Last year in light of the Brexit vote we saw major problems with open-ended property funds many of which were forced to suspend trading due to liquidity issues. We saw an unprecedented number of redemptions which placed major pressure on the property funds in question. Those which managed to avoid suspending trading were forced into quick fire property sales which brought into question whether true market values were being obtained. One year on and markets are back to normal but the Bank of England is just one of many bodies concerned about the structure of open-ended property funds.
Protecting liquidity of property funds
In some ways it is unfair to suggest that last year’s run on redemptions was anything but a once-in-a-lifetime occurrence but it did highlight weaknesses in the structure of open-ended property funds. Quite simply funds were left dangerously short of liquid assets and unable to fulfil redemption requests in the short term. It was sensible, if somewhat controversial; to suspend trading for those funds having difficulties otherwise the fire sale of assets would have been much worse.
Once the funds reopened for trading there were a number of redemptions to fulfil but in reality much of the panic selling was over and the property markets had started to return to some kind of normality.
Holding more liquid assets
It seems almost inevitable that we will see an increase in cash and near cash assets to be held by open-ended property funds in the future. This will give them something of a buffer in times of large redemptions but unfortunately the greater the cash holding the more impact on fund performance. Let’s not forget that these funds are based around property assets, which should be deemed long-term investments and can often take some time to sell even after a price has been agreed.
Unfortunately, the greater the cash holding the greater the drag on fund performances, which is obviously the main barometer by which success and failure is measured. The extremely low level of interest rates at moment also adds to the issue and with inflation creeping higher over recent months there is a danger that the value of cash holdings could fall in real terms.
Planning for the future
The open-ended property fund sector is a multibillion pound industry and one which has proven to be popular with both professional and private investors. While many critics highlighted the liquidity issues of last year the fact remains that property in itself is a fairly illiquid asset. Regulators have been looking at the issue and while changes have been made we can probably expect more in the future.
This is something of a quandary for the regulators because open-ended property funds are an integral part of real estate exposure for many investors. They offer the ability to invest relatively small amounts of money to gain diversification which would otherwise be impossible to achieve with the funds in question. There is no simple answer to this quandary although it will be interesting to see what the relevant parties put forward.