TOKYO -- Falling interest rates should benefit both property development stocks and real estate investment trusts, but major Japanese property firms have seen their share prices weaken lately while REITs have held their ground.
The Nikkei Stock Average's real estate subindex has declined 12% since the end of last year, but the Tokyo Stock Exchange REIT Index has risen 6% over the same period. This divergence has grown more pronounced since the Bank of Japan adopted its negative interest rate policy in late January.
The combined market capitalization of real estate companies listed on the TSE's first section has fallen to about 12.4 trillion yen ($116 billion), reducing the gap with the total market capitalization of REITs traded on the bourse to less than 1 trillion yen.
Return yields are key
The real estate subindex and the TSE REIT Index traditionally moved in tandem. This makes sense, since the revenue structures of property firms and REITs are similar in that they both generate income by renting out property holdings.
But return yields are driving the price divergence between real estate stocks and REITs.
One London investor consulted an analyst at a foreign brokerage firm in Tokyo in April, complaining about the poor shareholder return policies of Mitsubishi Estate and other major Japanese property firms. Japanese real estate companies' dividend payout ratios are rather low, between 10% and the sub-30% range. As a result, their dividend yields also are rather dismal, at around 1%.
By contrast, REITs offer return yields of about 3%, partly because the trusts basically pay out most of their profits as dividends. For instance, Nippon Building Fund and Japan Real Estate Investment, REITs affiliated with Mitsui Fudosan and Mitsubishi Estate, respectively, offer dividend yields of roughly 2.6%.
Investment vs. returns
Though unit prices of REITs have recently been facing some pressure, they remain an attractive choice for investors seeking yields. Domestic investors as well as foreign funds, which have been selling Japanese stocks lately, have increased their REIT holdings. Data shows that foreign investors have bought a net 227.3 billion yen in Japanese REITs since the start of 2016.
With the central bank's negative interest rate policy pushing down borrowing costs further, real estate companies "can boost profits by investing in redevelopment projects and secure funds that can be used for increasing shareholder returns," an official at Mitsubishi Estate said.
But the companies' stock prices suggest that this prospect does not excite investors much today.
"It is time to re-evaluate the balance between investment and shareholder returns," Sachiko Okada at Goldman Sachs Japan suggested to Japanese real estate companies.