Link between commercial REIT value and the company share value

jake_jones99

wmb194 said:

jake_jones99 said:

wmb194 said:

An investment company is listed on the stockmarket and is a corporation. It's just that some choose to qualify to follow different rules and become a REIT, and ordinary Investment Trust and so on. You can Google what these differences are and read the legislation.

Like any company they can own many different types of assets if they wish/are allowed e.g., there are some investment trusts which own shares in stockmarket listed companies but also unlisted companies and they can borrow money. As with any fund, including unit trusts/OEICs, the risk boils down to what they own but with the conventional trusts that own shares in many different listed companies in a number of different sectors it's unlikely you'll lose everything. If they find themselves badly underperforming they tend to get wound up, with the remaining assets sold and distributed to the shareholders.

You need to be careful of REITs as some have a lot of leverage so could see issues with rising interest rates, if their properties fell in value a long way and/or they fell vacant they could have cashflow issues, breach loan to value covenants and so on.

It feels to me that you shouldn't be investing in any of these investment companies as you clearly aren't grasping what they are.

Thank you for the reply. My previous post was quite confusing, as I was mixing up financial terms. Guided by your explanation but also my research I am able to formulate much better what my idea was. I am making a comparison between investment trusts (ITs) and other investment companies (ETFs, OEICs). 

The ETFs containing a large variation of assets are achieving market average in a particular sector. For ETFs the share price is coupled to the NAV via a redemption mechanism. Therefore, the ETF price wouldn't change significantly with:
1) the investor sentiment towards that particular ETF
2) human errors within the ETF management (maybe no errors are even possible given it's usually an algorithm doing most work)

These two conditions give me some peace of mind that my portfolio performance is not coupled to the performance of a specific company.

After researching better the investment companies I noticed that for closed-ended ones such as ITs the price tends to go much farther from the NAV compared to ETFs or OEICs. So even though the IT could have lots of different shares in its portfolio contributing to its NAV (achieving a "market average"), it would also have its own price that can go far from the NAV.
Just to give an example,

Shares in Supermarket Income tumble 6% after broker downgrades popular real estate investment trust from ‘hold’ to ‘reduce’, expressing concern at its high valuation. 

The REIT dropped hugely in price in one day simply because a broker said something (irrespective if it's correct or not). This wouldn't happen with an ETF where the price is coupled to its NAV. So, to formulate my question much more clearly than before, could someone argue generally that an IT is more "risky" than an OEIC or ETF (considering they own similar assets)? Here, by "risky" I mean less volatility and more certainty. Indeed, as a worst case scenario, shareholders would get the "shareholder's equity" distributed to them, but that is typically considerably smaller than the share price and even NAV. 

I did make a note of your previous comments on debt. Indeed with rising interest rates this will be at some point significant. That's why I am looking in particular at the ones with 0% gearing. 

Regarding investing in them - no I will not before I am convinced they are the right thing for me. That is why I am asking these questions and greatly appreciate your reply!

I like to buy things at a discount, but if you'd prefer to pay more for the same assets then that's up to you. If the aim is to hold and hope it shouldn't be a big worry but it is a quirk and feature of closed ended investment companies. There are ITs that historically trade closer to NAV than others but a 10% discount is usually quite common. They tend to move towards and away depending on how the market's feeling i.e. tighter discounts when it's bullish and wider when it's bearish. ETFs and ITs investing in the stockmarket aren't competing in quite the same space anyway i.e. passive vs active.

Supermarket Income REIT plc (SUPR) has been a very fashionable sector/IT to invest in and it was trading at a big premium to NAV. As with many companies, it's often good to sell or avoid them when they're on big premiums* or when the market has become very or unrealistically bullish on them so this doesn't come as a surprise to me. 

Further, can you find an ETF that directly owns supermarkets and rents them to Sainsbury's, Tesco, Waitrose, Morrisons, Aldi and M&S? I seriously doubt it but you can find ETFs which *include* SUPR: it's a member of the FTSE250. In this instance you're comparing apples to oranges. REITs are property management companies. As opposed to the ETFs, ITs, OEICs and other funds that invest in a range of stockmarket listed shares, you'll see that it's an operating business. If you look at its annual report you'll see what I mean. 

