Is it time to admit open-ended property funds are a square peg in a round hole?

Added 31st May 2016

The current trend of switching to bid pricing is a quick fix that may not provide the best protection for property investors, says Richard Philbin, CIO at Wellian Investment Solutions.

Is it time to admit open-ended property funds are a square peg in a round hole?

Shifting the pricing structure of property funds to a bid basis (as asset managers like M&G, Henderson and Standard Life have done) is not the only course of action one can or should use to counteract increased illiquidity, a lack of inflows and pre-Referendum anxieties, said Philbin.

Not only do property funds which employ the bid pricing strategy run the risk of disrupting inflows and hurting investor confidence, said Philbin, they also end up injuring loyal investors in the short-term.

“Those who are panicking and getting out of the fund are getting exactly the same price as those who are staying in, and I think that’s wrong,” he remarked. The NAV of the funds hasn’t gone down by 5%, yet loyal long-term investors are still being hurt by the actions of the few.”

Instead, Wellian and Philbin endorse a “system whereby the fund remains at its natural price and anyone who redeems would receive the bid price.” That way, “only those who are redeeming get hurt.”

In light of the recent difficulties faced by asset managers in the property sector, Philbin argued that the industry needs to have a serious think about whether the asset class is well-suited to open-ended vehicles.

“The vehicle is at odds with the asset class,” said Philbin. “Property cannot be tangibly bought or sold in a day, yet the existing structure in which the asset is held is daily traded.”

"On that basis," Wellian and Philbin "believe a monthly or quarterly price point would be better" and a more productive way of valuing property assets in open-ended vehicles. 

However, maybe it's finally time for the industry to admit this is a case of trying to fit a square peg in a round hole and “stop treating property as an asset which is 100% liquid when it isn’t,” Philbin said. 

“A bricks and mortar fund might find itself better placed in a permanent capital vehicle such as an investment company where the manager has a fixed pot of money to invest. Then if there should be a run on the fund - either in or out, the discount/premium mechanism would kick in but the NAV wouldn’t be impacted,” said Philbin.

Where do we go from here?

In the short-term, Philbin advises "property investors must adopt alternative strategies following mass pricing shift.”

“Investors in property funds who haven’t yet seen their price move to a bid basis could sell their funds and buy one of the five previously mentioned,” he suggested. “This would allow them to maintain exposure to property with an immediate 5% uplift when the market ‘normalises’ again and moves back to offer pricing.”  

Property investors who adopt a longer-term view need not resort to such drastic tactics, particularly if fund managers decide to offer a discount to NAV in the coming months, which Philbin believes isn’t out of the question.

At the end of the day, "it is important to remember that the complexity of property makes it a longer-term investment and it should be treated as such,” Philbin stressed. “When fund groups take this sort of action, it is always worth reading between the lines and getting to grips with the small print before making any kind of formative decision."

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The good value and the bad...

Your asset is only worth what you can sell it for. Your double pricing system's only impact is to unethically advertise an excess value on peoples investments - much like a mid price.. can of worms.. However, I agree that jumping to a bid price has its flaws though but the likelihood is that it stops investors jumping ship when the alternate outcome is to receive nothing at all and become completely illiquid. The biggest problem for property is the lack of a good quality market, i.e. a lack of quantitative valuation metrics which are available to all market participants.

Posted by: Chris, 01 Jun 2016

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