Two years ago I bought a basket of Italian real estate funds with a simple thesis: they are all liquidating (because they all have a fixed end date) and they are trading at a big discount to net asset value. Since then that thesis has been playing out slowly. Back then there were a total of 24 funds with a total net asset value of €4.0 billion. Thanks to asset sales (and also some write-downs) there are now 21 funds remaining with a total asset value of €2.6 billion. The total market valuation is €1.4 billion for an overall discount of 46%, down just slightly compared to the 48% discount two years ago.
While the overall discount has remained roughly constant there have been some significant shifts between individual funds. I bought for example Europa Immobiliare N1 at a 54% discount, but thanks to some successful asset sales the discount is down to 14% (pro-forma for a large liquidation dividend that will be paid next month). Other stocks have seen their discount grow. Two years ago I thought that the Atlantic 1 fund was richly valued at a discount of just 24%, now it’s actually one of the cheapest funds with a 58% discount. I have strongly considered adding this one to my basket, but so far the relative high leverage (50% LTV) has been holding me back.
I did decide to sell Europa Immobiliare N1 though, and added a couple of other positions. A new addition to my basket is Amundi RE Italia. They haven’t made a lot of progress with liquidating so far and incurred some asset write-downs, but the discount is huge at 61%. My other additions are Securfondo and Socrate. Securfondo has been making good progress with liquidating and has only one building remaining, while Socrate also started with selling assets. A great site to keep track of what is happening in this sector of the market is this one. It’s Italian, but it keep track of asset sales, financial reports and other developments related to these funds.
My current basket of Italian REIFs and their performance so far looks as follows:
|Ticker||Purchase Date||entry||Sell Date||dividend||Price/Exit||Return|
|QFSEC.MI||Mar 27, 2017||260.10||–||–||259.90||-0.1%|
|QFARI.MI||Mar 27, 2017||725.50||–||–||724.00||-0.2%|
|QFSOC.MI||Mar 27, 2017||237.30||–||–||245.00||3.2%|
|QFAL.MI||Feb 26, 2015||1,150.00||–||97.00||1,329.00||24.0%|
|QFARE.MI||Feb 23, 2015||1,120.00||–||168.50||950.00||-0.1%|
|QFDI.MI||Feb 26, 2015||41.01||–||–||62.65||52.8%|
|QFEI1.MI||Mar 2, 2015||720.00||Mar 27, 2017||450.00||948.5||94.2%|
|QFID.MI||Feb 27, 2015||70.90||–||3.50||77.65||14.5%|
|QFIMM.MI||Feb 27, 2015||1675.00||–||–||1400.00||-17.4%|
|QFVIG.MI||Feb 27, 2015||1635.00||–||1395.45||850.00||37.3%|
Author is long everything in the table
Thanks for the interesting idea! You have a great blog! I just went through a couple of the annual reports on these REIFs and it seems like they have a game where they continue to do 3 year extensions , likely to maximize the management fees they can earn. I think they charge anywhere from 1%-2% of NAV. If they can continue to use these clauses to do 3 year extensions, then they will keep making money. If they liquidate the fund, they lose their management fee stream. For example, Socrate 6 months ago extended their expiry date to 2020. Some funds have done multiple 3 year extensions. I’m sure I could be missing something, but assuming a 5-8 year realization to full value, these may not be as attractive as the seeming discount and an expected liquidation event based off of current expiry dates. I would be curious to hear your thoughts. I think the reason Elliott may have tried to go activist on some of these funds is that if you could actually force management to sell all the assets and return the cash to shareholders in a reasonable time frame, you make a significantly higher IRR compared to letting these management teams suck your blood for 10 years.
I don’t think that’s what really going on. Sure, incentives between shareholders and the managing company aren’t exactly aligned, but to get an extension they have to get shareholder approval and in a decent number of cases the management fee is reduced. I think the main issue is simply that most of the real estate in these funds is simply a very illiquid asset, and not easy to sell. I think it was Fondo Obelisk (now almost completely liquidated) that decided to do a bit of a fire sale last year, and they had to sell assets a a huge discount (see: http://www.confconsumatori.it/irs-obelisco-cosa-possono-quotisti/).
I looked at it too when you mentioned it but decided to pass. You are essentially betting on the goodwill of a bunch of crooks. Italy is the last place you to take such a bet.
I think that’s a bit too strong point of view. The management fee is quite reasonable for most/all these funds. And sure, a REIT aimed a retail investors is usually not buying the best properties on the market at the best prices. But don’t think these things are so much worse than so many other products aimed at retail investors that are usually just fee generating products without an alpha generating investment strategy. But that doesn’t mean that it can’t be a good deal if you can buy it at a huge discount.
I am reading the TurtleCreek letters and it was said an intrinsic value, or net present value of future cash flow, was not possible to gauge without an able and honest management. It is very rare to find the combination in Italy, at least IMHO. If you were to find a single company in that sector with an insight into its assets and people, I think it is a great idea to put a lot of money in; however, if you buy them in a basket, most likely you will get a sector like return. There is a lot of uncertainty regarding how and when the future cash flow will be realized. And since the incentives are not there, for example, management actually wants to hang on the job by prolonging the life of the funds, how could we realistically arrive at a intrinsic value?