There are still some property OEICs but they have issues around how they're valued plus liquidity issues relating to redemptions that CEICs, which includes Reits, don't have, so they're slowly disappearing as they fall out of favour.

Btw, it's never all or nothing. Your choice is not between one and the other. You can own ITs, REITs and ETFs. I do.

*Wind and solar aka renewables ITs are others to watch out for at the moment.

I find convincing the argument of buying at a discount knowing that at some point it would zero out. However it's even more convincing if there's any way to verify that the NAV would not drop significantly. Because you could buy at a discount, sell at a premium and still lose money if the NAV dropped. (I know this would happen for an OEIC too).

For example, by solar renewables I assume you mean Renewable Energy Infrastructure. Is there any way to get a sense when this infrastructure could itself drop in price leading to smaller NAV? Or maybe there is some kind of consensus that infrastructure fixed assets are more stable during a potential recession. I know there might not be a clear answer I am just asking in case there is something I am missing. Plus with a recession coming fixed asset values could be affected.

I also agree that OEICs could include ITs and that's something I find more tempting. It would be best if one could somehow cherry-pick a large number of ITs and invest in those. You can do it of course but the acquisition cost would be significant. I guess that's another reason people pick funds, but then you need to stick to what they pick. 

Thanks for the info!

wmb194

jake_jones99 said:

wmb194 said:

jake_jones99 said:

wmb194 said:

An investment company is listed on the stockmarket and is a corporation. It's just that some choose to qualify to follow different rules and become a REIT, and ordinary Investment Trust and so on. You can Google what these differences are and read the legislation.

Like any company they can own many different types of assets if they wish/are allowed e.g., there are some investment trusts which own shares in stockmarket listed companies but also unlisted companies and they can borrow money. As with any fund, including unit trusts/OEICs, the risk boils down to what they own but with the conventional trusts that own shares in many different listed companies in a number of different sectors it's unlikely you'll lose everything. If they find themselves badly underperforming they tend to get wound up, with the remaining assets sold and distributed to the shareholders.

You need to be careful of REITs as some have a lot of leverage so could see issues with rising interest rates, if their properties fell in value a long way and/or they fell vacant they could have cashflow issues, breach loan to value covenants and so on.

It feels to me that you shouldn't be investing in any of these investment companies as you clearly aren't grasping what they are.

Thank you for the reply. My previous post was quite confusing, as I was mixing up financial terms. Guided by your explanation but also my research I am able to formulate much better what my idea was. I am making a comparison between investment trusts (ITs) and other investment companies (ETFs, OEICs). 

The ETFs containing a large variation of assets are achieving market average in a particular sector. For ETFs the share price is coupled to the NAV via a redemption mechanism. Therefore, the ETF price wouldn't change significantly with:
1) the investor sentiment towards that particular ETF
2) human errors within the ETF management (maybe no errors are even possible given it's usually an algorithm doing most work)

These two conditions give me some peace of mind that my portfolio performance is not coupled to the performance of a specific company.

After researching better the investment companies I noticed that for closed-ended ones such as ITs the price tends to go much farther from the NAV compared to ETFs or OEICs. So even though the IT could have lots of different shares in its portfolio contributing to its NAV (achieving a "market average"), it would also have its own price that can go far from the NAV.
Just to give an example,

Shares in Supermarket Income tumble 6% after broker downgrades popular real estate investment trust from ‘hold’ to ‘reduce’, expressing concern at its high valuation. 

The REIT dropped hugely in price in one day simply because a broker said something (irrespective if it's correct or not). This wouldn't happen with an ETF where the price is coupled to its NAV. So, to formulate my question much more clearly than before, could someone argue generally that an IT is more "risky" than an OEIC or ETF (considering they own similar assets)? Here, by "risky" I mean less volatility and more certainty. Indeed, as a worst case scenario, shareholders would get the "shareholder's equity" distributed to them, but that is typically considerably smaller than the share price and even NAV. 

