TPF is one of the largest funds on the NCREIF Fund Index – Open End Diversified Core Equity, which comprises 24 US flagship core funds totaling $260.1 billion of gross real estate assets and $218.8 billion of net real estate assets. However, the fund has suffered performance issues in recent years, leading to a redemption queue approaching $6 billion, according to sources familiar with the vehicle.
The Swiss investment bank has consequently unveiled fee breaks in an attempt to prevent more investors from exiting the fund. Beginning in the fourth quarter, UBS will agree to reduce the fund’s base fee by 25 percent for existing limited partners that agree to lock up their capital for four years, the sources said. The base fee is between 0.75 and 0.90 percent, depending on the amount committed.
However, the sources said the requirement to lock up capital for four years is effectively a soft commitment: LPs will still be able to redeem their capital in the fund but would be required to pay a breakup or withdrawal fee.
Also starting this quarter, existing investors will pay no fees on additional investments up to the same amount of their existing commitments, the sources told PERE. And new capital committed to the fund will not be subject to a lock-up.
The fee breaks come on top of UBS waiving the fund’s incentive fee for two years starting in Q2 2018, according to a November 2018 document from San Francisco-based consulting firm Callan.
UBS is said to have had discussions on the incentives during an advisory board meeting in late September or early October before formally announcing the new terms to investors.
It is offering the fee breaks at time when the redemption queue for TPF has been mounting rapidly. At nearly $6 billion, the exit queue is now almost triple the $2.1 billion it was at the end of the first quarter, as PERE reported in July. The redemption requests are currently equal to more than 35 percent of the fund’s capital, and UBS has told investors it is aiming to pay up to $500 million in redemptions every six months.
As of September 30, redemption requests for TPF had reached $4.4 billion in total NAV, with UBS projecting capital to be returned within eight to 10 quarters, according to a September memorandum from New York-based investment consultant Segal Marco Advisors to the City of Ocala General Employees’ Retirement System. UBS is on track to pay out approximately $2 billion of redemptions during the 2019 calendar year, the document stated.
Andrew Mitro, a principal at private markets firm StepStone Group, said the last time ODCE funds had large exit queues was during the global financial crisis: “Since that time, the ODCE index has had such a positive run-up in performance, redemptions have been fairly normalized across the funds and queues have not really formed.”
Fee breaks are understood to be unusual in the open-ended core fund universe. Three other open-ended funds – one of which was also in the NFI-ODCE index – also had queues and similarly offered attractive fee breaks to existing investors, according to PERE research.
Mitro, however, believes that proposed fee breaks should be reviewed along with other diligence factors when considering a current or potential investment in an open-end fund. “We believe investors should look at the entire opportunity when considering an investment, including areas like, how important is the fund to the firm? Do you see a good level of support from the firm’s ownership or broader platform for the fund going forward? What is your view on the current portfolio, in addition to fees and other legal terms?”
He added: “Our view is fees should not drive your decision. Obviously, it’s an important part of the decision, but you never want to do it because it’s a cheap fee.”
The redemptions at TPF have primarily been driven by weak performance, according to multiple investor documents. In its memorandum, Segal Marco explained: “While TPF is positioned as more of a ‘conservative’ fund and will typically not perform as well as some of its more ‘growth oriented’ peers in an up market, the fund’s underperformance over the last several years has largely been attributed to asset-level issues.”
The most significant of these issues concerned TPF’s retail portfolio, which generated a negative 18.1 percent return at the end of the second quarter. Other factors included the fund’s underweighting to Western industrial real estate and its underperforming office and hotel assets.
As of June 30, the fund lagged its ODCE benchmark for the quarter to date and year to date, as well as the one-, three-, five-, seven-, 10- and 15-year periods, according to Segal Marco. In its memorandum, the consultant said it had monitored the fund over the previous two years but “the underlying performance issues have not materially improved.”
The outlook on the fund’s future performance was not optimistic, either. In the Fiscal Year 2020 Annual Investment Plan from the San Diego City Employees’ Retirement System, Cleveland, Ohio-based consultant Townsend Group noted: “UBS TPF may underperform the ODCE index as the portfolio repositions and it focuses on asset sales to satisfy redemptions.”
SDCERS, whose investment in TPF was $81 million as of December 31, 2018, had submitted a $47 million redemption request in September 2018, with Townsend recommending that the pension redeem its remaining position in the fund in fiscal year 2020, which began on July 1.
The majority of the 24 ODCE funds do not face redemption queues. TPF is currently the only fund in the index with a significant exit queue that is expected to require an extended period to pay out, according to PERE research. Only four other funds in the index had redemption queues as of Q2, all of which were expected to be met within one or two quarters. In fact, 15 ODCE funds had contribution queues, most of which were below $250 million, while four had queues exceeding $250 million, the data showed. The remaining four had neither contribution nor redemption queues.
TPF is one of the oldest open-ended core funds in private real estate, with an inception date of January 1978.
UBS declined to comment for the story.
To read more on the UBS Trumbull fund and investors’ changing appetites for open end diversified core real estate funds, click here for this month’s cover story