7 February 2019
Commercial property funds have caught the eye of the regulator again, after nervous investors withdrew £315m from the sector in December. The FCA has asked for daily updates from the funds over fears of another liquidity crunch.
- Commercial property funds saw redemptions of £315m in December
- Brexit fears are stalking the sector and could worsen on a ‘no deal’ outcome
- Have commercial property funds learned from previous experiences?
We have been here before. There were two similar months of high redemptions in the wake of the Brexit vote. Funds suspended redemptions to protect existing investors as they had been forced to do during the aftermath of the credit crisis. The FCA is clearly not going to make the same mistake twice.
The commercial property sector is in the firing line from a no-deal Brexit. Foreign buyers prop up the top end of the commercial property market and they may disappear if the UK crashes out of the European Union. At the same time, the retail sector is in a parlous state. Landlords are on the front line, potentially forced to accept unfavourable letting terms through the CVA process.
The larger funds have generally been able to build up meaningful weightings in cash and shares to meet redemptions. This can act as a drag on returns, particularly if funds are held in cash rather than shares, but it is a necessary compromise to sustain liquidity. It also means they don’t have to sell their ‘crown jewel’ assets. Funds have often been forced to sell those assets that have highest demand to meet redemptions. This can leave them with only weaker assets in their portfolio.
There are two schools of thought on this: the first is that the large commercial property funds and the regulator have learned lessons from their past experiences. They are now more adept at managing liquidity, quicker to gate redemptions at the first sign of problems and have done a good job of educating investors about the long-term nature of these assets. That is all undoubtedly true to some extent.
However, there are many who still believe that an open-ended fund with daily dealing is not the right vehicle for illiquid assets such as commercial property. Influential fund selectors such as Mark Dampier of Hargreaves Lansdown have been vocal in saying that a closed-ended structure is more appropriate. Yes, investors suffer if the funds goes to a discount, but they can always redeem.
In the meantime, commercial property values have been relatively stable. Nevertheless, there is a sense that businesses have been holding off, avoiding expensive moves in case the UK government finds a way through. If the ultimate decision is for a ‘no deal’ then that exodus may begin.