Although the biggest changes to most clients' portfolios since the Covid-19 pandemic will have been the sharp decline in the value of their fixed income portfolio, a quieter crisis has also been engulfing property portfolios.
Property investment trusts and open-ended funds have both come under pressure for different reasons.
Alternative property investment trusts, which invest in assets such as medical centres, are facing slow-burning problems of rising interest rates, which is causing many investors to ponder the cyclical nature of those investment vehicles.
M&G recently announced that it will wind down its open-ended property fund over the next 18 months, due to liquidity issues.
The alternative to these vehicles, owning property shares or owning physical property via an investment trust, presents additional dilemmas, as it means being further invested in equities, which potentially reduces the diversification effect of owning property assets.
Rory Maguire, managing director at consultancy Fundhouse, says he had long been concerned about the problem of liquidity with open-ended property funds, that is, if the market turns and investors seek their cash back in great volumes, the fund will not be able to sell the physical property asset quickly enough to meet the redemption requests, and so will be suspended.
This has happened in consecutive periods of market stress, including the immediate aftermath of the Brexit vote in 2016 and of the pandemic.
Maguire’s view is that persistently low interest rates flattered the returns achieved by the open-ended funds in the decade after the financial crisis, and it was the attractiveness of those returns that he says caused many investors to overlook the liquidity issue.
He adds he is “not surprised” that such funds are starting to close now that both the liquidity issue has become obvious and higher interest rates have dented the return prospects for the asset class.
Open-ended property funds, which invest in physical property, including the soon-to-closed M&G Property fund, typically keep a significant slug of the capital in cash or other liquid assets such as government bonds in order to provide liquidity for clients seeking an exit.
Ben Yearsley, co-founder of Fairview Investments, says this means investors who place £100 in an open-ended physical property fund may only have around £70 invested in property, with the other £30 invested in cash or bonds, as the return from cash or bonds would be expected to be lower than that of property.
The ultimate return that can be achieved from an open-ended property fund is not completely reflective of the returns achievable from property as an asset class.
This 'cash drag' is designed to prevent situations whereby the funds are forced to suspend redemptions, but despite the cash holdings, many of the funds that hold the positions in cash, including the soon-to-close M&G fund, have also had to suspend dealing.
Another issue, previously highlighted by FTAdviser, is the asset management companies charge the same fee to “manage” the cash in the portfolios as to manage the property.
