Perpetual bonds bad for you and me

Why is perpetual bonds good for issuers and bad for you and me?  You can read more about perpetual bonds at this URL...

In general, when you buy perpetual bonds, you are buying something similar to "shares", but yet without the liquidity in trading these perpetual bonds like shares, and the perpetual bonds are yet treated like shares by Monetary Authority of Singapore (MAS) and companies can issue as many units of perpetual bonds as they like without making their balance sheet appears too much in debt (when in fact they would have if they have treated perpetual bonds as debts just like the other "bonds"!).

Also, perpetual bonds are the lowest ranking among all bonds, and the coupons payments are not guaranteed and issuers can choose not to pay the coupons, and these coupon payments are not cumulative. 

So in summary, when you buy perpetual bonds, you are buying something like shares, yet without the liquidity of trading it like shares (you may never be able to sell them at a reasonable price!), and without the opportunity to participate in price appreciation like shares. 

Similarly, when you buy perpetual bonds, you are buying something like bonds, yet without all the benefits that come with real bonds!  

So, you are better off buying shares or bonds if you prefer the former or the latter, but don't buy perpetual bonds! 
  
------------------------------------------  
Property Nuggets: A closer look at perpetuals

What’s New
• Mapletree Logistics Trust (MLT) is the first S-REIT to issue perpetual securities (perpetuals), raising S$350m at an interest rate of 5.375%.

• Our view is that this form of fund raising is generally positive for REITs if used to finance accretive acquisitions, but would be expensive to replace debt.

• We anticipate that this may be the beginning of more such issuance to come and highlight some of the implications for REITs.

Essentials
• Avoiding additional leverage. The Monetary Authority of Singapore’s (MAS) guidelines allow REITs to account for perpetuals as equity, as opposed to debt, thus reducing aggregate leverage when used to finance acquisitions. However, credit rating agencies do treat these hybrid securities as 50% debt/ 50% equity in calculating leverage, and excessive levels of perpetuals would trigger a credit downgrade.

• More competitive than equity fund-raising. Given that the cost of debt for REITs ranges from 2-4%, 5-5.5% perpetuals would be an expensive replacement for debt. However, when matched against the cost of equity at between 6-9% for REITs, perpetuals can be a viable alternative to raising equity.

• Essential to acquire properties with funds raised. Due to their costs, REIT managers should only issue perpetuals to fund acquisitions, and our view is that the issuance of perpetuals is a market signal that sizeable acquisitions are forthcoming. REIT managers would likely take care to closely match the timing of acquisitions and the issuance of perpetuals due to their high holding costs.

• Higher likelihood of being used by industrial and hospitality REITs due to higher acquisition NPI yields for industrial (6.5-8.5%) and hospitality (6-6.5%) properties compared against lower NPI yields for office (3.5-4.5%) and retail (5- 6%) properties. This would enable acquisitions financed through the perpetuals to be DPU-accretive to ordinary unitholders. Perpetuals could also be used to fund overseas acquisitions, especially in countries where the cost of debt is high, such as Australia, although this exposes the REIT to exchange rate risk.

• Risk is in fixed payments and higher priority vs ordinary unitholders. The main risk for REITs is in the fixed payout for the perpetuals, which would not change due to shifts in occupancies or rentals. Holders of perpetuals would also rank higher in priority than ordinary unitholders, but would not enjoy potential dividend growth in the longer term.

Action
• Larger REITs with higher exposure to the industrial and hospitality sectors are likely to issue perpetuals to fund yield-accretive acquisitions. Top picks include Ascott Residence Trust, MLT and Mapletree Industrial Trust.
------------------------------------------