Property fund managers employed by large banks or investment management groups may cast envious glances at the 50% stake owned by the management team at three-month-old Arbuthnot business Arbuthnot Real Estate Investment Management (ArbreIM).
Right now, that stake equates to 50% of nothing, but within the next month, managing director Richard Tanner and his senior management team, comprising asset management director Rachel McIsaac and operations and product development director Catherine Delplace, expect to be discussing an information memorandum for their first product with institutional investors.
The trio have been working almost non-stop for the past three months on the ArbreIM Property Unit Trust, which will be the first new evergreen, balanced, exempt property unit trust with quarterly liquidity to be launched for many years (aside from Protego’s, which was merged last year into Threadneedle’s).
The product will be aimed squarely at long-term, institutional investors, mainly intermediated pension fund money placed by actuarial consultants who view property as a diversifier for portfolios. It will be competition for the likes of BlackRock, Hermes, ING, Schroders and Threadneedle, as well as the team’s old employer, UBS.
Tanner, who worked at UBS for 15 years before resigning in April 2009, says having management control was his priority in deciding “what to do for the next 15 years”. He won’t be drawn on what his last 18 months at UBS were like, but life there after the credit crunch in late 2007 and throughout 2008 was clearly even more difficult than it was at many other financial groups.
UBS’s repeated writedowns and waves of cutbacks and redundancies had knock-on effects across the bank, including the global asset management arm, of which Tanner’s UK property team was a part. Overlaid with the credit crunch, the repercussions of the property slump hit UBS’s flagship UK balanced property fund, Triton, which Tanner had helped to launch in 1994.
His resignation was followed in June last year by that of three others from the UBS UK asset management team: Charles Crowe, Paul Dennis-Jones and Andrew Grigson, who went to Pramerica. Most recently, in November, UK chairman Cliff Hawkins announced his retirement.
UBS has plenty of legacy issues and has hired Robert Houston to advise and work with Anthony Shayle to steady the ship, but ArbreIM has no such problems, which gives it a great advantage, according to Tanner and co.
Starting with a clean sheet
So with the selling point of starting with a clean sheet of paper, the ArbreIM team’s ideas about doing things better are bound to attract interest from investors and rival fund managers.
Their first launch, the ArbreIM PUT, is not an innovation in that it uses the balanced fund model that has been around for years “because it does the job and we don’t want to change that”, says Tanner. But though the model has been around for 40 years, so have some of the problems, which is what ArbreIM hopes to fix.
“In property, what’s happened recently is akin to a plane crash,” Tanner says. “But in real life, when there is a crash, Boeing doesn’t scrap every plane – it works out what went wrong, fixes those bits and starts again. So we are not trying to innovate, merely to identify what went wrong.”
McIsaac, who ran the Association of Real Estate Funds between 2004 and 2009 and saw many problems at first hand, adds: “Why don’t we build in structures that will not fall over next time?” ArbreIM has seen 16 consultants and their feedback was very similar. “About half a dozen things need to be fixed,” Tanner concludes from these discussions.
McIsaac adds: “Some of it is hard stuff, like pricing; some is softer stuff, like better communication.” For open-ended funds, the controversial issues of the past two to three years have been pricing and lack of liquidity. Supposedly liquid funds locked up because managers couldn’t deal with the volume of investors serving notice to withdraw their capital. At the same time, the basis for unit pricing based on valuation-based net asset value was called into question.
“Everyone accepts that at certain stages, valuations, which use backward-looking data, lag behind the market,” Tanner says. So in a rising market, a fund’s properties are more valuable than the NAV; and in a falling market, they are worth less. “Our industry grabbed a lot of headlines,” says McIsaac. “Investment consultants were led to believe they could move [money out] faster than they found they actually could.” Some funds locked up for a year or longer.
Investors were angered when Schroders Exempt Property Unit Trust changed its redemption pricing part way through the crash – even though it remained open when others closed. In November 2007, Schroders told investors who had served September redemption notices that SEPUT would buy their units, but at the September NAV minus 12.5%, which was their view of where values would be in December 07; in August 2008, the fund manager informed investors wishing to exit in September that unit prices could be cut by 25%.
