Heading for Brexit without a safety net

COMMENT What have fund managers of daily traded, open-ended property funds done to safeguard against mass redemptions following on from the chaos that ensued after the EU referendum in the summer of 2016? Bar a few tweaks and gestures, the answer is close to nothing. For those needing a refresher, in the weeks after the vote some of the largest UK real estate vehicles built for retail investors, and managed by the likes of Aberdeen Standard Investments, Aviva, Legal & General, Kames, M&G and Janus Henderson, had to stop investors taking their cash out, sell assets or implement drastic “fair value adjustments” to investors’ holdings. The vehicles are designed to allow daily trading and flexibility to exit, but at a price based on backward-looking quarterly valuations. With the Brexit vote being such a monumental event, it was clear that a fall in pricing was likely on the next revaluation and investors moved accordingly and in anticipation. The majority of the property industry seems to be assuming, or hoping, that a no-deal Brexit and the shockwaves that would come with it will not happen. But what if it does? It is surely no less likely than the result of the first vote or Donald Trump being elected US president. Would the funds be in a better shape this time around? In April 2017 the Association of Real Estate Funds published the independent report it commissioned from former PwC partner John Forbes, which recommended more complex structures to be introduced to reflect the illiquidity of the underlying real estate assets. Bold moves are yet to be taken, however. Fund managers have aimed to improve their portfolios to focus on more liquid assets and some have put in place revolving debt facilities. Most of all they point to the more conservative levels of cash they are retaining in their funds as a safeguard, meaning they are able to dish out more redemptions before being forced to sell properties. Of course, holding more cash creates a larger buffer than before, but just leaving money in the bank is also a major drag on returns and a rather crude and unimaginative measure. Lack of urgency Behind closed doors, managers will point to the lack of urgency and guidance from the regulator, the FCA, which ironically has been distracted by the impact of the Brexit vote elsewhere. A consultation discussion paper was finally issued in October last year with a deadline for responses of 25 January. Since then, silence. The chance of any regulatory change being put in place before 29 March is nil. While the failure of the FCA to have something in place prior to 29 March is shameful, should the managers themselves not have made a bold and unified statement to the market and taken voluntary measures? There would have been umpteen ways of addressing the issue: through introducing more structured redemption queues, requiring investors to give more notice for redemptions, limiting the percentage investors could take out in one go, or ditching holding REIT stocks altogether as a fundamentally flawed way of providing liquidity. Turkeys voting for Christmas Proactively putting measures in place might be seen as turkeys voting for Christmas and making open-ended funds appear less attractive, but retail investors’ confidence in these vehicles surely cannot last forever and more negative headlines across the personal finance pages would be damaging for the industry as a whole. Fund managers need look no further than Germany to see how drastically things can change when a regulator does get stuck in. After the financial crisis, the powers that be were so fed up with the country’s open-ended real estate funds that they ended up forcing 18 of them, with €33bn of assets, into liquidation, creating the near oligopoly that now remains. If a no-deal Brexit does occur, you can be pretty sure that there will be a surge of redemptions, leading to forced sales of assets at reduced pricing to savvy, cash-rich vultures. Again. It is a sad and sorry scenario that nothing has been done to deal with the inherent problems that surround daily-traded open-ended funds since the Brexit vote. Implementing real change over the next few weeks is as good as impossible, so managers will simply have to keep their fingers crossed that Theresa May seals the deal. To send feedback, e-mail david.hatcher@egi.co.uk or tweet @hatcherdavid or @estatesgazette