Open-ended property funds hit sellers in the pocket amid Brexit concerns

BMO UK Property has become the latest open-ended property fund to switch its pricing, handing investors a 6.4% loss.

BMO UK Property has become the latest open-ended property fund to switch its pricing, as fears over a no-deal Brexit intensify.

The open-ended fund joins several others that made similar moves earlier this year, including property funds run by Kames Capital and Columbia Threadneedle. Such pricing adjustments are essentially a markdown on the value of the underlying properties in the fund, penalising investors who cash in their holdings.

In the case of BMO UK Property, it has (in the jargon) switched its fund pricing from offer to bid, leaving investors who sell the fund with an instant loss of approximately 6.4%.

In a statement to investors, Guy Glover, fund manager of BMO UK Property, explains the price of the fund’s underlying holdings can be ‘swung’ to offer or to bid to reflect whether the fund is buying or selling assets.

Glover adds that year-to-date, the fund has been priced on an “offer” basis, a reflection that investor withdrawals were not a concern. But he notes that the situation now is that “a number of investors in the sector have looked to trim their exposure”.

He says: “More recently, with heightened uncertainty in the UK property market, in part driven by the increased risks of a ‘no-deal’ exit from the EU, a number of investors in the sector have looked to trim their exposure. As such, the fund has seen modest outflows (investor withdrawals).

“The objective of (switching from offer to bid) is to protect investors (who remain in the fund) from the potentially dilutive effects of transaction costs on an investor’s investment returns.”

He adds that the fund will move back to offer pricing when inflows (investor money) into the fund resume. This will have the positive impact for those who remain in the fund. Glover says that he wants to ensure the fund “maintains a defensive and cautious position ahead of the Brexit deadline in October”.

Open-ended commercial property funds: why investors should be wary

In March, Money Observer cautioned that investors should be wary of open-ended commercial property funds due to their structure, which means that they have to fund investor withdrawals on a daily basis, and, below, we explain why history will continue to repeat itself.

In normal market conditions, although it takes months for these funds to buy and sell the shops, offices and factories that are held in the portfolios, it is not a problem for investors to withdraw their cash on a daily basis, as a portion of the portfolio remains in cash.

But during times of heavy selling, it is a different story as the cash buffer is depleted, which in turn makes it difficult for open-ended commercial property funds to meet withdrawals on a day-to-day basis. This is because property sales are not quickly or easily arranged, particularly in times of market uncertainty. It is therefore very difficult to raise money quickly.

Therefore, in order to halt the outflows and avoid firesales of assets, which would negatively impact investors who remain, fund management firms move to temporarily restrict or bar investors from accessing their cash. The global financial crisis and the Brexit vote in June 2016 were two occasions when this occurred.

The lesson that investors should take away is that the threat of a liquidity crisis is an ongoing problem for the open-ended property sector, even though cash levels have been raised. Since the Brexit vote, funds have moved to raise cash levels from 10% to 15% previously to around the 20% mark now, but in the event of investors exiting en masse it is likely that history will repeat itself.

Another lesson that investors should heed is that investment trusts, owing to their closed-ended structure, are not under the same pressure to react defensively when investors take fright. Trusts have a fixed level of capital, so they do not need to sell the properties they own.

Instead, investors who wish to sell, simply dispose of their shares on the stockmarket, although this may be at a lower level than desired if a rush to the exit by other shareholders pushes the share price down.

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