, which Mr Liew termed a 'commendable result'.

Overseas contribution to earnings before interest and tax rose 10.4 per cent year-on-year to $695.8 million in H1 2008. The increase came mostly from China, chiefly due to fair value gain of $297 million (at earnings before interest and tax or Ebit level) for Raffles City Shanghai, which is being sold to the Raffles City China Fund. However, this was partly offset by a lower contribution from Australia. CapitaLand booked a $24.1 million provision for its share of foreseeable losses on Australand's residential development projects.

The group's finance cost rose 43.7 per cent to $270.5 million in H1 2008. Gross debt rose to $11.6 billion as at June 30, 2008, from $8.6 billion a year earlier. Net debt to equity ratio increased from 0.43 as at end-June 2007 to 0.68 as at end-June 2008.

Serviced residences giant The Ascott Group, which CapitaLand took private earlier this year, posted an 87.3 per cent year-on-year drop in Ebit in Q2 2008 to $17.9 million, while H1 2008 Ebit fell 66.3 per cent to $57.4 million. The Q2 2007 figure had included a gain from the sale of Master Golf and Country Club. The deconsolidation of Ascott Residence Trust, which was listed last year, also contributed to the lower H1 2008 Ebit. However, Ascott's Q2 revenue rose 12.5 per cent to $120.5 million, due largely to the group's serviced residence operations in Europe and China. The group sold $138 million of its serviced residences portfolio in H1 2008 and hinted that it was studying further divestments.

CapitaLand China Holdings's revenue fell 63.9 per cent in Q2 2008 and 49 per cent in H1 2008 because of the re-scheduling of launches of a few projects (in Foshan, Chengdu and Ningbo) from H1 2008 to H2 2008. However, the China business posted posted respective year-on-year Ebit gains of 120.4 per cent and 113.3 per cent in Q2 and H1 respectively due largely to the fair value gain from the revaluation of Raffles City Shanghai and better operating performance of commercial properties.

The group's assets under management stood at $21.1 billion as at June 30, 2008, up from $17.7 billion as at Dec 31, 2007.

The group had $3.4 billion cash as at June 30, 2008 - down 21.4 per cent from a year earlier - and that is in addition to the $12 billion balance investible amount in its private equity funds as at the same date - giving it a sizeable warchest for potential acquisitions.

CapitaLand hopes to list its Malaysia retail Reit on Bursa Malaysia by end-2008. CapitaLand chief investment officer Kee Teck Koon said: 'We're looking at an asset size of about RM$2 billion (S$841 million) (based on the three malls we have purchased for this Reit - Gurney Plaza, Mines Shopping Fair and Sungei Wang Plaza). This will make it the largest Reit in Malaysia in terms of asset size.'

Group revenue fell 12.3 per cent in Q2 to $820.1 million. For the first-half, revenue slipped 7.7 per cent to $1.45 billion.

CapitaLand's net asset value per share stood at $3.68 as at June 30, 2008, up from $3.54 as at Dec 31, 2007. The counter closed 23 cents lower yesterday at $5.47. No interim dividend was declared, as was the case in the previous corresponding period.

The Looming US Recession

Source : The Business Times, August 4, 2008


SECOND-quarter US gross domestic product (GDP) rose 1.9 per cent, largely thanks to tax-rebate cheques sent out as part of the Bush administration's economic stimulus package.

Exports and government spending were growth areas. But weak personal finances and sub-par economic growth suggest further credit problems ahead. An official US recession may only be delayed.

The US economy's trajectory is difficult to divine, and quarterly GDP figures don't help. In 2001, recessionary quarters appeared and disappeared as revisions were made to estimates, before it was finally determined that no recession occurred by the official definition of two consecutive down quarters.

The annual revisions in 2005-2007 GDP figures this month have changed the overall trajectory only modestly downwards, but a 2006 'statistical discrepancy' of 1.2 per cent of GDP (US$163 billion in real money) suggests there is still considerable uncertainty.

