For now at least, interest rates remain at record lows, leaving investors forced to continue quests for high and sustainable income - see Shares, Cover, 30 Oct. Besides bonds and equities, one key source of distributions is the relative safe haven of property, an asset class to which investors seeking diversification of income could turn.

One innovative income vehicle to examine further is the IFSL North Row Liquid Property Fund (GB00BHWR1931), an Open-ended investment company (OEIC) aiming to provide stable, quarterly income with a projected yield of 4.5%. Over the long-term it promises potential for capital gains too.

Hunt for liquidity

The fund offers liquid exposure to global real estate markets by synthetically recreating commercial property returns. In the main, this is achieved through investments in derivatives, financial contracts derived from assets such as property, equities and bonds whose value and price aren’t dependent on one or more underlying assets. In such instance, it doesn’t purchase physical property - instead it invests in instruments whose value is directly linked to the global commercial property markets, though the fund also offers exposure to listed property equity and debt markets.

The lead investment manager is Steven Grahame of North Row Capital, the fund’s investment manager and an arm of Brooks Macdonald (BRK:AIM). Grahame, the architect of the investment strategy, has garnered extensive experience of investing in the property sector via previous stints with Hermes Asset Management, Towers Watson and UBS.

He argues property derivatives, including futures and swaps, offer investors an efficient alternative to direct ownership, providing greater flexibility and liquidity, whist avoiding the burden of ongoing costs.

Retail investors have historically been attracted to physical property assets, given the scope they offer for stable rental income streams as well as long-term capital growth. Yet the physical purchase of assets such as commercial real estate is usually way out of the affordability of most investors, given minimum lot sizes of several million pounds or more.

Shares in listed property companies and Real Estate Investment Trusts (REITS) typically follow the trend of the equity markets rather than the property market and may not always reflect the underlying value of the assets. Unlisted property funds tend to better-reflect the underlying price of their assets, yet they often lack liquidity. In contrast, IFSL North Row Liquid Property aims to deliver a high correlation to the direct property markets while maintaining daily liquidity at all times.

Grahame makes the point that both listed and unlisted property funds are owners of buildings. They have many costs that must be shouldered by investors, among them stamp duty, maintenance and tenancy voids. As direct property owners, they face the same liquidity problems as individuals when it comes to buying and selling, leaving them unable to capitalise on changing market trends or sell properties quickly enough to meet redemptions.

Grahame insists property derivatives, including futures and swaps, offer investors an efficient alternative to direct ownership, providing greater flexibility and liquidity, whist avoiding the burden of these aforementioned ongoing costs. The property investment expert is also of the view that property derivatives have improved their reputation since the financial crisis. Regulators in the UK and elsewhere have tightened controls on derivatives, making them safer to use.

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Stable returns

Grahame insists the fund offers ‘a stable, core property return that provides the UCITS wrapper with a lower level of volatility, a higher income and a high degree of visibility’.

He continues: ‘A requirement for many investors is to invest in a regulated fund. UCITS is a regulation governing the administration of a fund. In our case the fund is a UCITS but also FCA (Financial Conduct Authority) approved. This means the fund can be invested in by both institutional and retail investors. UCITS provides investors with higher comfort and certainty that the fund is administered and operates to a high standard: including such elements as liquidity and risk control.’ With investments marked to market, ‘we know the risk that our portfolio is running every day and we can report this to investors.’

In addition, the fund doesn’t deploy gearing and is a low cost vehicle to boot. ‘We don’t go out and borrow and we don’t charge performance fees,’ says the manager, who stresses the fund has a lower ongoing charge than direct property funds. That said, there is a significant minimum initial investment of £10,000 for retail investors.

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Multi-asset approach

Grahame is at pains to highlight the portfolio’s ‘unique multi-asset class approach to property’ as a point of differentiation, while also highlighting the diversification offered through investments in broad property indices across the core global geographies.

‘Our approach is in delivering relative value across the property market and then to look at ways of gaining efficient exposure,’ says Grahame, adept in spotting the inefficiencies in pricing between different property asset classes.

For instance, ‘we’re seeing relative value in the UK REIT market,’ explains Grahame, who believes property debt continues to look poor value at present. The manager is bullish on the UK property market, with the economy experiencing the fastest rate of growth in the G7 and interest rates expected to remain at historic lows for a while yet, even if they rise slightly.

‘We’ve been very positive (on UK property) since the start of the year and we think the returns from property for next year are going to be very strong at between 10 and 12%.’ Underpinning his confidence is the fact that UK property offers scope for attractive yields and investor allocations to the asset class are low, but on the increase.

Steven Grahame

Manager
North Row Liquid Property Fund

Fund Facts

Type: Open-ended investment company

Launched: 21/02/2014

Price: 104p (as at 30/10/2014)

SEDOL: GB00BHWR1717 (income)/ B00B6R31G65 (accumulation)

Yield: Projected income yield of 4.5%

Asset class: Property

Minimum investment: £10,000

Annual management charge (AMC): 0.85% per annum

Ongoing charge: Estimated 1.38% per annum

Performance fee: None

Source: North Row Capital