The non-listed REIT industry has seen capital flows drop off a cliff in the past several years. But recent data shows that the market may have hit bottom and is ready for a rebound.
Investor capital flowing into non-listed or non-traded REITs has been plummeting since hitting a high of $19.6 billion in 2013, according to Robert A. Stanger & Co. Inc. In 2016, sales dropped to $4.5 billion. Early data for 2017 indicates that the market may be down, but not out. Year-to-date sales through April are about equal to the same period in 2016 at $1.85 billion for non-listed REITs.
Some see the industry at a critical inflection point. Sales have suffered, largely due to changes and uncertainty in the regulatory environment. At the same time, the industry is in the midst of an evolution, with changing products and an expanding sales network aimed at recapturing its lost momentum.
“The regulatory environment has paralyzed our industry. With so much uncertainty it was easier and more prudent to take a step back and wait for some clarity before moving forward,” says Anthony Chereso, CEO of the Investment Program Association (IPA). IPA is an advocate for the portfolio diversifying investments industry, which supports individual investor access to a variety of asset classes that include what it now refers to as “lifecycle” REITs—essentially non-listed REITs that are more aptly described for their three-phase lifecycle of capital raising, property acquisitions and liquidation.
New FINRA 1502 regulations that went into effect in April 2016 were aimed at improving transparency in the industry. The regulations require non-listed REITs to provide current per share estimated net asset value on customer account statements and also require other disclosures, such as fees and commissions. One impact of the change was that it highlighted high front-end fees associated with many non-listed REITs, which had a negative impact on sales. Sponsors have also eased back on sales as they focused on modifying structures to comply with new regulations.
The new Department of Labor Fiduciary Rule also created a lot of industry uncertainty. Questions swirled first on whether or not non-listed REITs would be included on the “prohibited” list and then later on how sponsors would apply the rule and when it would go into effect. “That has created a lot of pressure, not only in the lifecycle REIT space, but across mutual funds, ETFs and a variety of other financial products that are impacted by the DOL Fiduciary Rule,” says Chereso.
The DOL Fiduciary Rule applies specifically to the sale of products for Employee Retirement Income Security Act of 1974 (ERISA) plans and individual retirement accounts (IRAs). At one point, there was a target on non-listed REITs that would have excluded the sale of those products for qualified plans. However, the IPA successfully advocated to get those products removed from the prohibited list, notes Chereso. As a result, non-listed REITs can be sold by financial advisors as part of a portfolio diversification strategy.
DOL Secretary Alexander Acosta announced May 22nd that the June 9th compliance date would not be delayed further. “This in itself provides some clarity to the market that it is time to get back to business,” says Chereso. The broker-dealers and advisors that have been waiting on the sidelines are moving back into the market, and as a result, capital raise will likely continue to improve in the second half of the year, he adds.
Non-listed REITs are getting an added boost from ongoing evolution within the industry that includes new investment structures and an expanding distribution channel. Traditionally, non-listed REITs relied primarily on independent broker-dealers, which have been hit hard by the new regulatory changes. Now there is more capital flowing through registered investment advisors (RIAs). In addition, first JLL Income Property Trust and now the Blackstone NAV REIT are both selling through wirehouse firms.
Blackstone alone had sales year-to-date through April that totaled $105 million in new investment—all of which came through wirehouse sales. So the real story is that, even though industry sales are down in the independent broker-dealer community, the pie has been expanded significantly by a whole new group of advisors who are now selling non-listed REIT products, says Allan Swaringen, president and CEO of JLL Income Property Trust, a daily valued, non-listed REIT.
Newcomers such as Blackstone and Cantor Fitzgerald are also having a positive impact on the industry. “Having well-heeled institutional firms like Blackstone and Cantor alongside the institutional firms that we already have in our industry will continue to enhance these products and encourage the evolution of the product going forward,” says Chereso. Those new players are expected to push further evolution and attract capital back to the industry, he adds.
Sales for 2017 will likely still be on par with 2016 at between $4.5 billion and $5 billion, notes Swaringen. The transition within the industry from legacy non-traded REIT products and a reliance on broker-dealers to new products and new sales channels will likely keep sales subdued in the near term. There is a big education process that needs to occur, both among advisors and their investor clients, as the industry continues to evolve, he adds.
“I don’t have a crystal ball to say whether the industry will ever get back to a $10 billion or a $15 billion annual run rate,” says Swaringen. “But I do think the longer-term outlook is very positive, especially if these products continue to deliver that stable value and income, which is really what financial advisors are looking for for their clients.”