It was reported in
recent days that at least three large institutional property funds had marked
down the unit prices of their property funds by between 5-8% as a result of
investors seeking to exit the funds. It appears that there were a small number
of larger unitholders involved in this move.
The important point
to note here of course is that there has not necessarily been any change in the
underlying value of the property assets. This is simply a standard response
pursued by these open-ended funds as a mechanism to discourage unitholders from
selling out of the funds.
However, it does point up the liquidity conundrum faced by such open-ended
property funds. By its nature, property is illiquid and it can take many months
to dispose of a property asset. Any attempt at a quick disposal is likely to
result in a significant markdown of the value of that asset. This reality is of
course in direct conflict with the fact that these funds are marketed as having
daily liquidity.
The managers of these funds deal with this conflict in a number of ways. In the
first instance, they are obliged to hold significant levels of liquidity (cash)
to cater for unitholders seeking to sell out of the fund. And the drawback
about high liquidity is that it acts as a drag on the fund performance when
markets are rising. Secondly, as they have just demonstrated, they mark down
the unit price significantly when selling pressure from unitholders rises above
a certain threshold. Thirdly, if selling pressure worsens they have the ability
to ‘gate’ the fund i.e. close down all dealing for a period so that they can
dispose of assets in an orderly manner in order to rebuild the fund’s
liquidity. A number of the Irish insurance company funds have announced that
they are currently applying these measures.
So What Should Investors do Now?
The important point to focus on is what is happening in the underlying market for Irish property assets. While it seems to us that the Irish market is not far off a maturity point we consider it far more likely that values will plateau for a period rather than fall. In addition, rental income into these funds should remain strong, which should allow fund prices to continue to rise. So for investors who plan to hold for the long term, there is probably nothing fundamental to worry about and we would certainly not encourage any precipitous action.
On the other hand, these recent events do bring into sharp relief the additional liquidity risk carried by these open-ended funds. At Harvest, we are fond of our liquidity in the case of all asset classes and when it comes to property, our preference is for closed-ended funds with stock market listings such as Real Estate Investment Trusts (REITs) or else funds of REITs with unshackled liquidity. Our positive disposition towards property as a long term asset class was one of the reasons we developed the Liquid Property Strategy comprised of three funds of a closed ended nature which still offer daily liquidity and which are not affected directly by events such as those described above. For most investors, we feel this offers a better option than that offered by the open-ended funds.
If you have any queries, please contact your Private Client Advisor in Harvest Financial Services or call us on 01 2375500.
Terry Devitt
Investment Director – What is Happening with Property Funds?
