Two news stories of significance to the property derivatives market broke this month. One was that broker ICAP is pulling out of trading property derivatives after a near six-year struggle to make money; the other, that LaSalle Investment Management is set up to start trading.
These announcements were in no way co-ordinated, but there is some irony that they occurred at around the same time. Which is the most important for the still-infant derivatives market and which gives the strongest sign about whether trading will continue?
ICAP had a well-resourced and well-respected team, led by Paul Rostas, who worked tirelessly to explain and promote the fledgling market’s possibilities. After advising Prupim on setting up £100m of sub-sector trades in December 2009, Rostas said his team made more than 250 presentations on the deal in the next year.
But the market failed to move forward in 2010. At its peak, in 2007 and 2008, more than £7bn of swaps were traded each year, but last year’s £1.65bn was the lowest volume for five years, sinking to a mere £192m of trades in Q4.
Outside the UK, there were no European trades. Uncertainty about forthcoming European regulation of over-the-counter swaps is making property companies and fund managers jittery – although it is interest rate and currency hedging, not property market hedging, which is affected.
At a Property Derivatives Interest Group meeting a year or so ago, Andy Martin, Strutt & Parker’s senior partner and Investment Property Forum stalwart, said what others had thought when he asked how long four brokers could carry on in a thin market which several banks had quit the year before, following the financial crisis.
ICAP throwing in the towel is his answer and another setback, if not for remaining brokers BGC and market leader CBRE-GFI. But LaSalle’s decision is potentially more significant and is encouraging because the market obviously needs more users, not more brokers, and LaSalle is one of the UK’s largest and most successful institutional property fund managers.
LaSalle is similar to the handful of other, let’s say more ‘cerebral’, institutional managers that supplement direct market options with derivatives use, notably Prupim and Legal & General Property. LaSalle also sees opportunities in the synthetic market for clients. Derivatives can hedge the impact of falling values by selling an index when it is expected to fall or to gain property exposure by buying an index when values are expected to rise.
They can be used to rebalance portfolios without needing to buy or sell direct assets, and to tilt towards favoured sectors or away from others expected to underperform. The questions are: If the right-priced opportunities arise, will LaSalle’s fund managers choose to use this market in any kind of volume? Will they turn interest into action, at a time when there are clear direct market opportunities? And when will more investment managers follow?