I did make a note of your previous comments on debt. Indeed with rising interest rates this will be at some point significant. That's why I am looking in particular at the ones with 0% gearing. 

Regarding investing in them - no I will not before I am convinced they are the right thing for me. That is why I am asking these questions and greatly appreciate your reply!

I like to buy things at a discount, but if you'd prefer to pay more for the same assets then that's up to you. If the aim is to hold and hope it shouldn't be a big worry but it is a quirk and feature of closed ended investment companies. There are ITs that historically trade closer to NAV than others but a 10% discount is usually quite common. They tend to move towards and away depending on how the market's feeling i.e. tighter discounts when it's bullish and wider when it's bearish. ETFs and ITs investing in the stockmarket aren't competing in quite the same space anyway i.e. passive vs active.

Supermarket Income REIT plc (SUPR) has been a very fashionable sector/IT to invest in and it was trading at a big premium to NAV. As with many companies, it's often good to sell or avoid them when they're on big premiums* or when the market has become very or unrealistically bullish on them so this doesn't come as a surprise to me. 

Further, can you find an ETF that directly owns supermarkets and rents them to Sainsbury's, Tesco, Waitrose, Morrisons, Aldi and M&S? I seriously doubt it but you can find ETFs which *include* SUPR: it's a member of the FTSE250. In this instance you're comparing apples to oranges. REITs are property management companies. As opposed to the ETFs, ITs, OEICs and other funds that invest in a range of stockmarket listed shares, you'll see that it's an operating business. If you look at its annual report you'll see what I mean. 

There are still some property OEICs but they have issues around how they're valued plus liquidity issues relating to redemptions that CEICs, which includes Reits, don't have, so they're slowly disappearing as they fall out of favour.

Btw, it's never all or nothing. Your choice is not between one and the other. You can own ITs, REITs and ETFs. I do.

*Wind and solar aka renewables ITs are others to watch out for at the moment.

I find convincing the argument of buying at a discount knowing that at some point it would zero out. However it's even more convincing if there's any way to verify that the NAV would not drop significantly. Because you could buy at a discount, sell at a premium and still lose money if the NAV dropped. (I know this would happen for an OEIC too).

For example, by solar renewables I assume you mean Renewable Energy Infrastructure. Is there any way to get a sense when this infrastructure could itself drop in price leading to smaller NAV? Or maybe there is some kind of consensus that infrastructure fixed assets are more stable during a potential recession. I know there might not be a clear answer I am just asking in case there is something I am missing. Plus with a recession coming fixed asset values could be affected.

I also agree that OEICs could include ITs and that's something I find more tempting. It would be best if one could somehow cherry-pick a large number of ITs and invest in those. You can do it of course but the acquisition cost would be significant. I guess that's another reason people pick funds, but then you need to stick to what they pick. 

Thanks for the info!

1. All other things remaining equal you'd still be better off than an equivalent OEIC. If you buy at a decent discount then you shouldn't need to worry too much. If it falls further because e.g., general market jitters it might be an opportunity to buy. If your plan is to hold and hope you can ride it out either way.

2. You need to start reading about these things e.g., there lots of articles and reports on CityWire covering ITs/CEICs, Investors' Chronicle will have articles and reviews of them, in their annual reports they will talk about the key issues but these are affected by current and future electricity prices, the cost of debt, whether the subsidies they receive are inflation protected and so on. At the end of the day the price of everything is the net present value of all future cashflows and utilities tend to be more reliable. Utilities are known as defensives for a reason.

3. It depends on what you want to buy but if you pick the right broker it's not expensive at all e.g.  Freetrade offers lots of REIT, ITs and other CEICs with its free account and some more again with its 'Plus' account (it also offers lots of ETFs).

jake_jones99

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

wmb194

jake_jones99 said:

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

It's still affected by the change in the discount rate used to value its assets and part of the calculation of the discount rate is the risk-free rate that's available, usually the 10yr Treasury, gilt or whatever government the company will feel is relevant.

jake_jones99

wmb194 said:

jake_jones99 said:

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

It's still affected by the change in the discount rate used to value its assets and part of the calculation of the discount rate is the risk-free rate that's available, usually the 10yr Treasury, gilt or whatever government the company will feel is relevant.

