When investments in property go shockingly bad
By Malcolm Wheatley - Saturday, 16 July, 2016
What’s best: property, shares, or cash? Ordinary investors often mull such questions.
Seven years of interest rates at a historic low of 0.5% (and likely to go down further still, as early as this week) have put paid to the ‘cash’ option. But a lot of people still put their faith in property rather than the stock market.
And for many thousands of those people, the events of last week will have come as something of an unpleasant shock.
Quite simply, if there’s one thing worse than an investment that’s collapsed in value, it’s an investment that’s collapsed in value – and you still can’t get your hands on your money.
Property’s fatal flaw
In theory, of course, property has a number of attractions.
Everyone intuitively understands bricks and mortar, for instance. A house, shop or office block is an undeniably solid investment, especially for novice investors unclear about what bonds and shares actually are.
Moreover, property values and rental income are not highly correlated with the market fundamentals that drive share prices, meaning that property can be both a sensible hedge, and a means of useful diversification.
But – as I’ve said before – property does have one major drawback as an asset.
Namely, that it’s not at all liquid. Unlike a holding of shares, you can’t sell half a house or a quarter of an office block. And critically, you can’t sell property quickly.
Time to sell
And it’s that lack of liquidity that gave investors in property funds a nasty shock last week.
Again, the attraction of property funds isn’t difficult to fathom. As ordinary investors, few of us can really aspire to own large office blocks, industrial estates, and shopping malls.
But commercial property funds can – giving retail investors who have a craving for property a way of holding such assets as well.
But after the Brexit vote, many investors clearly thought that the longer-term prospects for British commercial property were not as rosy as they had been before the vote.
Their logic: with declining access to the European Union’s single market, economic activity would suffer, dragging down rents and property values.
In short, it was time to get out of property, and switch into something safer.
The trouble is – as I’ve said here many times – property isn’t liquid.
And as we saw in the last recession, when lots of investors want to exit a property fund, the fund’s managers can’t sell offices, shopping centres and industrial parks overnight.
Predictably, then, fund managers did what they had done in the last recession: they ‘froze’ their funds, giving them time to make their sales at something other than emergency ‘fire sale’ prices. At a stroke, investors were trapped, their assets frozen.
Worse, in most cases, this followed a ‘fair value’ price adjustment of 5% or so, designed to reflect the lower value of the funds’ underlying investments, post-Brexit.
One fund manager, Henderson, did this on June 24th – the very day that the Brexit result was announced.
Psst – want an office block? Going cheap?
Standard Life was first to suspend trading in its fund, slamming the doors on its £2.7 billion UK Real Estate fund last Monday, July 4th.
Aviva came next, suspending its £1.8 billion Aviva Property Trust the following day. A few hours later, M&G did the same, suspending its giant £4.4 billion M&G Property Portfolio.
According to the Financial Times, come Friday some £15 billion of investors’ funds had been locked up, with seven large fund managers and a number of smaller ones all leaving investors trapped inside non-trading funds.
And judging by what happened in the recession, it could be several months before investors finally get access to their money – and at valuations much lower than what they thought their property investments had been worth on June 23rd, the day of the referendum.
But shares ARE liquid
These are, of course, troubled times. Few observers – including Boris Johnson and Michael Gove, according to reports – really expected the outcome of the referendum to be what it was.
And investors in many ordinary British FTSE 250 companies, for instance, are hardly unaffected by the turmoil, with the FTSE 250 still – as I write these words – almost 6% below its pre-referendum close.
Yet throughout, the stock market has been liquid. At any point during trading hours, retail investors have been able to buy or sell as they wish.
Not for them, in short, the fears and uncertainties of seeing their cash locked away for months at a time.
In short, shares have a number of advantages over property – and last week, many thousands of retail investors got a fresh opportunity to appreciate one of them.
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What?s best: property, shares, or cash? Ordinary investors often mull such questions. Seven years of interest rates at a historic low of 0.5% (and likely to go down further still, as early as this week) have put paid to the ?cash? option. But a lot of people still put their faith in property rather than the stock market. And for many thousands of those people, the events of last week will have come as something of an unpleasant shock.
Quite simply, if there?s one thing worse than an investment that?s collapsed in value, it?s an investment that?s collapsed…