Good Advice

Here is a Bloomberg article that quotes Colony Capital's Thomas Barrack, Jr.   Mr. Barrack provides some smart, basic advice, but advice that few people will follow.  This passage is a warning:

“Everybody is outside of their own asset class,” Barrack said in a Bloomberg Television interview Tuesday with Erik Schatzker and Stephanie Ruhle at the Milken Institute Global Conference in Beverly Hills, California. “When amateurs enter the marketplace for all of this, you are going to get an abundance of something and it is usually not good.”

Central banks globally have pushed investors into higher-yielding assets by reducing interest rates and purchasing bonds. The Standard & Poor’s 500 Index reached an all-time high on Friday and sovereign debt in Europe is trading at negative yields.

“Institutional investors that are in this endless search for yield are ignoring the risk peril of all the consequences of those things,” he said.

And here is some more:

To protect themselves from possible future losses, real estate investors should look for “equity-type returns” in the capital stack, Barrack said during the panel discussion.

“Floating debt can choke and kill you quickly,” he said.

The article is about real estate investors, but you can substitute nearly any asset class that throws of yield and uses low cost leverage to boost returns. 

InvenTrust

Inland American changed its name to InvenTrust Properties Corp on April 16, 2015.  I would have posted earlier but I am still laughing at this nonsense name.  Inland needs to invent some equity for Inland American investors rather than waste time and money thinking of a made-up name.   The new logo is cool, although I am not sure what it signifies.

InvenTrust's spin-off of Xenia Hotels and Resorts (XHR) has held up well in the market since its listing in February.  It has traded over $22 per share since mid-March.  Inland has had more good news, as its latest non-traded REIT, Inland Real Estate Income Trust, raised over $88 million in March, placing it third out of all non-traded REITs in sales.  Not too shabby.

Tedious

The lazy reporting on non-traded REITs is getting tedious.  Few journalists that write articles about non-traded REITs fully understand them, and it shows.  The latest installment is from the March 24, 2015, Wall Street Journal, in an article titled "Property Investors' Latest Horror: Zombie REITs."  The article focuses on two pre-crash REITs, and not all the liquidity events over the past two years.  The article's focus was Inland American and CNL Lifestyle, two REITs I have recently posted about.  There is no way to spin the poor performance of these two REITs, but they are not the entire market, and their struggles are not new news. 

The article states that the value of Inland American's holdings has plunged 60%.  Wrong.  This is based on the $10.00 per share price that investors paid for their shares and the recently announced $4.00 per share value.  The difference between the original $10.00 per share and current estimate of $4.00 per share is indeed 60%, but it excludes the value of the Xenia Hotels & Resorts (XHR) spin-off that all Inland American investors received.  I figure the listing of XHR was worth approximately $2.80 per share to Inland American investors, or 28% or their original investment (and XHR stock has gone up since its listing).  The article mentions XHR, but not the amount returned to investors.  The amount investors received in XHR needs to be added to Inland American's remaining value.  Inland American still has its issues and investors are still at a loss, but the XHR listing was a major event.

The article further states (my emphasis):

Fundraising by nontraded REITs has now cooled. The funds pulled in about $15 billion in 2014, down by a quarter from 2013, in part because the funds returned just $12.9 billion of investors’ original capital last year, down from $17.2 billion in the previous year.

My own research showed $13.5 billion of original equity experienced liquidity events in 2014, not $12.9 billion.  If you use the WSJ numbers, in two years there was over $30 billion of liquidity.  If you look back at the lack of liquidity in the '80s, '90s, and '00s, $30 billion of capital returned to investors in a two-year span is stunning.

(There is more than a small irony that the article complains about 2014's drop in fund raising for non-traded REITs due to the decline in liquidity events.  Selling a REIT upon its liquidity event to reinvest in another non-traded REIT is a story in itself and a bigger industry-wide issue than two well-known, struggling REITs.)

Journalists and business publications have to get better covering and understanding non-traded REITs (and their sort of brethren business development companies).  These investments have raised billions since 2008, and to sound alarms and recyle old themes without addressing current issues is not helping investors.  The only thing missing from this article was as a Leo Wells reference.