Investors were upset by the surprise nature of the moves and the apparently arbitrary downward valuation. “It wasn’t seen as an independent view in the market at the time, even if it was,” McIsaac says. “The message didn’t get transmitted to investors.” ArbreIM will promise investors clear, process-driven pricing. It is researching a way of achieving a fair price for investors entering or exiting the fund through all market cycles using NAV as a starting point.
It will appoint an independent governance committee, who will be able to apply a discount or premium to the bid or offer prices based on independent advice, where the committee feels this would be fair and in the long-term interests of all investors. “Although at many points in the market NAV will be the correct price to allow capital in and out, at other times there may be a higher or lower price, other than NAV; then it becomes a question of how you arrive at that number,” says Tanner. “If you think it is logical to make an adjustment (to NAV) in a falling market, why not do it when the market is moving up, too?”
ArbreIM has appointed Jones Lang LaSalle and Knight Frank as valuers. ArbreIM PUT will offer quarterly admission of capital and redemptions, but will have the option to extend the redemption period when there is less liquidity in the direct property market and will endeavour not to close for longer periods for either admissions or redemptions, whatever the market pressures.
Tanner indicates that ArbreIM aims to achieve six-month redemptions in tough periods. “What you cannot do is provide faster liquidity than the underlying real estate market,” he says. “In a good market, you can trade in three months and in a bad market in six, although it is also about the price that liquidity comes at. But in my experience it doesn’t take two years to sell things in a difficult market at any price.” ArbreIM PUT will focus on value-style, income investing and will have no gearing, except an overdraft facility to help cash management. It will be domiciled in the UK.
The independent governance committee will try to anticipate other risk management issues that may surface in the future. “For example, it could be that funding arrangements for pension funds undergo some change, or sustainability becomes more important,” says Tanner.
A solution for core funds McIsaac says that everything material to investors will be clear “in large print” and reinforced at six-monthly investor meetings. “I think what we are doing will be adopted by the core of balanced funds that have capital coming in and out. Though our solution is appropriate for our investor base and trading frequency, the balanced PUTs are the supertankers of the industry.” Phil Clark, chairman of the Investment Property Forum’s indirect property funds
group, believes that some investors’ desire for a high degree of liquidity at the unit level relative to the investments at asset level is a trend that is here to stay. “We should expect money to flow into and out of funds,” Clark says. “Investors demand that and managers will have to provide it through their fund structures, by providing some redemptions, maybe quarterly or half-yearly. There isn’t a resolution at this point. It’s still being debated, but it will happen in the next couple of years; structures will evolve as new funds are set up.
“My view is there will be an increased need for cash to be held in larger amounts than funds have done in the past five years – the standard is probably going to be 10%. Managers are going to have to consider liquidity strategies to meet those redemptions, such as holding cash, possibly derivatives and possibly equities. But it is the manager’s responsibility to establish the appropriate liquidity for the fund’s underlying assets.”
Tanner says: “You can see the direction of travel ArbreIM is taking: long horizons, stronger corporate governance and stronger cash management, to establish something that works for investors and is not so susceptible to problems in the market.”
Bank backer pursues a diversification strategy
New business AbreIM is a 50:50 joint venture with Arbuthnot Banking Group (see ownership structure chart below). Arbuthnot Banking Group was founded 176 years ago and has 469 employees. The group listed on AIM in 2005 but is still majority owned by chairman and CEO Henry Angest.
ArbreIM’s launch is part of the bank’s strategy to develop its fund management interests. Its main businesses currently are: retail banking (Secure Trust Bank), investment banking (Arbuthnot Securities) and private banking (Arbuthnot Latham).
The bank swung from profits of £14.1m and £8.6m in 2006 and 2007 to a loss of £2.2m in 2008, on turnover down 39% to £42m. Trading in the first half of 2009 remained difficult, but the bank moved back into the black with a profit of £707,000.
The bank’s shares rose this month when Angest said that full-year profits for 2009, due to be announced on 11 March, were ahead of expectations because of improved conditions in the second half.
Angest said backing ArbreIM was in line with the group’s contra-cyclical approach and part of its strategy to diversify within financial services. When Richard Tanner’s appointment was announced last June, chief operating officer Andrew Salmon said: “Real estate at the moment is depressed, but in the coming months and years there will be extremely good opportunities to invest.”