week 5 - reit's Flashcards
role of property funds
PFs are intermediaries, they own properties on behalf of investors
PFs generally structured as a trust
Returns come from two areas:
1. Income return (dividends) generally derived from the RENTS
- Capital growth by the units increasing in value
The process of setting up PFs is called ‘securitisation’
Securitisation is the issuing of securities back by investment assets
The income and capital gains from property investments are less volatile than shares, but more volatile than interest-bearing securities.
Evidence shows that property returns change independently to the returns of shares and bonds, thus providing good diversification benefits
Define the term ‘securitisation’ and give an example.
SOLUTION:
Securitisation is the issuing of securities backed by investment assets. An example is when a property trusts purchases properties and sells units in the trust. The units value is based on the market value of the underlying properties.
Assume a trust owns a portfolio of properties valued at $500 million. If the trust has on issue 50 million units and borrowings of $200 million, the net asset value is $300 million ($500m - $200m). The per unit value would be $300m/50m = $6.00.
explain measuring portfolio risk
Portfolio risk can be calculated as the standard deviation of the portfolio
In contrast to portfolio return, risk is not simply the weighted average of the individual assets standard deviation (if we do that we are ignoring the assets relationship each other)
We need to consider the relationship between the assets (COV)
Covariance (COV) is a measure of how two independent assets move in relation to one another.
However, COV is unbounded (range from negative ∞ to positive ∞)
Correlation coefficient (COR) is a standardised value of the covariance
You can mathematically calculate these using formulas (for us we will use excel) – see recording
COR is bound within the scale of +1 to -1
COR of +1 means the two assets move identically to each other (no risk reduction)
COR of -1 means the two assets move exactly opposite to each other (full risk reduction)
Define the difference between indirect and direct property investment. What advantages does indirect have over direct?
Direct property investment is when the investor owns the property themselves. They are responsible for the management (or employ a manager), costs (maintenance etc.) and have control over the investment decisions (e.g. when to sell, who to lease to).
Indirect property investment is when an investor purchases units in a property fund. The money is pooled together with other investors and properties are purchased. The investor has no say over the management and operation of the property.
Indirect provides a number of advantages over indirect:
• Lower entry costs.
• Improved liquidity.
• Access to higher quality properties.
• Improved opportunities for diversification benefits.
• Properties are managed by experts in the area.
• Can be held for shorter investment periods.
What does ‘tax pass through’ mean in relation to property trusts?
Tax pass through means the tax liability of the trust is passed through to the unit holder (investor), who are then taxed at their marginal tax rate. Hence, the responsibility of paying taxes is passed through to the unit holders.
What are the two types of management structures for REITs? How do they differ?
The two types of management structures are, internally (or stapled) and externally managed.
Internally managed REITs are “stapled” to a company and traded as one security.
The trust holds more “passive” property investments, whilst the company undertakes property management & development activities (non-passive activities). Unit holders receive a dividend from the company and a distribution from the trust (as one payment).
Externally managed REITs are set up with an agreement with a management firm. The management company is an external party, who manages the properties and charges the trust a management fee. External REITs usually have debt covenants in the Trust Deed, and generally seen as a more “passive” property investment
Identify and describe the four main types of unlisted property funds.
Four main types of unlisted property funds (or trusts) are: • Wholesale trusts • Retail open-ended trusts • Public property syndicates • Property securities funds
Wholesale trusts
• Hold assets on behalf of institutional investors (super funds)
• Generally min holding of $1m
• Open-ended funds, can issue new units if there is demand
Retail open-ended trusts
• Similar to wholesale, but open to smaller investors.
Public property syndicates
• Syndicates formed as trust after purchasing of units by investors
• Trust purchases properties, investors receive distributions during the term of the syndicate
• Trust has a fixed life, after which properties sold and capital gains distributed to unit holders
• Trust life can be extended if 75% of holders approve
Property securities funds
• Buy units in other trusts (mostly A-REITs)
• Distributions from the other trusts is distributed to unit holders
what is modern portfolio theory
Modern portfolio theory (MPT) can be used to identify the most efficient portfolio that provides the highest level of diversification (lowest standard deviation given the investors risk preferences) and highest return.
The theory is developed with a mean-variance framework
Realistically, the mean-variance framework is difficult to apply to individual properties
However, we can apply the framework to composite property and sector indices (e.g. REITs) to provide investors with guidelines as to which asset classes (and types of properties) offer the greatest risk-return payoff
explain the efficient frontier
Our aim is to create a portfolio with the highest return for a given level of risk, or one with lowest risk for a given return.
How do we do that? We need to find our Efficient Frontier.
We take all our possible portfolio combinations and graph them according to their risk/return combinations.
The upper-most boundary of this graph, the curved line joining the highest return for each level of risk, represents our Efficient Frontier. We want a portfolio on this line!
Aim to produce a portfolio which fits on the fore mentioned line.
charactersitics of direct ownership
full control - but requires management large capital outlay high transaction costs not liquid long term investment
charactersitics of indirect ownership
agency costs affordable paying for managment by agency - expertise high estlabishment costs improved liquidity
explain property funds and taxation
Trust are tax exempt as long as they distribute all of their taxable income
The components of their tax liability are “passed through” to unit holders who are then taxed at their marginal tax rate
Trust must identify what component of their distributions is taxable income or tax deferred
Tax deferred income is not taxable, but it reduces the cost base and is then accessed as part of the capital gain calculation
Example
Assume you purchased 1,000 units in PT REIT at the start of 2015 for $3 each
In 2015 the trust distributed $0.20/unit and $0.25/unit in 2016
Management declared that $0.05 of the distribution in both years came from depreciation of the REITs properties.
In this case, $150 ($0.15 x 1000) of the distribution is 2015 and $200 ($0.20 x 1000) in 2016 is considered taxable income
managment of reits can be
Externally managed trusts (unit trusts)
15 listed
5.75% of sector market cap.
Internally managed trusts (Stapled entities)
36 listed
94.25% of sector market cap.
types of unlisted property funds
Wholesale trusts
Hold assets on behalf of institutional investors (super funds)
Generally min holding of $1m
Open-ended funds, can issue new units if there is demand
Retail open-ended trusts
Similar to wholesale, but open to smaller investors ($5,000 min subscriptions)
Public property syndicates
Syndicates formed as trust after purchasing of units by investors
Trust purchases properties, investors receive distributions during the term of the syndicate
Trust has a fixed life, after which properties sold and capital gains distributed to unit holders
Trust life can be extended if 75% of holders approve (exemptions to exist)
Property securities funds (funds of funds)
Buy units in other trusts (mostly A-REITs)
Distributions from the other trusts is distributed to unit holders
lecture calcs
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