Property , liquidity and the merit of doing nothing

aviva 3

News that Standard Life , M&G (the Pru) and Aviva have put up the shutters on their property funds is dominating the headlines. We are used to being able to move our money around the market with “impunity”.

I put that “impunity” word in there , because the word is little understood and often misused. It means “without punishment” and if a property fund investor can sell units in a property fund without punishment, it is because of “liquidity”. Liquidity being created either by someone wanting to buy those units or by their being cash in the fund which can be drawn on to meet the demand for a cash pay-out.

What is happening now is that there are not as many buyers and sellers and there is insufficient cash in the fund to meet expected future pay-outs. Rather than sell properties, which is expensive and takes time, the three property fund managers have decided it’s time for a lock-in.

There is nothing wrong with this, there is nothing unusual about this, it should not be headline news- there should be no panic – no run on property and this should be reported responsibly. Let’s hope that people keep calm.

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Property

Philosophically, any investment confers property rights on the investor. In practice, most of us haven’t a clue what we own when we write a cheque in favour of a fund manager (did I really say “write a cheque”, that too is an archaic formulation designed to create physicality).

We do not know what we own and have no connection with the profits generated by our investments, we simply see statements telling us of our wealth.

The attraction of property is the tangibility of the investment. One commentator on Radio 5 this morning said that retail property investors are “emotional”, meaning- I think- that they buy and sell with their hearts. I think another word is “engaged”.

Engaged investors want to be in or out of an investment based on fear and greed, in times of greed they fear not being invested, in times of fear, they are greedy for the safety of cash, either way – engaged investors tend to be driven by emotion and they engage with their property rights (to buy and to sell).

It is this small group of engaged investors (and their advisors) who are creating the demand to sell property. I don’t have the numbers, but I suspect that the majority of selling is being done by the discretionary fund managers (DFMs) who buy and sell on behalf of their wealthy clients and use property funds as a form of diversification.

aviva investors


Liquidity

in times of fear, people get greedy for cash (except for Paul Lewis who is always greedy for cash). Now is a time of fear and some DFMs are trying to get liquid rather than holding property. This is odd, as the reason you diversify beyond debt and equities is to create a non-correlated source of return (property often rises when shares fall and vice versa).

I suspect that the reason for people seeking liquidity is that they are trying to beat the market by timing the withdrawal from “property” ahead of what is supposed to be a property crash. This flight to liquidity is exactly the opposite of what long-term investors are taught to do (see Warren Buffet/Terry Smith etc.).

This kind of herd like behaviour is precisely how people (or animals) get trampled on. It is why institutional investors sit on their hands and wait for the panic to subside.

Because when people get greedy for liquidity, the price to “get out” jumps. The cost of liquidity is seen in huge spreads between the buy and sell price. These spreads are no longer published, they are built into the unit price and materialise in your getting less for your unit sale than you imagined.

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the way we were

 


The value of doing nothing

There is currently great value in doing nothing, sitting on your hands, remaining calm. This is exactly because our emotions – our intuition – our sentimental side- says “get out”.

But the shopping centre in which your property fund invests isn’t going to stop collecting rents, the warehouse isn’t going to stop storing goods and that office block isn’t going to say goodbye to its tenants. Demand for retail/office/warehouse space may dip and prices may fall back, but the likes of Aviva, M&G and Standard Life aren’t investing in houses made out of straw, the big bad Brexit wolf isn’t going to blow these houses down.

The reason people should invest in property funds is because of the underlying value of property as a means of generating commercial or residential space which is useful for people to work or live in. That value remains – all that impacts short term volatility in the unit price is demand for work or living space.

The great advantage property funds have , is that people can envisage what it is the property fund invests in (even when the actual investment may no more than a derivative!). People know what they are buying into.

People have less ease understanding the purchase of an equity and even less understanding of how to value a bond. I wish that those who act as advisors to retail investors would be clearer about how investments work and about property rights. Too many wealthy people I talk to, tell me of their wealth managers capacity to “hedge”, diversify” and “leverage”. Too few can tell me where their wealth is invested.

