The latest headlines about property funds in the UK seem to indicate the herd behavior of investors may lead to the next shake up of the fund industry in Europe. The M&G Property Portfolio fund became the first fund product to be gated because it couldn’t meet the demand for share redemptions. This all happened after the GAM scandal and the resultant pressure that was put on fund liquidity for some alternative UCITS funds, as well as the gating of the Woodford Equity Income Fund.
On one hand, it is understandable that professional fund selectors sell their holdings in funds which face the risk of being gated for a long period of time because they don’t want their products and clients to be invested in a fund that was gated. If a number of professional investors come to this conclusion at the same time, this herding behavior would lead to a fund being gated. The result is there is kind of a self-fulfilling prophecy once a fund or an asset class is put under review for potential liquidity issues.
On the other hand, it is not understandable that regulators continue to fail to take into consideration that a property fund with daily liquidity has a mismatch between the liquidity of the product and the assets it holds. This is especially true because the gating of property funds didn’t happen for the first time. During the financial crisis, nearly all property funds in Germany had to be gated and only a few of them survived this perfect storm. As a result, the German regulator defined a set of rules for property funds to protect investors and fund promoters from these events.
These German regulations haven’t been transferred over to other markets as fund promoters and regulators thought that the rules go too far and harm the distribution of property funds. The latest developments in the UK show, however, that there is a need for better regulation of property funds and other funds that invest in rather illiquid assets. This is because gating has a negative impact on the performance of those investors who wanted, or are forced, to stay in the fund and need to bear all the costs coming from the gating.
In addition, one needs to bear in mind that gating funds does mean that some investors lose their trust in mutual funds and, therefore, they are lost as future clients. This is especially true of retail investors, a key demographic that the fund industry can’t afford to lose, because not only are they a direct source of funding, they provide part of the capital invested by institutions.
The views expressed are the views of the author, not necessarily those of Lipper or Refinitiv.
