Ascott Residence Trust - Time for a little patience

Lower credit 'tail risk' has boosted unit price. Since we re-initiated coverage in April 2009, Ascott Residence Trust (ART) has seen a 41% increase in its unit price on the back of, we believe, lower risk of a systemic credit breakdown. World governments have 1) committed to maintaining the viability of credit institutions and 2) also introduced fiscal stimulus packages. According to The Economist, fiscal packages in Asia are much larger than elsewhere (relative to GDP). China, Japan, Singapore, South Korea, Taiwan and Malaysia have all announced fiscal packages of more than 4% of GDP. Fiscal spending in the US, in contrast, is equivalent to about 2% of GDP.

Private sector keeps wallet shut. This economic stimulus has yet to translate into private spending. In China for instance, foreign direct investment fell for the eighth month in a row from a year ago. Investment fell 17.8% YoY in May to US$6.4b after falling 22.5% in April. FDI data is a reasonable proxy for the extended stay business. The green shoots getting heavy media coverage have yet to translate into 'real' business decisions in our view. Companies are still wary about committing to aggressive growth expansions. We think this is especially true of the financial sector, which has traditionally paid top-dollar for extended-stay accommodations.

Don't expect a 2Q miracle. In line with this view, we expect 2Q results to be largely unchanged versus 1Q09. We estimate that 2Q distributable income would fall 10-20% YoY but marginally improve on a QoQ basis. We understand that Singapore occupancies have stabilized but rates have come down - this could imply further RevPAU weakness in 2Q09. Performance in other major markets is stable to slightly negative.

Time for a little patience. As such, the jury is still out on corporate spending and travel. We do not believe there is enough justification to upgrade earnings forecasts. Our investment thesis stands: we see near- term yield volatility but believe ART's long-term prospects are sound. ART is only trading at 0.44x book but we do not think current levels provide the best entry point for investors, in view of the near-term fluctuations in yield and RevPAU. We advocate patience for now and downgrade our rating for ART to HOLD. Our S$0.82 SOTP value incorporates our assumption of an equity issue of S$160m at the S$0.55 price level (up from S$0.45). Our fair value estimate for ART is S$0.61 (S$0.57 previously), at a 25% discount to our SOTP value.

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