Setting values amid uncertainty

With the US election now over, we are faced with a further set of highly uncertain variables over which we have little or no control. I attended a meeting recently at which an industry sage commented, while discussing the UK investment market, that we have manoeuvred ourselves into the unenviable position of creating our own uncertainty. He elaborated by identifying a broad sector of the industry as endeavouring to analyse its activity on the basis of homogeneity and liquidity, whereas the traded goods in the market remain both illiquid and heterogeneous. This presents significant dilemmas to those in the investment sector when we enter periods of uncertainty. The fund manager, for example, once investment strategy and asset allocation have been formulated, will face the problem of valuation fluctuations as certainty levels fall, market volatility increases and valuers become more cautious. Added to this are the current issues relating to liquidity requirements: how much ready cash should be available to a fund to satisfy the demand from investors or regulators for liquidity? The investor, on the other hand, while possibly comforted by high levels of liquidity, might be reluctant to pay for a fund manager to hold as much as a third of its assets in cash, rather than in the stated medium of bricks and mortar. The management fees for holding cash may well outstrip the available returns. While cash represents the most liquid of assets, large units of real estate are at the other end of the scale. The mechanism for pricing those assets is enshrined in a series of assumptions made with varying degrees of certainty by a market valuer who is charged with providing a single valuation figure at a moment in time. This opinion is derived from transactions of comparable properties, viewed with an experienced eye, accompanied by a range of caveats as to the levels of certainty applicable to the assumptions behind that figure. In the prime market, where assets tend to be “lumpy”, valuers have had a great deal of difficulty over recent months in expressing high levels of confidence, owing to very limited transaction evidence. The attaching of “abnormal uncertainty” clauses to the valuations led – unsurprisingly – to investors becoming jittery. In contrast, the secondary market experiences a higher volume of transactions, particularly with smaller lot sizes, allowing valuers a much greater degree of confidence. Those of us in the auction world, at the coal-face, are regularly quizzed by investors and valuers keen to draw on our experience and detailed market knowledge. What always surprises me is the high volume of investors who consider an opinion of value at a moment in time as an absolute, unassailable figure, cast in stone. There is clearly further education and clarification needed. As to asset allocation, the experience over recent years has been that a number of funds have divested themselves of smaller assets, preferring to have collections of trophy buildings. Larger assets are naturally less liquid, are thus traded less frequently than smaller assets, hence the increase in the degree of valuation uncertainty. The lack of smaller, more liquid assets to sell when calls for redemptions increased compounded the problem. It may well be that a degree of reallocation into more liquid assets would be a prudent move. While the market for larger assets is relatively rarefied, the auction market presents a rich seam for buyers and sellers. Access to a pool of capable, informed and cash-rich buyers is available to sellers at the click of a mouse, while buyers can select from a catalogue of assets ranging from the low-yield, highly secure ground rent to the multi-million-pound, multi-let, value-add asset, all of which can be transacted – from marketing start to exchange – within a four-week period. Allsop has sold almost £500m of commercial property so far this year through the auction room, and the fall of the hammer still provides the best available evidence of certainty. Duncan Moir is partner at Allsop