Property funds now holding more than 20 per cent in cash

Cash weightings in open-ended UK commercial property funds have risen to over 20 per cent, compared to around 10-15 per cent around six months ago, after a difficult year for the sector.

A number of property funds were forced to temporarily suspend trading for months in the wake of the UK voting to leave the European Union, while others wrote down their portfolio values in response to a slew of investor redemption requests.

As an example, Henderson UK Property went from holding around 11 per cent in cash on 30 June to almost 22 per cent today. Co-manager Ainslie McLennan says the fund's historic cash level is around 15 per cent, but when it re-opened in October the managers committed to 20 per cent plus. 'I acknowledge that in the short term it's important that we hold a bit more than we have been historically, until we understand what it means to trigger Article 50,' she explains.

PORTFOLIO RESHUFFLES

Other funds in the sector have seen a similar reshuffle in order to improve their liquidity, with the latest factsheets, to end 2016, showing Threadneedle UK Property PAIF and L&G UK Property now both have cash reserves of above 25 per cent.

The former today (23 January) made the decision to change its pricing back from the lower 'bid' value to the higher 'offer' value after experiencing a continued trend of net inflows.

'The change reflects investor recognition of the virtues and strength of property as an asset class,' says Don Jordison, managing director at Columbia Threadneedle.

In addition to offloading properties, McLennan and co-manager Marcus Langlands Pearse further improved the Henderson fund's liquidity by buying back into real estate investment trusts, having sold out prior to the referendum.

McLennan says the 100 days during which the fund was 'gated' allowed them the opportunity to 'reshape the portfolio and look at what we really wanted to hold over the next 24-36 months'. This included reducing their exposure to London-based offices, financials and Scottish developments.

Jason Hollands, managing director at Tilney Bestinvest, points out, however, that property funds had actually seen a steady pattern of outflows since the start of 2016.

Statistics from the Investment Association show that the property sector saw net outflows in every month except March in the first half of last year.

Speaking at an event in London recently, McLennan revealed that her team had begun upping their cash weighting before the referendum had taken place, as they believed a vote to remain in the EU, their expected result, would make other asset classes more compelling and lead to investors pulling money out of property funds anyway.

After the vote went the opposite way, investors rushed for the exit, putting pressure on funds' ability to meet the increased volume of redemptions as - unlike equities, most of which are easily tradeable - property sales are not quickly or easily arranged.

Three fund houses - Standard Life, Aviva and M&G - took the step of suspending trading altogether. The result of that, says McLennan, was that the funds that remained open were used as 'ATMs' for people feeling panicky about the liquidity of the property sector.

ROBUST PROPERTY SECTOR OUTLOOK

She adds, though, that 'all of that was an investor issue; it was not a property issue'. Hollands tends to agree, calling the redemptions in the immediate aftermath of the vote 'knee-jerk'.

Since the funds have re-opened, most managers have insisted they were not forced into a fire-sale, but instead oversaw an 'orderly sale of assets'. In fact, McLennan says Henderson's sale of around 30 assets, totalling £800 million, amounted to just 2 per cent under the pre-Brexit valuation.

One well-documented pre-referendum sale for Henderson was that of 440 The Strand in central London, which McLennan describes as 'an important sale for us to make', having bought it for £175 million two years ago and sold at £198 million.

The manager also offloaded Ryder Court in London at 'the optimum time', for £115 million to a Chinese developer, having bought it for £82 million in 2013. In the time the fund had owned the property, it had raised rents from £56-£65 per square foot to £105 per square foot.

Hollands adds that while there are clearly headwinds facing the City office market, there are other parts of the commercial property market where the outlook is pretty robust, given the strength of the consumer and the boon to manufacturers and exporters from the weak pound.

For those looking for exposure to the property sector, which tends to be sought-after due to the income opportunities it offers, a better way in would arguably be through a closed-ended vehicle.

Because they are traded on the London Stock Exchange, investment trusts do not need high cash weightings and can be fully invested.

'At the height of the suspensions, when listed closed-ended vehicles could be picked up on double-digit discounts, there was clearly an opportunity to scoop up quality portfolios on the cheap,' explains Hollands.

However, he cautions, 'a lot have returned to trading at premiums to net asset value, so the case is less compelling versus the open-ended funds'.

'The more attractive open-ended funds in our view are Aberdeen UK Property and Henderson UK Property, and in the closed-ended space F&C Commercial Property [currently trading on a 2.8 premium] and UK Commercial Property Trust [currently trading at a 1.3 per cent premium].'

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