DOI: 10.6084/m9.figshare.28517858.v1
title: LINK REIT ANALYSIS

description: By now, everybody is convinced that China is mired in a prolonged deflationary cycle similar to the 30 year deflation Japan had experienced. One possible silver lining of that scenario is that the cost of capital will stay low for a long time – indeed Chinese 10 year rate has plunged to 1.7% recently and widely expected to go below 1.5% by mid year. So it stands to reason that CNY could replace JPY as the new funding currency of the carry trade. In other words, Mrs. Wang in Shanghai is the new Mrs. Watanabe? Unlike her more aggressive husband who is a loyal customer of FUTU and loves Mag 7, Mrs. Wang prefers safety and used to park most of the cash in safe 5% yielding wealth management products in banks or Wechat/Ant wallets. Well, those days are long gone, and it is tough to find safe products yielding over 1.5%. This “dearth of investable assets” helps explain that the best performing equity group in China last 3 years is the dividend paying stocks (ironically the A share group no longer offers a high yield). <b>My thesis is that the logical asset class to benefit next is high yielding HK stocks.</b><br>Is Apple a good investment?Apple Cost of EquityApple Cost of DebtHow to Invest in OpenAIHow to Invest in SpaceXHK has been in a brutal bear market for years, and sports one of the lowest multiples in the global market. Tough macro backdrop in both HK and mainland, high interest rates with the currency peg, political uncertainty and steady asset outflows, you name it. The discount of HK market to Shanghai market keeps blowing out, even though many HK listed stocks are the same companies and have same voting share. There are even fewer natural buyers of local HK companies – foreign money is pulling away, and mainland institutions are not interested in boring HK companies. I think a large part of the discount and apathy can be explained by technical deficiencies of Mainland-HK Stock Connect program, and I am hopeful that we could see some changes in the near future to help improve asset flows and narrow the discount. I am pitching Link REIT, HK’s oldest and biggest REIT. It has an under levered balance sheet, unique/stable asset base (albeit low growth), and a safe yield of almost 9%. There are two potential technical catalysts that could help the rerating.<br>First, there is a very good chance (80%+) that Link REIT will be finally included in the Stock Connect Program in March. Last year, mainland regulators introduced an initiative to expand Stock Connect to include Hong Kong REITs. Most companies get a decent boost in stock prices/multiples once they are in the Connect Program for obvious reasons. REITs are a new concept in mainland, and most of the local REITs are much smaller in scale and inferior in quality yet yield around 5%. If any HK REIT makes the cut, it has to be Link as it is the largest and most liquid with 100% free float.<br>Secondly, I am hopeful that the 20% tax mainland investors have to pay on dividends in the Stock Connect Program will be scrapped. For background, mainland investors do not pay any dividend/capital gain tax in local A market. Yet they have to pay a 20% tax when they buy HK stocks through Connect. And if the company were a red chip company like China Mobile, investors will have to pay 28% dividend tax. IMHO, this is the single most important reason that China Mobile H trades at a 35% discount to China Mobile A. Because many of the largest companies in HK have large government ownership, the tax on government owned shares are essentially a wash, and only ones truly paying these taxes are the retail investors, aka. Mrs. Wangs. CICC estimates that the dividend tax in the Stock Connect Program is roughly 45B HKD annually. Well, market cap of China Mobile is 1600B HKD, and if scrapping the tax leads to the discount going from 35% to 15%, that’s a $200B boost to the government owned shares, and this is only one company. When you add all the banks, telcos, energy companies, etc, the number is pretty mind boggling. Frankly, I am at a loss why this tax has not been scrapped. Encouragingly, there has been persistent talk/rumor of the issue finally being addressed, including the head of HK stock exchange making the suggestion to China NPC last year and equity market becoming a priority/KPI for government officials. And just today, the head of PBOC (the person David Tepper was apparently enamored with) made a speech about “significantly boosting allocation to HK assets” out of the $3-4 trillion FX reserve from essentially 0 today.<br>As for Link REIT itself, it is a fairly stodgy/boring company with net gearing just 19.5% and 4.3x EBITDA interest coverage. 100% income is paid out in dividends. Assets are 75% HK, 15% Mainland China, 11% overseas (most in Singapore and Australia). The HK assets are 2/3 retail and 1/3 parking around those retail properties – not luxury retail, but mostly HK’s version of power centers (grocery stores) around social housing projects – Link itself was created via privatization of HK government’s real estate holdings. The upshot of the location of these assets is that they are unique and extremely stable – occupancy ratio (98%) and rental growth have largely stayed positive even in the last few years, significantly out-performing their peers. Singapore is doing quite fine obviously, and Link's mainland assets are above average, and they even managed to grow rental income last year by buying out a crown jewel asset in Shanghai from their JV partner Vanke, one of the largest home builders now in distress. My base case is for the company to grow LSD in the out years – mgmt. has a LINK 3.0 strategy, which means they want to become more asset light, stop acquiring new physical assets, and instead focus on asset management. I don't have high hope, but if mgmt can somehow deliver, all the better.<br>Nancy Pelosi Stock PortfolioNancy Pelosi Stock TradesNancy Pelosi Insider TradingIs Apple undervalued?Is Apple a buy?Stock is down 70% from the peak 5 years ago, fairly representative of a typical HK value trap. My bet is that the yield spread near historical high against US 10 year (chart below is a bit dated), and more importantly a 700bps gap vs. China 10 year is unsustainably high, as I believe the incremental buyer going forward will be Chinese institutions and retail investors. If the spread stays at current level, I collect almost 9% dividend (and a bit of growth). If yield goes to 8%/7%/6%, total return is quite interesting relative to the risk.