Between mid-2006 and mid-2008, according to this month's figures, three quarters of sub-par growth averaging 0.8 per cent - recessionary in practice, given one per cent US population growth - were followed by two quarters of enthusiastic 4.8 per cent growth, which have now been followed by another three averaging 0.8 per cent. During the two quarters of strong expansion in mid-2007, the largest credit crisis in decades exploded.

Certainly, nobody noticed strong growth at the time. It is thus questionable what exactly quarterly GDP figures really mean.

Still, this time there appear to be some negative indicators. The government's stimulus package, mostly implemented in May and June, added about US$130 billion to personal income, representing 4.2 per cent of its nominal 7.4 per cent rise - without this, income would have risen less than inflation.

Personal savings rose only US$60 billion in the quarter, so less than half the package remained at June 30 to stimulate subsequent consumption. That suggests that the financial squeeze on the consumer, alleviated during the second quarter, could worsen in the rest of 2008.

With the consumer under strain, house prices continuing their decline (albeit possibly more slowly) and GDP growing at best sluggishly, debt problems are likely to increase in both the consumer and high-yield corporate sectors. That suggests a continued likelihood of recession, even by the official definition, in the months ahead - but it could be 2010 or later before we know it.

Safety In Reits? Don't Count On It: Analysts

Source : The Business Times, August 4, 2008

Yields are attractive but they are subject to movements in cyclical property market

High yields and strong results are making real estate investment trusts (Reits) stand out in a volatile market. But there is debate over their potential as defensive plays, with some market watchers cautioning that Reits are not necessarily safer bets because of their link to the cyclical property sector.

Most Reits turned in impressive results for the quarter ended June 30, 2008. The 18 which reported their performance before last Friday all achieved higher distributable income and distribution per unit (DPU) over the same period last year.

Distribution yields reported by the Reits, based on annualised DPUs and last Friday's closing prices, ranged from 4.8 per cent to 11 per cent. Reits which offered yields above 10 per cent included MapleTree Logistics Trust, healthcare-related First Reit and Lippo- MapleTree Indonesia Retail Trust.

Overall, the Reits had an average distribution yield of around 7.8 per cent, offering a spread of over 4.6 percentage points above the 10-year Singapore government bond yield of 3.14 per cent on Friday. Compared with one-year fixed deposit rates which start from around 0.8 per cent, the Reits offered an even wider spread.

Analysts say Reits have largely performed in line with expectations. Their good performances have won them fans - with many trading at discounts to net asset values and thus offering relatively high yields, OCBC Investment Research said in a recent report that investors could 'take a fresh look at S-Reits as defensive vehicles offering stable cash flows and high yields'.

However, others pointed out that Reits still may not match up to traditional defensive plays, including high-yielding blue chips like telcos and banks. While Reits do offer high distribution yields, the sector is influenced by movements in the property market, which tends to be more cyclical compared with, for instance, the telecommunications industry, or even banking, they say.

Distribution yields are also a function of Reits' unit prices, so yields may look high simply because unit prices have dropped, explained one analyst. Considering both capital gains and distributions to investors, Reits have not done as well compared to around a year ago, he added. The FTSE ST Reit Index has fallen by more than 10 per cent since it was launched on Jan 10 this year.

Reit fans, on the other hand, argue that few sectors are completely resistant to economic slowdowns. Also, some Reits may be more resilient because they can lock in leases over several years, which helps stabilise earnings.

Where there is agreement among most of the market watchers BT spoke to is that Reits will continue to generate steady operating results. For those which have locked in leases or are able to gain from higher rental reversions on lease renewal, 'there is a lot of predictability in terms of their earnings and distributions,' said Daiwa Institute of Research analyst David Lum.

With credit conditions staying tough, however, much of the earnings growth will have to come organically. Reits may still acquire properties but they will have to be more selective, analysts say.

Analysts' top Reit picks include Suntec Reit. 'With 32.6 per cent of total office net lettable area up for renewal in FY09, we believe Suntec is well-positioned for rental reversion with current $14 psf signing rents versus passing rent of around $6.30 psf,' said a Citi Investment Research report last week.

CapitaCommercial Trust was another popular choice. Goldman Sachs reiterated its 'buy' call on the Reit, favouring its strong organic growth and 'leadership among office Reits'.