UK property funds could block investors from withdrawing money as Brexit unfolds, in a repeat of events three years ago when the UK voted to leave the European Union, says Fitch Ratings.
Fitch warned of a “growing risk” that investors in open-ended UK property funds will again be prevented from taking their money out as fears rise that a disorderly Brexit will lead to a crash in property values.
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After the Brexit vote in June 2016,several companies suspended trading in their open-ended funds after investors rushed to pull money. Rising redemptions can lead to a liquidity mismatch for funds that are unable to sell properties quickly enough to generate cash to give back to investors.
“Open-ended property funds have an inherent structural weakness in that they provide daily liquidity for investors but are invested in mostly illiquid commercial property,” Fitch said. “This liquidity mismatch exposes them to liquidity pressure if there is a spike in redemptions, potentially leading them to block withdrawals so that they do not become forced sellers of illiquid assets, and to prevent a run on the fund.”
Fitch said cash levels at open-ended funds are now “marginally” better than in 2016. “But we do not think liquidity is strong enough to prevent withdrawal restrictions should investors fear a steep market drop due to Brexit developments in the coming weeks,” its analysts added.
The agency, which does not rate any open-ended funds, pointed to press reports claiming that the Financial Conduct Authority is monitoring funds’ liquidity on a daily basis. “Rapid changes in sentiment, in relation to political declarations for example, could cause spikes in redemption requests beyond available liquidity, irrespective of the fundamentals of the properties held by the funds.”
The UK regulator launched a consultation last October on new rules that would improve how open-ended funds invested in illiquid assets such as property.
Proposed measures included funds having to suspend trading if an independent valuer expresses “material uncertainty” about the valuation of at least 20% of a portfolio. That consultation closed in late January.
Fitch also noted that real estate investment trusts, listed property groups such as British Land and Landsec, have boosted their cash reserves. “Their motive is to position themselves to react quickly to investment opportunities that may arise if asset values drop in the event of Brexit-related investor concerns,” the agency’s analysts wrote.