I suspect if we knew where our money was, we would be more inclined to leave it there, for that is what investors, investees and the country needs. We need to understand the value of doing nothing.

Postscript;

Since this article was written, a number of other funds have been suspended including Columbia Threadneedle’s, Aberdeen’s and Hendersons’s.

One fund that hasn’t been suspended is LGIM’s. Here is what L&G has to say

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Good Afternoon,

In light of recent news, we would like to take this opportunity to convey to our investors that the UK Property Fund remains well positioned in terms of liquidity and asset management initiatives.

Currently the Fund retains over 20% of its NAV in liquid assets – the majority of which is held in cash. In addition to this, the Fund has a pipeline of sales initiatives which will increase its cash position if needed and has a well-diversified investor base.

The UK Property Fund is managed by a very experienced team and continues to receive strong support from rating agencies and advisers alike.   We would like to invite you to join us for a webinar on Friday, 8 July from 9:30am when Matt Jarvis, Senior Fund Manager of the UK Property Fund will cover the following:

  • The current positioning of the UK Property Fund.
  • The Fund’s allocation to liquid assets.
  • Fair Value Pricing and why it is necessary.
  • Some recent examples of ongoing asset management initiatives within the portfolio.

 

 

 

 

About henry tapper

Founder of the Pension PlayPen, Director of First Actuarial, partner of Stella, father of Olly . I am the Pension Plowman
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5 Responses to Property , liquidity and the merit of doing nothing

  1. George Kirrin says:

    Some of these property funds might help themselves by paying out net rents as investment income.

    The managers are always able to find sufficient liquidity to pay their own fees and other operating costs. My sympathy is with investors who see their investment cash flows as being one-way, all in, nothing out.

    Property funds could also add some liquidity by arranging an overdraft facility early in better times, at sensible borrowing costs.

  2. Mark Meldon says:

    Excellent piece; thank you. I, for one, have never really understood why anyone would prefer an open-ended fund for “exposure” to the commercial property asset class, which, by its very nature is highly cyclical. Whilst several of my clients do have a small exposure to this asset class, this is through closed-end funds, such as investment trusts. Sure, discounts have certainly widened over recent days and then there is the small matter of “gearing”, but no manager running such a trust should find themselves as forced sellers or particularly short of liquidity.

    We have been here before, several times, but I suspect that you are right in that DFM’s are/have been selling (I know of one, at least) and most of these investments are held through personal pensions and investment bonds rather than via ISA’s, for example.

    A small exposure to property as part of an overall portfolio is fine, although I do point out to clients that most of them already have quite enough exposure to property because they own a house!

  3. henry tapper says:

    Thanks Mark and George; I suspect that those who manage the cash flows of these funds know exactly what they are doing! George – the customer always comes first – after everyone else!

  4. DaveC says:

    Thanks for sharing another interesting post Henry.

    Given most people don’t even understand bonds or equities, so invest in property, apparently also derivatives on property… I don’t hold much hope for these people getting good outcomes.

    I think many investors have become more active because they’re disenfranchised with the system.

    As with politics, an entire swathe of the UK population has seen near zero growth in almost everything except property for almost a decade.
    Low interest rates and QE, among other stimulus, have only enriched the few, while coming at great cost to millions.

    You could argue that the herd and greed mentality that has pushed property prices ever higher, sustained by some other forcings like cheap debt, foreign investment and protectionist building policy, has resulted in the same herd mentality that would cause it to crash.

    In 2007 we said we privatised the profit and socialised the debt.

    We now see keynesian economics protect our wealth in bear markets, but free market economics reign supreme in unsustainable bull markets.

    I’m surprised that Standard Life didn’t stop people buying when the prices were rising too quickly.

    The layman are allowed to pile into the funds with glee during and ultimately causing the bull market, but locked in at the top for the bear market!

    How is the layman meant to trust a system like this?

  5. Phil Castle says:

    So well written Henry I wonder if I could quote your article to my clients please?

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