Ian Fife

Certain offshore property funds allow investors to bypass exchange regulations

The rand is strong, the pound weak and property prices have collapsed everywhere except in SA. What better time to launch new funds investing in offshore — mainly UK — property to entice local investors, argue the promoters of these funds. It’s a once-in-a-generation window of opportunity, they say.

All this is true. But South Africans with money should understand what their own real motives are for going into such investments.

Wealthy South Africans feel hemmed in by exchange-control regulations, eager to get their money out, mainly because they are not permitted to. This is the market for offshore funds. “That hits the nail on the head,” says Cornerstone Asset Management’s Gary Fisher, a founder in 1993 of SA-listed CBS Property Fund.

But their frustration with exchange controls often clouds South Africans’ perspectives. For instance, the facts of the residential market over the past 10 years or so show that offshore investment didn’t give the best returns. Despite the collapsing rand, you would have made more profit measured in pounds by 2007 if you had invested in a house in Johannesburg in 1997 than if you had bought one in London, and you would have lost less subsequently.

Commercial property prices have fallen 50% from their 2007 peak and investment yields are at 15-year highs. Though there are signs of improving optimism, forecasters such as London’s Capital Economics say that rents and returns are not likely to bottom for at least six months. Some pundits reckon the slow jobs and business recovery mean it will take to 2017 before income streams return to their 2007 levels and when the rewards will be greatest.

Last month Fisher launched British Capital with financial services company Barnard Jacobs Mellet It aims to raise at least £60m (R800m) in the next couple of months, which with 60% borrowings will allow it to buy UK properties for £150m. The minimum investment is £10000. Capital will be listed (in Bermuda), which means SA institutions can invest SA money into them.

Many institutions invest less money offshore than they are allowed to. So private investors can do “asset swaps”. This works through the institutions investing their excess allowance into these listed entities on behalf of private investors — for a carry fee, usually about 0,5%/year. And by doing this the investor is not taking from his or her overseas investment allowance. It’s a legal conduit to move that hemmed-in money offshore.

Capital is typical of most funds. Cornerstone has been scouting the offshore potential for a couple of years. Fisher says the opportunity lies in the record high purchase yields that have risen from less than 4% to about 6,5% or 7% for prime properties and to 9% or more for good secondary buys. It hopes to buy stock at an average yield to investors of 7,5%, after the swap fee and its charges, and to borrow 60% of the purchase price at 5,5% fixed interest.

If the rent in five years’ time is the same and they sell at a yield of 6,5%, investors will get an average 12,7%/year combined capital and income return. But Capital is aiming at 15%. This scenario ignores the exchange-control rapids you must cross whichever way you move your money, and is premised on exchange rates remaining steady for five years.

If you’re investing, it must be at least partly because you believe the rand will once more collapse against sterling. This could push your return to 30% or more. But it also glosses over the complex realities of the global property market. The main reason property prices have fallen so far is that only 15% of UK property finance is “vanilla”, straightforward mortgage finance, compared with 55% for European properties. The rest is through various financial structures that must soon be refinanced — and banks aren’t lending.

The danger of defaulting on debt is the main cause of property yields rising and prices falling. It’s a financial rather than a property problem, worsened by the bursting of a property bubble and the declining number of tenants.

Virtually every property promoter in the world is putting together a fund to buy good properties dirt cheap, expecting values to rebound when the lending starts again. Global funds such as Blackstone have raised billions of dollars. German, Middle Eastern and Asian funds are piling into Britain.

SA offshore funds are growing. The latest are from BJM/Cornerstone, new business promoter Gerald Rubinstein, Madison (now folded into Redefine) and a new fund from listed property loan stock company Attfund Listed property fund Growthpoint recently bought control of a listed Australian fund.

Ahead of them by at least a year are

Global CEO of Investec property Sam Hackner, with probably more offshore property experience than the rest, agrees. “Investors must be careful,” he says. “There is lots to learn out there and lots of other players. (Investec property investment chief) Angelique de Rauville has been actively studying the market for two years and we’re still learning. Our aim is to launch GLL fund 1, 2 and so forth, until we are big enough to list on the London Stock Exchange’s main board.”

Rabinowitz has just bought 20-24 Carlton House Terrace in St James at a 6,5% yield with Anglo American’s UK headquarters as its tenant on a 10-year lease for Credo’s investors. It’s about the most prime office space in London. Rents have collapsed from about £100/ft

Attfund’s managers Louis Norval and Neno Haasbroek have been active offshore for four years. They are going for indirect property investment into established listed funds and into listed funds whose managers are proven and for whom funding is available. “Our aim is for Attfund eventually to have 60% SA property and 40% offshore,” says Norval.

The funds have bought few properties and many are for sale. The rush to buy has affected yields a little, but promoters reckon the window of high-yield opportunity is six months to a year. That puts pressure on investors to make a decision. But they should ask themselves the following questions:

How much are the managers earning? Cornerstone gets 2% of the value of properties bought, £2m if they aim for £100m. Then they get 1,5% of value each year — say another £1,5m. Managers get their fees offshore;

Are they putting more of their own money in the project than their fees? The Madison directors said they were, but failed to raise the minimum £50m. They say the main reason was the Tannenbaum Ponzi collapse near their deadline, which led investors to withdraw;

Am I really getting my money offshore? Profits on asset swap and R2,5m/year offshore investment allowances must be repatriated. Though the profits are earned offshore, it all comes back. Which leads to the next question:

Is the offshore conduit I’m using completely legal? This is an important question after the Tannenbaum Ponzi collapse last month. There is talk that some of the investment conduits were aimed at leaving the money offshore. Are the authorities looking more closely at this?

Will I really do better in the UK than in SA? The return on SA listed property fell 0,45% this year to June compared with -19% for the rest of the world. The yield gap in Britain between government debt and property returns is 5%-6% compared with 1% in SA.

Pundits worry that SA yields must rise (and values fall) to align with the greater gap. If it happens it will be in the next six months or so. Yet SA property is still in long-term recovery, its rents and property prices well below global levels; investors may be rewarded over the next decade.

Stanlib’s Evan Jankelowitz says Asia is a better bet than the UK, “but few investors understand it”.

The writer and his family own shares in Growthpoint, Madison and Redefine

Source: Financial Mail