Successful long-term investing depends on effective portfolio diversification. While a typical investor might only consider diversification between publicly traded stocks and bonds, institutional investors have been using non-listed alternative investments, such as private real estate and public and private credit, for decades. These assets provide enhanced diversification and maximize risk-adjusted returns. In recent years, evolutions in product design for public non-listed alternative investments have made these investments better suited to meet the needs of retail investors.
One of the product innovations that has most benefited investors are new redemption and liquidity programs, which allow investors access to portions of their investment with more frequency than old product structures provided. Over the past few months, a handful of public non-listed REITs reached their monthly or quarterly caps on investor repurchases, which probably raised important questions from anyone watching who may be less familiar with these new product designs.
To answer those questions, here are three things to know about the redemption programs typically used by this new generation of non-listed REITs.
Non-listed REITs hold illiquid assets in the form of real estate or real estate financing. Because they're long-term, real estate investments aren't designed to be sold quickly at a price approximating their true value. Newer non-listed REITs have done a better job of managing investors’ desire for some liquidity while simultaneously providing exposure to private real estate assets (historically a less liquid asset class). By striking a new balance with their innovative product design, these new alternatives enhance access to portfolio-diversifying investments while addressing the liquidity preferences of some retail investors through repurchase programs.
Because non-listed REITs invest in less liquid assets, they must limit the amount of liquidity they can provide in their repurchase programs. Non-listed REITs will typically repurchase shares reflecting no more than a specified share (e.g., 2%) of the net asset value of the underlying portfolio in any month, which varies by sponsor.
These limitations help ensure that the non-listed REIT won't be forced to sell illiquid assets at a discount to meet repurchase requests. The limitations thus protect all stockholders of the REIT.
Some non-listed REITs recently received repurchase requests in excess of these limits and therefore couldn't fulfill all repurchase requests. The REITs continued to operate as designed and as disclosed to investors. The non-listed REITs that recently received excess repurchase requests are some of the largest asset management companies in the world and have assembled high-quality, diversified real estate portfolios.
This recent period has been a good “test” for the new generation of non-listed REITs — from a liquidity perspective — and one that funds have passed.
The new generation of nontraded REITs has been designed with monthly or quarterly repurchase limits to better align the interests of all stockholders with the less liquid nature of the assets, while allowing for a significant amount of liquidity for investors that want it.
Investors achieve the best outcomes when they have a full understanding of the financial products in which they invest. Market participants should continue to provide investors of all types with transparent information about alternative and portfolio diversifying investments, including how they work. While portfolio diversifying investments, like non-listed REITs may not be suitable for everyone, they are broadly considered an excellent diversification tool.
Anya Coverman is president and CEO of the Institute for Portfolio Alternatives.
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