Buoyed by the strongest quarterly residential sale volumes since 3Q07 and expectations of a bottoming out in macroeconomic indicators, we are advocating an Overweight position in the property sector. While asset price deflation is within our projected correction levels, equity risk premium has moved to more normalised levels. In view of this, we retain our RNAVs but take mid-cycle RNAV discounts as a more appropriate valuation metric. We prefer residential over office given better newsflow coming from the former. We favour big-caps like City Dev (TP $7.20) and stronger developers more exposed to the residential sector like Wing Tai (TP $0.96) and Wheelock (TP $1.27). We upgrade Keppel Land (TP $2.17), Allgreen (TP $0.67) and Ho Bee (TP $0.51) to BUY.

Light at the end of the tunnel? Sentiment in the physical property market appears to have improved in anticipation of a recovery in the residential market. 1Q09 residential sale volumes came in at its highest since 3Q07 while expectations of a bottoming out in macroeconomic indicators in the next few quarters and cushioning effect of government policy measures support the argument that a clearing level may have been reached and a sustained demand-led push could materialize later this year.

Reverting RNAV discounts to mid cycle level. We are currently midway through the asset price deflation cycle with residential prices and office rents retracing c.15-30% and 20-25% from the peak, still well within our projected peak-trough correction of 20- 50% for mass to high-end residential prices and 50% decline in office rents. At this point, we see little room for RNAV upgrades as yet. However, with the shift in equity risk premium back to normalized levels, we see mid cycle RNAV discounts as a more appropriate valuation metric for a 12-month price target compared to our current trough valuation basis. We expect macro sentiment and confidence to improve going forward, even if newsflow continues to remain bleak.

Prefer residential over office. The key to a re-rating for residential developers lies in a sustained recovery in sale volumes amidst stabilising prices while that for office landlords rests more with economic fundamentals. Since office space take-up usually lags economic recovery, we prefer residential plays for now. Property stock prices tend to precede a bottoming in physical prices by 2-3 quarters. Downside risk to our view is a longer than anticipated macro recovery or if the absorption of excess supply in the residential and office segments remains patchy.