Denominator effect may be ‘overstated’

Private property fund write-downs could be helping LPs to take part in the investment opportunity of a generation by pushing down an investors’ allocation to real estate.

With private real estate portfolios being “materially” written down, Connecticut-based Landmark Partners said the so-called denominator effect may be “overstated” for some LPs.

LPs are struggling to make new commitments to funds owing to a combination of the denominator effect, declining distributions and pending capital calls to existing funds. However, rising values of other asset classes, combined with GP real estate write-downs, have significantly eased the pressure on LP allocations. According to PERE sources, private property fund fourth quarter write-downs averaged around 25 percent.

“Far from being overinvested in real estate, certain investors may really be underinvested and the opportunity to take advantage of well placed strategy and experienced managers is one that is now perhaps more compelling than it has been for more than a decade,” secondaries specialist Landmark said in a white paper, The Denominator Dilemma.

The firm said it expected write-downs to continue in 2009, albeit at a lesser pace than seen during the past 12 months. Various indices have suggested property values have declined peak-to-trough by between 40 percent and 50 percent.

Landmark said 50 percent declines in net asset value for many value-add and opportunistic funds would leave highly leveraged funds with “zero or negative remaining equity”.

However, Landmark warned a lag in reporting write-downs could leave some LPs in the cold. “The additional declines should figure into portfolio planning by investors who expected to pursue future real estate commitments. The apparent over-allocation may not be an over-allocation after all and halting new allocations may hinder long term returns.”