The Financial Conduct Authority has postponed its decision on notice periods for open-ended property funds while it looks into creating a new fund structure to address the issue.
The watchdog has released the results of its previous consultation on fund notice periods - which included a suggestion that investors in open-ended property funds could have to wait 180 days to get their money back.
But it has said it needs more time to receive feedback on a new structure it is proposing to solve the issue - the long-term asset fund.
This concept was first outlined by the Investment Association in 2019 and is a new open-ended fund structure designed specifically to facilitate investment into long-term, illiquid assets.
The FCA is now consulting separately on the LTAF and says it will not confirm specific property fund rules until that consultation has been completed.
In its consultation on the LTAF, the watchdog said a working group was currently "considering how to ensure that the wider ecosystem can operationally support the LTAF as a non-daily dealing fund. This could lay the ground for other non-daily dealing funds in the future."
"As the implementation of notice periods for property funds potentially poses similar operational difficulties, we will not take a final decision on whether to introduce notice periods for open ended property funds until we have received feedback from the LTAF consultation."
The FCA's proposals for mandatory notice periods for investors wishing to redeem their investments had proven contentious, with some saying they could "spell the end" for property funds.
For LTAFs the FCA has said it will not set out specific rules for how they will manage liquidity in practice, instead allowing managers to use the "liquidity tools" they deem appropriate.
The FCA said this may include the ability to use notice periods on redemptions and subscriptions, to defer redemptions, or to limit the amount of the fund that could be redeemed at any dealing point.
The regulator made it clear that it wants to increase the diversity of offerings in the sector, including funds that deal less frequently.
“The lack of operational investment to support a wider range of fund structures, including funds that deal less frequently, is reducing consumer choice and preventing innovation,” it added.
Liquidity mismatch
The aim of the new property fund structure would be to solve the fundamental mismatch of the illiquid nature of real estate that is held by funds which allow investors to trade daily.
This mismatch has led to the majority of open-ended property funds gating for withdrawals at various points over the past 10 years due to flurries of redemptions amid economic uncertainty - for example due to Brexit or the uncertainty surrounding the Covid-19 pandemic.
Former Bank of England governor Mark Carney famously said funds which invest in illiquid assets but offer daily dealing are "built on a lie".
The longest period of suspension came last year, as real estate valuers enacted ‘valuation uncertainty’ clauses on the funds as they were unable to adequately value the properties held by the funds due to the pandemic.
Investors hurried for the exit, and the funds were at risk of having to conduct a fire-sale of assets to fulfill these withdrawals.
Most funds gated for a number of months until the market settled and they were able to build up enough cash reserves to be satisfied that they could fulfill redemption requirements.
Some of them have only recently re-opened for withdrawals, with M&G's fund re-opening two weeks ago.
Notice periods
Last year the FCA conducted a consultation specifically on notice periods and said the feedback was split broadly in half.
Supporters of the proposals, which included notice periods of up to 180 days, said it would improve consumer protection and encourage long-term thinking from investors.
Many of these responses added that rules would only be successful if the funds they applied to could retain their status as qualifying investments for Isas.
Those who opposed the notice periods said it would substantially reduce investor and adviser demand for the funds, and that real estate investment trusts did not offer an appropriate substitute because of ‘price volatility’.
The naysayers added that a ‘one size fits all’ approach was not appropriate, and that the rules would trigger considerable outflows from property funds, leading to the very liquidity crisis the FCA was trying to avoid.
Other reasons for opposition included the challenges it would cause to wealth managers operating model portfolios, who would struggle to rebalance the portfolios and potentially causing them to breach agreed risk bands.
The earliest these rules will be implemented is in the third quarter this year, after the City watchdog has completed its consultation on long-term asset funds.
The FCA added that if mandatory notice periods were applied, there would be an implementation period of 18 months to two year in order to allow firms to make operational changes.
sally.hickey@ft.com
