Turmoil among open-ended property funds has led to widening discounts within the closed-ended space, opening up some potential buying opportunities, according to Numis’ Colette Ord.
The recent headlines around property funds – and concerns that ‘Brexit’ will damage valuations – may prove off-putting to some investors. However, others may be looking for long-term exposure to the asset class and could believe closed-ended funds are showing good value, as well as being a structure deemed more appropriate for illiquid assets.
Ord, director of property and infrastructure investment companies research at Numis Securities, points out that modest leverage combined with a lack of redemptions means that investors don’t need to panic and sell out of their property investment trust exposure at the moment, despite a number of open-ended funds suspending trading over the last few days.
Following a high degree of interest, the property sector has significantly fallen out of favour over recent months and outflows from open-ended funds intensified after the UK voted to leave the European Union.
Flows into IA Property funds over 1yr
Source: The Investment Association, CreditSights
With the likes of M&G, Aviva, Henderson, Threadneedle and Standard Life all suspending trading across their property funds due to surges in redemptions, investors have become even more nervous on the sector, which has caused discounts within the closed-ended space to widen.
“I think there’s a bit of contagion around big asset management houses like Schroders and Standard Life, which all have open-ended vehicles as well [as closed-ended vehicles],” Ord said.
“I think there might just be an element of people seeing the disquiet in the open-ended funds and redemptions increasing and funds closing their gates, then reading it across to the listed vehicles which of course don’t need to sell their assets.”
“In a majority of cases they don’t have any crossovers with open-ended retail funds.”
In the below article, the research director lists three property trusts on significantly wide discounts that could present buying opportunities at the moment.
Ord says that Schroder Real Estate trust stands out in particular on a discount-to-NAV basis.
“It’s trading on a 25 per cent discount to NAV, it’s yielding 5.5 per cent, it’s fully covered by cash flow, its leveraged loan-to-value is around 30 per cent but, more importantly, its debt is long-term fixed and low-cost,” she explained.
“Balance sheet wise on the liability side, there are no near-term issues to be worried about there.”
The research director says the portfolio is well diversified in terms of sectors and points out that, while the trust does have an approximate 8 per cent weighting in London offices, this is largely in one asset.
Store Street Bloomsbury is the fund’s second-largest weighting and Ord says that it is set to benefit from the development of Crossrail.
“[Store Street Bloomsbury] is very low-rent per square foot so it’s not by any stretch of the imagination under stress from a rent per square foot valuation, nor is it on a capital value per square foot basis. It’s a well-positioned site,” she explained.
“In terms of the rest of the portfolio, it has about 17 per cent in retail excluding retail houses. The key thing to note about its retail exposure is it’s largely based in convenience retail which most people would feel reasonably comfortable with in the current economic environment.”
“In our view, we think its portfolio is reasonably well positioned in the context of where general concerns are.”
While the trust has underperformed its average peer over one, three and 10 years, it has significantly outperformed over five years with a total return of 59.63 per cent, which is more than triple that of its sector average.
Performance of trust vs sector and benchmark over 5yrs
Source: FE Analytics
“Its discount is obviously widest, the yield is well-covered, the balance sheet is sensible, the current share price is certainly implying more aggressive capital write-downs than it is applying to the rest of the sector which we don’t think is justified, so that is one that would stand out to us,” Ord added.
Schroder Real Estate is 34 per cent geared, is £452m in size and has an ongoing charge of 2.73 per cent.
Standard Life Investments Property Income
With a hefty dividend yield of 6.8 per cent, which is 116 per cent covered by recurring cash flow, the research director says that SLI Property Income should not be ignored despite the trade suspension of its open-ended peer.
“It offers a well-covered dividend for a pretty high yield – it is 60 basis points higher than the sector average at the moment which is 6.2 per cent,” Ord said.
“Its portfolio is very unlike Standard Life’s open-ended fund, which wrote down the value of its asset base by 5 per cent recently and pulled the shutters down for redemptions – that particular vehicle had a fair amount in London offices and also retail.”
“Whereas if you look at Standard Life the listed vehicle it has a pretty diversified portfolio by sector. The majority sector is industrial and about 40 odd per cent of the assets are in this market area.”
Similarly to Schroder Real Estate, it has a 7 per cent weighting in London offices, which is lower than many of its peers.
The £267m trust, which has been managed by Jason Baggaley since 2006, has outperformed its sector average over one, three and five years. It has also managed to outperform its FTSE All Share benchmark over three and five years.
Performance of fund vs sector and benchmark over 5yrs
Source: FE Analytics
“Again, his portfolio is reasonably well positioned, people are expecting value write downs. The current share price is suggesting that the implied outwards yield shift is 95 basis points, so that would take the net initial yield on the portfolio from 6 per cent to 7 per cent,” Ord continued.
“Again, it’s another higher yielding, very well-covered, relatively modestly-geared fund with long-ish term debt at a fairly low cost.”
SLI Property Income is trading on a 16.22 per cent discount, is 22 per cent geared and has an ongoing charge of 1.49 per cent.
Standard Life UK Commercial Property
The second Standard Life offering to be chosen, the research director says that the firm has been particularly hard-hit by the suspension of trading across its open-ended property funds.
Standard Life’s UK Commercial Property trust is one of the largest investment companies in the sector with an AUM of £1.4bn and it is currently trading on a 20.7 per cent discount.
“It’s yielding 5.4 per cent and it’s very lowly geared. It’s got a net leverage of about 11 per cent and hold £70m in cash,” Ord said.
“Again, it has about six and-a-half years until its next debt maturity and its debt is priced in at just under 3 per cent.”
The trust is managed by Will Fulton, who took over after former manager Robert Boag left after Standard Life took over Ignis.
The fund, which is just 1 per cent geared, has underperformed its sector average over one, three, five and 10 years as well as over one, three and six months.
Performance of trust vs sector over 5yrs
Source: FE Analytics
That said, its discount is now substantially higher than its average one-year discount which stands at 2.02 per cent. Over three years, it has traded on an average 4.96 per cent premium.
UK Commercial Property has an ongoing charge of 1.49 per cent.