Income investing in Asia: Building resilience with Reits and dividends

Investors today face concerns over rising inflation and higher interest rates. This is in stark contrast to the past few decades of low interest rates and declining bond yields. 

Nevertheless, despite rising interest rates, we believe that there are still attractive opportunities in selected income strategies, particularly in Asian real estate investment trusts (Reits) and dividend-paying Asian equities where new growth drivers are emerging.

Asian Reits delivered positive returns in times of rising yields

In the last four periods when the US 10-year Treasury yield rose by more than 100 basis points (bps) (1.0%), Asian Reits still delivered positive returns, as shown in the following charts.

Performance of Asian Reits during rising rate cycles

Meanwhile, even with the US 10-year Treasury yield trending above 2%, the yields from Asian Reits are still more attractive, as seen from the chart below. Compared to US Reits, Asian Reits are more attractively valued and have lower gearing. Total debt to asset ratio for Singapore, Australia, and Hong Kong Reits average 37.5%, 24.9%, and 26.0% respectively versus 45.5% for the US.

Hong Kong and Singapore Reits offer attractive yields

Although the dynamics for Asian real estate have changed due to the pandemic, there are still exciting growth segments to invest in. 

Changes in the usage of retail and office space are giving these segments new leases of life. In addition, as countries reopen borders and ease their safe-distancing measures, hotels and malls are likely to benefit.

As work norms evolve, the pros and cons of working from home may differ in Asia versus the developed economies, given the region’s smaller homes and shorter commuting distances. Nevertheless, some companies in Asia have moved to a permanent hybrid model as more tasks become digitally enabled. With employees having the flexibility to work away from the office, the demand for co-working spaces has risen.

At the same time, during the pandemic we saw rising demand for new or additional office space from new-economy sectors. 

For example, in 2020, it was announced that Chinese internet company Tencent picked Singapore as its Asian hub, and TikTok owner Bytedance planned to expand its office space in Singapore’s central business district in 2021. 

Meanwhile, within Asia, Singapore remained a key market for acquisitions with Alibaba’s purchase of a 50% stake of the AXA Tower in 2020 and Allianz Real Estate’s acquisition of a 50% stake of OUE Bayfront in 2021. Investment firm KKR has also identified Singapore as one of the core markets for its US$1.7 billion fund which targets real estate investments in the Asia Pacific.

Meanwhile, the rising adoption of cloud-based services is driving the construction of hyperscale data centres in Asia. The data-centre market in Southeast Asia is expected to grow at a compounded average growth rate of 6% from 2019 to 2025, with Singapore having the greatest potential, followed by Indonesia, Malaysia, Thailand, and Vietnam.

Across Asia, demand for technology parks is also surging, in part driven by government policies seeking to leverage on innovation to drive economic growth. In India, new technology parks are being positioned to be production hubs aimed at both domestic and international markets. In China, demand for technology parks is rising amid the government’s push for greater technological self-reliance.

Green buildings, which reduce the negative impact on the environment because of their design and construction, will also increasingly come into focus amid rising demand from sustainability-focused tenants. The demand for sustainable buildings in Asia Pacific currently exceeds supply, allowing landlords to charge a premium of 10% above prevailing rents.

The diversity within Asia’s Reit markets means that active managers can leverage on the unique characteristics of the different segments and their cyclical dynamics to increase portfolio yield.

Asian dividends have been a big driver of returns

Dividends can be another building block in an income portfolio. Historically, dividends are a relatively stable source of income due to their information content. Companies often prefer to keep dividends steady as a dividend cut could signal earnings or cash-flow problems.

Evidence from both developed-market and emerging-market equities shows that earnings have historically increased in the year of dividend initiation as well as in the following years. The initiation of a regular cash dividend has also been accompanied by capital gains.

In the last 20 years (from 2001 to 2021), dividend returns in Asia have beaten those from the US and are comparable to those from Europe, as this bar graph shows.

Average annual total and dividend return (%) — December 2001 to December 2021

Asian dividend-yielding equities also have a low correlation to Asian and global bonds — a plus for investors seeking to build a diversified portfolio of income-producing assets. This is shown in the following table.

Asian dividend stocks have low correlations with global and Asian bonds

While the MSCI Asia Pacific ex Japan Index has a dividend yield of 2.55%, investors can achieve a higher-than-benchmark yield through careful active selection. 

Asia appears well suited for a high dividend strategy. The number of stocks in Asia Pacific ex-Japan that have dividend yields above 3% is almost twice that of Europe, and more than triple that of the US, as seen from the bar graph below.

Number of companies with dividend yields above 3%, by region

In selecting dividend-paying equities, investors should assess that companies have sensible capital management policies that are appropriate to the stage of their business cycle and development. This increases the sustainability of their dividend payouts. 

While we like steady yielders — companies that make high and steady payouts from recurrent income — we are also on the lookout for companies that have the potential to grow their dividends. 

In addition, a company’s dividend yield may at times be elevated as its share price is unjustifiably low. In such a scenario, investors not only enjoy an attractive yield but also the potential for capital gains when valuation normalises. 

That said, investors need to be wary of value traps. More experienced investors can also take advantage of opportunistic dividend payouts that occur when a company monetises selected assets.

Dividends fell significantly in early 2020 due to the unprecedented nature of the Covid-19 outbreak, but have recovered since. Dividend per share (DPS) growth was positive in 2021, led by Asia Pacific ex-Japan and developed Europe. In 2022, dividends in Asia Pacific ex-Japan are expected to grow by 4.6%. 

At the point of writing (13 April 2022), we favour the energy and real estate sectors as they are natural hedges against inflation. We also like the more defensive but still high-dividend paying utilities and telecoms sectors.

Seek income from multiple sources

Against an uncertain global economic outlook, having a stable income stream is an attractive proposition for investors. 

We believe that investors should seek income from multiple sources, and there are compelling opportunities within Asian Reits and Asian dividends. 

Asian Reits can benefit from the exciting growth opportunities found in data centres, technology parks, green buildings, as well as the reopening boost enjoyed by malls and hotels. 

Meanwhile, Asia appears well-placed in an income portfolio given its large universe of high dividend paying equities versus other regions.

Read more: Value investing in Asia: A multi-year opportunity

This article was originally published by Eastspring in April 2022. It is part of a series of eight articles examining the different investment strategies investors can adopt to tap on the opportunities that are emerging in Asia.

‍‍Eastspring Investments, part of Prudential plc, is a global asset manager with Asia at its core. Eastspring is supported by 300+ investment professionals across 11 major Asian markets and distribution offices in North America and Europe, with a total of US$222 billion assets under management (as of 30 June 2022) on behalf of institutional and individual investors globally.

Endowus has three funds from Eastspring (as of 19 Oct 2022), including the Asia Sustainable Bond Fund and the Singapore Select Bond Fund.

‍Get started building your own portfolio with these funds on the Endowus Fund Smart platform.

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