Thanks. I've had a few attempts at getting an intuition of the discount rate so please correct me if I'm wrong. A high discount rate means a lower present value of a given future amount. So does this refer to the price of the share, or the NAV of the company? (here it says that a higher discount rate leads to a lower NAV: https://citywire.com/investment-trust-insider/news/discount-rates-why-are-infrastructure-funds-falling/a2398279). Thanks!

Linton

jake_jones99 said:

wmb194 said:

jake_jones99 said:

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

It's still affected by the change in the discount rate used to value its assets and part of the calculation of the discount rate is the risk-free rate that's available, usually the 10yr Treasury, gilt or whatever government the company will feel is relevant.

Thanks. I've had a few attempts at getting an intuition of the discount rate so please correct me if I'm wrong. A high discount rate means a lower present value of a given future amount. So does this refer to the price of the share, or the NAV of the company? (here it says that a higher discount rate leads to a lower NAV: https://citywire.com/investment-trust-insider/news/discount-rates-why-are-infrastructure-funds-falling/a2398279). Thanks!

The term discount in this case applies to future income being valued against assumed zero risk interest rates ie government bonds. This is nothing to do with the use of the terms discount/premium in IT prices. For infrastructure companies the income will come from long term contracts for the use of physical assets, roads, wind turbines etc.

If the discount rate rises the future income is worth less now. However this may only be a temporary situation. Many infrastructure contracts will include some form of inflation matching. If the gap between bond rates and inflation rates increases one would expect the current value of the future income to increase at some point.

jake_jones99

Linton said:

jake_jones99 said:

wmb194 said:

jake_jones99 said:

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

It's still affected by the change in the discount rate used to value its assets and part of the calculation of the discount rate is the risk-free rate that's available, usually the 10yr Treasury, gilt or whatever government the company will feel is relevant.

Thanks. I've had a few attempts at getting an intuition of the discount rate so please correct me if I'm wrong. A high discount rate means a lower present value of a given future amount. So does this refer to the price of the share, or the NAV of the company? (here it says that a higher discount rate leads to a lower NAV: https://citywire.com/investment-trust-insider/news/discount-rates-why-are-infrastructure-funds-falling/a2398279). Thanks!

The term discount in this case applies to future income being valued against assumed zero risk interest rates ie government bonds. This is nothing to do with the use of the terms discount/premium in IT prices. For infrastructure companies the income will come from long term contracts for the use of physical assets, roads, wind turbines etc.

If the discount rate rises the future income is worth less now. However this may only be a temporary situation. Many infrastructure contracts will include some form of inflation matching. If the gap between bond rates and inflation rates increases one would expect the current value of the future income to increase at some point.

Thank you, but my question was how this affects the NAV, rather than the income.

Linton

jake_jones99 said:

Linton said:

jake_jones99 said:

wmb194 said:

jake_jones99 said:

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

It's still affected by the change in the discount rate used to value its assets and part of the calculation of the discount rate is the risk-free rate that's available, usually the 10yr Treasury, gilt or whatever government the company will feel is relevant.

Thanks. I've had a few attempts at getting an intuition of the discount rate so please correct me if I'm wrong. A high discount rate means a lower present value of a given future amount. So does this refer to the price of the share, or the NAV of the company? (here it says that a higher discount rate leads to a lower NAV: https://citywire.com/investment-trust-insider/news/discount-rates-why-are-infrastructure-funds-falling/a2398279). Thanks!

The term discount in this case applies to future income being valued against assumed zero risk interest rates ie government bonds. This is nothing to do with the use of the terms discount/premium in IT prices. For infrastructure companies the income will come from long term contracts for the use of physical assets, roads, wind turbines etc.

If the discount rate rises the future income is worth less now. However this may only be a temporary situation. Many infrastructure contracts will include some form of inflation matching. If the gap between bond rates and inflation rates increases one would expect the current value of the future income to increase at some point.

