Open Ended Investment Funds

Colm Fagan

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268
There's an interesting article in today's Irish Times about the fall from grace of Neil Woodford, who was once seen as the UK's answer to Warren Buffett.
One particular aspect of this case which wasn't mentioned in the article, but which is getting considerable attention in the UK and which is causing wider soul-searching within the asset management sector, is the dangers associated with holding significant amounts of illiquid or unquoted investments in open-ended funds.
Open-ended funds are very much the norm in Ireland. The fund managers (normally insurance companies) assemble a number of investments and put them in a fund, which they offer to retail investors. The price per unit is the total value of the fund divided by the number of units.
Everything works well if the fund's assets can be realised easily, at prices close to those used to calculate the fund's unit prices. This isn't always the case, especially for property funds.
Mr Woodford's problems weren't confined to property. In an effort to boost performance, he invested in stocks with poor liquidity. When the proverbial hit the fan, other managers saw that he would be a forced seller and shorted stocks in which he had significant holdings, thus pushing their prices down further. As an aside, he made matters worse for himself by advertising transparency as one of his virtues. He had let the world know the stocks in which he had major holdings, so making things easier for the short sellers.
The Woodford episode also highlights the vulnerability of open ended property funds. There is a massive gap between the quoted unit prices of property funds and the prices at which publicly quoted property companies change hands in the market. For example, I have shares in a (closed end) UK property company, which are currently trading at less than 60% of the company's net asset value. In other words, if the company were broken up, its borrowings repaid, and the properties remaining transferred to an insurance company's property fund, the managers could realise a profit of the 40% gap between the value at which they trade when they're part of a quoted closed end property company and the price they would command as units in an open-ended property fund. That doesn't look right. Something must give.
 

Brendan Burgess

Founder
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I have shares in a (closed end) UK property company, which are currently trading at less than 60% of the company's net asset value. In other words, if the company were broken up, its borrowings repaid, and the properties remaining transferred to an insurance company's property fund,
I have always wondered at the big discounts in closed end funds.

Is it a true 40% discount? If a fund is invested in quoted shares, the value is very transparent. But an investment in properties?

If your property fund decided to wind itself up over time and gradually dispose of its holding, I think it might find that the book valuation is a fair bit higher than the price they would get.

If I were in an open ended fund, I don't think I would like to see them buying properties from a fund run by the same manager.

Brendan
 

SBarrett

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3,019
That is why investors should keep things simple and to areas that they understand. If investing in equities, pick something that tracks the MSCI World or something similar.

On the open ended property funds, most don't realise that these funds hold massive amounts of cash in their fund for liquidity purposes. It may work out well if they can purchase a property at a good price but they can also lose out by having so much cash doing nothing.


Steven
www.bluewaterfp.ie
 

Colm Fagan

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268
@Brendan Burgess I agree with your various points. To expand: I am pretty certain that the property valuations for quoted property companies are completed to the same standards as those for open-ended property funds - "in accordance with RICS Valuation - Global Standards .... Fair value". OK, they don't allow for expenses of realisation nor for tax that might arise in the event of a disposal. I would think the same is true (in normal circumstances) for a property fund, except that the fund itself wouldn't have a CGT liability on sale. You say that the value of a portfolio of quoted shares is very transparent. Mr Woodford found that this isn't true in some cases.
@SBarrett . Steven, I also agree with you on liquidity. I had a quick look at some Irish funds. The Irish Life property fund has 14% in cash, New Ireland 15.5% and Aviva 18.8%. The punters are being charged a management fee for that as well.
 
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