Can you access your assets when you need them most?

Can you access your assets when you need them most?

Lukasz de Pourbaix

We are starting to see cracks appear in some fund structures in the United Kingdom post the Brexit referendum decision to leave the European Union.

Several direct property funds have been ‘frozen’ following a dramatic increase in redemptions as investors withdraw their capital and run for the exit door amidst concerns around what Brexit means for their investments.

The funds were investing primarily in direct property assets such as shopping centres and office buildings in an open-ended structure offering ‘daily liquidity’ which means investors can withdraw their funds on a daily basis if they so choose.

No doubt some of us may remember how this story went in Australia during the global financial crisis of 2007-08, where we witnessed some ‘hybrid’ property funds investing in listed and direct property assets freeze redemptions.

The same was also true for some hedge funds and mortgage funds.

Put simply, there was a mismatch between the liquidity, or accessibility, of the underlying assets and the liquidity being offered to investors.

When investors exit the door in a polite, orderly fashion there is no issue, but when there is a stampede, the door is too small and will eventually shut.

Although it’s debatable if long-term investors really need liquidity, the reality is that investors will typically want to access their assets when markets are falling and there’s fear, and if the label says daily liquidity, then they expect to be able to access their funds accordingly.

Most funds investing in illiquid assets, which are not easily converted to cash, such as direct property, private equity and some hedge funds, will have clauses in their product disclosure statements allowing them to ‘gate’ or freeze their funds to redemptions in certain circumstances in order to protect investors remaining in the fund.

In many instances, the underlying assets may not be impaired, but the fund manager wants to prevent a run on the fund, where lots of people try to redeem at the same time, which results in a subsequent forced sale of assets by the fund managers, to meet these withdrawals.

Illiquidity is not a bad thing provided you paid for the liquidity risk you’re taking on.

Many of us are already exposed to the residential property market, which is illiquid; yet we are generally comfortable with this exposure.

The main issue arises, when a fund is sold as offering daily liquidity and yet doesn’t provide this when investors want it most.

As a rule of thumb, if the underlying assets are illiquid, then the fund should be treated as such, irrespective of the claims of ‘daily liquidity’ and complicated structures designed to make illiquid assets appear magically liquid.

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