Jake's View

Let’s get it right, the SFC is not behind demise of reits

There are plenty of good reasons to restrain the ambitions of this costly, power hungry regulator. Don’t invoke the bad ones

PUBLISHED : Saturday, 30 July, 2016, 11:43pm
UPDATED : Sunday, 31 July, 2016, 12:39am

Chamber of Hong Kong Listed Companies vice-chairman Lo Ka-shui last Thursday said he strongly opposed the proposed listing reforms on the basis that it gives too much power to the Securities and Futures Commission and could move Hong Kong “backwards”. “Look at the real estate investment trust market which is solely regulated by the SFC. It is dead. Governance rules will become overly tight,” Lo said.

Business, July 27

I am all for putting a halt to the SFC’s empire-building. These quasi-police agencies that write their own rules are a threat to our civil liberties.

But the generally poor performance of our listed real estate investment trusts in recent years cannot really be attributed to the SFC and Mr Lo should perhaps be more circumspect about using this argument, given that he is chairman of Champion Reit, one of our biggest.

Let’s go to the basics. Reits are securitised property trusts that pay out 90 per cent or more of their earnings as dividends. They are an American invention and admirably suited to investment circumstances in the United States. They are not always as well suited to Asia and particularly not to Hong Kong, where we have some big differences from the US.

The first of these is that although American investors have plenty of opportunity to buy their own homes, they traditionally have had little scope for investing in property through the stock market.

The big commercial buildings are largely owned by financial concerns, mostly insurance companies, and there are few listed property investment companies. Developers also tend to be smaller as the residential sector is largely composed of stand-alone houses rather than apartment blocks.

In Hong Kong things are the other way round. Insurance companies never got a lock on commercial property and the financial resources needed for high-rise buildings require big developers and an active financial market. This is particularly so because of the peculiarities of our leasehold system of property ownership.

Hong Kong investors have thus always had a surfeit of choice in listed property companies where American investors have had a famine.

But there is another and more significant reason for the success of reits in the US. They are excused profits taxes on that 90 per cent or more of their profits which they pay out as dividends. This goes a long way to explaining their success.

It goes nowhere in Hong Kong, however. Our reits are subject to normal corporate profits taxes.

So why do we bother with reits at all?

Don’t ask me why. The closest I ever came to fathoming it was that Singapore was doing reits and therefore we would have to do so, too, which is irrefutable logic.

But several developers saw their opportunity. Package up a line of second-rate buildings led by a glossy office block, wrap it all in pink paper and ribbons and offer it at a 20 per cent premium over what the public would otherwise pay.

It succeeded, worked very well at first, and then cold reality had inevitably to set in at some point. The only real distinction of these reits was a high dividend payout ratio.

But why should this be so wonderful? If you like a property company then best keep the profits at work in the company rather than take them out as dividends. If you don’t like property companies then why hold the investment at all?

The only real success among them was the Link Reit and this only because its properties were woefully undervalued in the initial listing. Most other reits were overvalued.

Investment fashion here has now passed reits by for peer-to-peer websites and other ideas composed of even thinner air. I see no reason to lament. But I also cannot blame the SFC for the demise of reits.

There are plenty of good reasons to restrain the ambitions of this costly, power hungry regulator. Let’s not invoke bad ones.