Investors in UK open-ended property funds face a worse crisis than the crash of mid-2016 within ‘weeks’ Fitch Ratings has warned, on the high risk of ‘spikes in redemption requests beyond available liquidity’.
The firm noted that the sector was in some respects better prepared than in the immediate aftermath of the surprise Brexit vote, when a stampede out of the sector caused funds holding billions of pounds of property assets to close to redemptions.
Cash levels were ‘marginally’ higher it said, and the Financial Conduct Authority (FCA) earlier this month stepped up its monitoring after £336 million in client funds were pulled in the last quarter of 2018.
But the level of preparations remains inadequate relative to the sharp downturn in sector sentiment it expects, however.
‘We believe there is potential for market reaction to Brexit developments to be more severe than the reaction to the referendum result, particularly if there is a no-deal Brexit,’ said Fitch senior director for funds Alastair Sewell.
‘Funds are unlikely to be able to meet a potential surge in redemptions by selling assets, given the illiquidity of commercial property. Initially, funds with weaker liquidity would be more likely to have to implement a gate, but gating of one fund could spark contagion to other funds if it disrupts market confidence.’
Fitch does not offer ratings on any property funds, but the company would be likely to downgrade related UK mandates, he added.
While commercial real estate on the whole has remained well bid there have been signs of distress in retail as the long-term erosion of the UK high street has encouraged much more aggressive rent negotiations by tenants.
Shopping centre owner Intu wrote down its portfolio by £1.4 billion or more than 13% last year, leaving the company grappling to manage down its borrowing as its ratio of debt-to-assets hit 53%. It promised to raise cash by selling some of its sites but noted that the market remained 'challenging'.
Investor gloom was evident in Intu shares’ discount to net asset value rising to an ‘unprecedented’ 64%, following the collapse of two separate bids for the company in 2018.
Columbia Threadneedle's £1.5 billion UK Property Authorised Investment funds and Kames Capital's £1 billion Property Income funds have both moved to ‘bid’ pricing this month with investors shouldering a 6% hit as both groups sought to stem mounting withdrawals.
Rule changes proposed by the regulator last year mean funds investing in illiquid assets such as property and infrastructure would have to close much faster if another Brexit-like event happens.
Funds currently close when the manager judges the market to be pricing in material discounts.
The FCA proposed that funds now suspend dealing when there is ‘material uncertainty’, as expressed by an independent valuer, about the valuation of at least 20% of the fund’s assets.
Christopher Woolard, executive director of strategy & competition at the FCA, said: ‘As well as better protecting consumers, these changes should help to protect and enhance the integrity of the UK financial system.
‘They will increase investors’ understanding of, and confidence in, how funds holding illiquid assets are managed. We expect these changes to result in fewer runs on funds holding illiquid assets, and to reduce complaints from retail investors about perceived unfair treatment when they exit such funds.’