German real estate Spezialfonds look set to thrive, but Henning Klöppelt warns that they need to adapt to a changing environment. He speaks to Barbara Ottawa about the burgeoning fund sector
Since the turn of the century, the asset volume in real estate Spezialfonds has increased fivefold and now stands at €30bn in 140 different funds. Some market participants think that the locally regulated vehicle created for German institutional investors might suffer under the new Solvency II regime. But Henning Klöppelt, managing director at Warburg-Henderson, believes Spezialfonds will thrive, as long as they adapt to the situation.
Klöppelt, managing director at Warburg-Henderson, a Spezialfonds joint venture between Henderson Global Investors and private MM Warburg, envisages a new generation of funds - ‘Spezialfonds 2.0' - that will be smaller, more flexible and more tailored to investors' individual needs.
The most common users of the vehicles are German insurance companies, but there is uncertainty over how incoming Solvency II regulations will affect their appetite for real estate and, consequently, Spezialfonds themselves. The new regulations will require insurers to hold capital in reserve when investing in ‘risk assets' and so has the potential to make the real estate unattractive from an asset allocation point of view. Large insurers might be able to mitigate this effect by using their own internal risk models, but smaller companies will lack the necessary resources.
But according to Klöppelt, this is where "fund providers could support the insurers in introducing individual risk models to avoid the standard rates". This will be "uncharted territory" for Spezialfonds providers and it would require new interfaces for high quality data processing, he says.
"Spezialfonds will be used more tactically and for this they will have to have a smaller volume of up to €1bn. And there needs to be a broader product range," Klöppelt says. Many investors will employ core-satellite strategies, although "the broadly diversified, pan-European real estate Spezialfonds" will still cater for investors looking for a more basic investment.
"On top of that, investors might implement a Masterfonds to reduce administration work, such as the number of investment committee meetings they will have to attend," says Klöppelt.
If Spezialfonds are to be used more tactically, fund managers will need to market strategies that they are able to deploy quickly and with seed assets in place. "When fund managers identify a certain strategy or market, ideally they should already have a portfolio at hand to present to possible investors," he says - for example, securing a six-month exclusive deal with sellers of real estate assets, while raising capital from investors.
"This would be ideal for satisfying client demands in today's more volatile market environment [where] good reputation is essential for a fund manager," Klöppelt adds. As alternatives, he mentions provisional financing, or the fund provider buying the portfolio itself before transferring it to the fund.
Warburg-Henderson's UK parent, Henderson Global Investors, earlier this year launched its first Spezialfonds outside the Warburg-Henderson banner. The Henderson German Retail Income Fund is independent of Warburg-Henderson, but because Henderson Global Investors has not established its own Kapitalanlagegesellschaft (KAG) entity (which under German law is required for companies offering Spezialfonds) it is employing Warburg-Henderson's wholly-owned fund administration subsidiary IntReal.
"Henderson has seen potential in the retail sector and it might launch more Spezialfonds in future, which would, of course, be coordinated with us," Klöppelt says.
IntReal was set up three years ago to enable companies that do not want to go through all the trouble and costs of setting up their own KAG, offering the ability to outsource risk controlling and administration, among other services. IntReal is now completely separated from Warburg-Henderson, with Klaus Hoffmann, Detlef Mertens and Michael Schneider all appointed as managing directors in October 2011, replacing Klöppelt as interim managing director.
Another trend in the Spezialfonds market is the growth of so-called Individualfonds, whereby a single investor provides the capital . This is the preserve of large investors given the need for a sizeable minimum investment volume. Klöppelt sees the main attraction of these Individualfonds in their flexibility to help large insurers under the new Solvency II regime.
"They have maximum control over their own investment, no matter whether it is the leverage quota, risk orientation or the future country allocation. The fund can be adapted to the client's needs or regulatory changes at any time," Klöppelt says.
Other investors are using Individualfonds to outsource administration of directly held properties and make use of performance advantages derived from the fund vehicle. But Klöppelt stresses that these funds, apart from having a "justifiable" maximum volume, also need to have a minimum of €250m to offer enough diversification. As this is too large a sum for a single real-estate investment by smaller pension investors or insurers, so-called club deals are on the rise where like-minded investors join forces to commission a Spezialfonds. Warburg-Henderson itself initiated such a fund in the spring of 2011 for four German pension funds with a target volume of €300m to be invested in pan-European property.
Klöppelt explains that it is difficult for investors to agree on a joint strategy but that Warburg-Henderson is supporting the establishment up of these co-operative funds. All in all, he believes in further growth of the Spezialfonds and stresses that these also have been virtually unaffected by the liquidity crisis which hit many open-ended real estate funds in Germany.
Klöppelt "regrets" that no solution was found for the open-ended real estate mutual funds to allow institutional investors to remain invested in the vehicles; the minimum holding period introduced effectively means that insurance-based funds cannot invest in German open-ended real estate mutual funds anymore.
Having been invested in these funds, many fund of funds vehicles also suffered from the liquidity squeeze and "it will take time for them to recover", says Klöppelt. "With Spezialfonds not affected by the turbulences, this is a good environment for their continued growth."