Thank you, but my question was how this affects the NAV, rather than the income.

The NAV is the current value of the net income from contracts+ estimated current value of income from assets after the contracts expire.  So if the discount rate goes up the NAV goes down.  The NAV will only be published quarterly so current NAV figues do not reflect current reality.

See https://www.cadwalader.com/fund-finance-friday/index.php?nid=191&eid=1454&tag=2022-06-03-Infrastructure+Funds+–+Key+Features+for+NAV+Facilities#utm_source=Mondaq&utm_medium=syndication&utm_campaign=LinkedIn-integration

jake_jones99

Linton said:

jake_jones99 said:

Linton said:

jake_jones99 said:

wmb194 said:

jake_jones99 said:

Hello all, just a quick question. If the gearing of a company is 0% (e.g. HICL Infrastructure https://www.theaic.co.uk/companydata/0P00008F9F) does it mean its debt is 0 and does not suffer direct impact from interest rate rises?

It's still affected by the change in the discount rate used to value its assets and part of the calculation of the discount rate is the risk-free rate that's available, usually the 10yr Treasury, gilt or whatever government the company will feel is relevant.

Thanks. I've had a few attempts at getting an intuition of the discount rate so please correct me if I'm wrong. A high discount rate means a lower present value of a given future amount. So does this refer to the price of the share, or the NAV of the company? (here it says that a higher discount rate leads to a lower NAV: https://citywire.com/investment-trust-insider/news/discount-rates-why-are-infrastructure-funds-falling/a2398279). Thanks!

The term discount in this case applies to future income being valued against assumed zero risk interest rates ie government bonds. This is nothing to do with the use of the terms discount/premium in IT prices. For infrastructure companies the income will come from long term contracts for the use of physical assets, roads, wind turbines etc.

If the discount rate rises the future income is worth less now. However this may only be a temporary situation. Many infrastructure contracts will include some form of inflation matching. If the gap between bond rates and inflation rates increases one would expect the current value of the future income to increase at some point.

Thank you, but my question was how this affects the NAV, rather than the income.

The NAV is the current value of the net income from contracts+ estimated current value of income from assets after the contracts expire.  So if the discount rate goes up the NAV goes down.  The NAV will only be published quarterly so current NAV figues do not reflect current reality.

See https://www.cadwalader.com/fund-finance-friday/index.php?nid=191&eid=1454&tag=2022-06-03-Infrastructure+Funds+–+Key+Features+for+NAV+Facilities#utm_source=Mondaq&utm_medium=syndication&utm_campaign=LinkedIn-integration

Thank you for clarifying it. It wouldn't have occurred to me that such huge assets don't have a valuation similar to the property market, and they are valued purely via their future income. This is also confirmed in the HICL annual report. And then discount rates account for the cost of time, and they clearly go up with interest rates. So in this sense is it fair to say that the evaluation of infrastructure is more sensitive to interest rates than typical property? Property will probably also be affected due to higher mortgage rates, but it's an indirect link not direct one.

This evaluation carries more meaning for the average investor, but at the same time it's much harder to access as they have to wait for the company reports (and then also trust them). I think that the term discount rate feels very difficult to wrap your mind around, as one could simply say "you adjust the company's cash flows by accounting for risk and cost of time, and this gives you a future income of X" rather than going backwards in time and saying what's the present value of a future sum. But maybe it makes more sense once you're used to it, given it's a common term in the reports.

jake_jones99

Coming back to older subjects in a new light, what does everyone think of Supermarket Income Reit nowadays? (https://www.theaic.co.uk/companydata/supermarket-income-reit/performance )
It is trading at roughly 25% discount to NAV and the dividend is now roughly 7%. The NAV seems like it wasn't updated though. According to https://citywire.com/investment-trust-insider/news/supermarket-income-we-think-this-is-the-bottom-after-20-fall/a2413283 seems like some estimated the true SUPR discount is 2%. The managers said the other day they believed the bottom was reached (convenient for them to say). Any thoughts?

@wmb194 @Linton