I am sorry I did not elaborate. But this was exactly what I was thinking at that time.
What exactly intrinsic value is, is of course a difficult question. But there is certainly a number where these funds are a buy. Just because management incentives aren’t perfect it doesn’t mean that it’s totally uninvestable. My bet is that at a discount of >50% is more than enough to compensate for the uncertainties and risks.
Also note that looking at the past two years the speed of the liquidations is actually reasonable. Going from 4 billion in NAV to 2.6 billion in NAV is not bad (especially considering that not all funds are yet in liquidation mode) and returns during this period have also been pretty okay.
What is your IRR so far on the basket?
I own INTG since middle 2015, which is also a hugely discounted real estate company in the US. Various sources put the discount at 70% to its NAV. It also has a less than desirable CEO and the ride so far has been a roller-caster. I wonder why I passed those Italian ones and went into this one, and still nag at you while we are in essentially the same boat! There must be a strong bias for me towards Italian people.
IRR at the moment is a bit more than 13% with a more than 2 year holding period.
And I remember looking at INTG years ago and passing, don’t know anymore why…
TurtleCreek makes a lot of sense, but I do think it’s not very useful unless qualified the odds, given the imperfections of assessing intrinsic value.
Moreover, already when I hear “present value of future cash flow,” I’m immediately thinking going concern valuation, which has entirely different rationale/considerations than those for undervalued REITs-in-liquidation, essentially a quasi- special situation depending more on a near-term event working out than on long-run microeconomics.
So while it’s true you’re betting on the goodwill of an Italian manager to take said action, you have a situation where — as a basket — Tails you get a small dividend net of perhaps a modest loss in capital (esp in low LTV names), Heads you get 2x from liquidation (being actively sought in some cases). Hence the probabilities that Italian manager is a crook would have to be rather high (not impossible) for losses to accrue.
Or Alpha, do you view these differently? Particularly, how do you think of your downside (permanent, not temporary quotational loss) for these Italian REITs?
That’s roughly how I see it. Biggest downside risk is IMO that some funds might decide to do a fire sale of some assets at a huge discount (like what happened last year with Fondo Obelisk), but by buying at a huge discount as well that’s probably not going to be disastrous either.
very interesting idea!
i’ve been looking for small, illiquid but safe plays that would benefit from anyone other than le pen winning french election… and euro basically holding together.
wish i spoke italian to dig into individual names a bit
Google Translate is decent. I always translate the pdf first before doing anything else.
This is a great idea! Thank you very much for sharing. I bought QFSOC, QFARI and QFATL.
I like this trade because: (1) as AV stated, discount to price provides great cushion against losses and disaster such as break of EU, (2) potential return is pretty good for a 2 to 3 year time horizon, (3) we are betting against the retail crowd in italy who has given up on these funds given the price beating for the past 5 years… look at the price graphs and you understand why everyone sold at a loss even with 50%+ discounts hardly anyone wants them, (4) time horizon is not long enough to be impacted by the interest rate increase trend in europe that will take hold in the next few years.
I do not like the funds income statement. The properties have a decent cap rate (between 5 and 7.5%) but the many fees are eroding any profitability – this is mitigated by the target liquidation/ sales. QFATL has a 50% loan to value, however, the portfolio of tenants is outstanding (carrefour, telecom, etc) – I think trading at 215, with book at over 500 – it is a sweet deal. Everybody is also giving up on commercial real estate in Italy while I think there is a good chance we see a bit of price lift considering a) QE still ongoing – and in the US the asset prices continue to go up for many quarters after QE ended, i.e. QE end and price declines are inevitable but there is a delay, b) institutional real estate investors in europe are increasingly looking at Italy for properties to juicy their returns (I am from the institutional asset management world)
In sum, great asymmetric trade and I have 10% of my potfolio in the 3 funds mentioned. Thank you AV!
You’re welcome 🙂
Thanks for the idea! Which broker do you use to trade these Real Estate Funds? I can trade shares in Italy with my brokers but not close ended funds. Thanks!
I use Interactive Brokers
thanks for the post. I am curious, are you using google spreadsheets to track these closed funds? would you care to share your spreadsheet?
Any idea why these have moved up so much in the last couple of months?
I don’t know. But a couple of funds have been successfully liquidated at the end of last year, which presumably implies something positive for the remaining funds as well. In addition, I believe 2017 was a decent year for the real-estate market in Italy.
Is there a final post of how these ended? I cannot seem to find it.
Also where are you locating the proposed end dates of these REITs in the annual reports? Is there specific place they will write about liquidation or is each one different?
I still own a couple while a decent amount have now fully liquidated as well. Perhaps I’ll do an update soon, they are now all publishing their annual reports, so perhaps a good time for a post.