Return for Risk?

As a follow-up to my post yesterday about interval funds, I encourage you to click through to view the portfolio for Ladenburg Thalmann's Alternative Strategies Fund (LTAFX).  When you finish picking up your jaw, click here to see LTAFX's returns and determine for yourself whether investors have been properly compensated (through high returns) given the risk of some of the interval fund's holdings. 

Oil Storage Problem

Bloomberg has an article and animated video on its website that present a scenario where oil could go to $20 a barrel or lower if oil storage reaches capacity.  The article is full of hypothetical situations, but it reinforces my feeling that no one knows where the price of oil is headed.

High Priced Mediocracy

Interval funds - generally, continuously offered closed-end funds - give investors a chance to invest in multiple alternative investments they may not otherwise qualify for directly.  I am specifically discussing interval funds that focus on acquiring interests in business development companies, public REITs, private REITs, private equity real estate funds, private placements, and public, non-traded REITs.  These interval funds are similar to mutual funds, so suitability requirements are much lower than a direct investment into one of the non-traded investments owned by the interval fund. 

My knocks on interval funds are fees and performance.  Interval funds are funds-of-funds.  This means there are two layers of fees - one at the interval fund level and one at the underlying investment fund level.  The combined annual expenses can run three percent to five percent of total assets, which is a big hurdle for asset classes and investments - real estate and business development companies - that are historically income oriented, not growth focused.  Funds-of-funds will have average performance, as top performing funds' results are offset by the results from poor performing funds.  Over the long-term, for most investors, I don't believe the portfolio benefits of an interval fund - diversification and lower volatility - outweigh the performance issue, which is inherent because of interval funds' structures, and diminished further by their high fees.

Growing Glut

I am fascinated by the drop in oil prices.  No one predicted the price drop of the past six months.  No one knows if oil prices are going to $80 a barrel or $20 a barrel.  (There are guesses at both ends of the spectrum, so some analyst will be able to claim prescience.)  The attached Bloomberg article and the chart below are from last week but give an indication of where prices are likely to go, at least in the near term.

Bad Guess

Last week I guessed at a price of $6.50 per share for CNL Lifestyle's new net asset value.  I was not close, not even in the same county close.  In an 8-K filing on March 10, 2015, CNL Lifestyle disclosed a new NAV estimate of $5.20 per share, down 24% from the $6.85 per share estimate at the end of 2013.  Read the 8-K, the candor of certain statements is jarring, like the following passages that help explain why the REIT's NAV dropped from $6.85 per share to $5.20 in one year:

Based on discussions between Jefferies and more than 150 potential buyers over the course of the last year, the Company has determined that the value of its assets is lower than the NAV per share of common stock as of December 31, 2013 (the “2013 NAV”). This price discovery data was not available in prior valuations and represents the most significant factor in the decrease of the 2014 NAV from the 2013 NAV. 

Another factor driving the reduction of the 2014 NAV was portfolio performance that, in certain instances, did not meet the Company’s, its operators’ or CBRE’s forecasts. 

CNL Lifestyle's investment banker, Jefferies, shopped the REIT and its assets to more than 150 potential buyers and was told that the $6.86 per share price was too high ("price discovery").  In addition, the assumptions (i.e. net operating income, cap rates, etc.) the REIT used to determine value in early 2014 were too optimistic.  This REIT purchased plenty of niche assets during a real estate boom, so you can't play revisionist today, but a near halving of value is still ugly.

Wrong On Many Levels

I am hearing some crazy things about American Realty Capital Properties (ARCP), Cole, and RCS Capital (RCAP).  The rumors and finger pointing are flying around so fast someone is going to lose an eye.  Then I read a blog post on an advisor rumor website (I am not going to link to it) that is so wrong it would be laughable if it was not scary.  The post is essentially long quotes from several broker dealer analysts upset by changes at Cole Capital.  The problem is that the article flips back-and-forth, confusing ARCP, which owns Cole Capital, and RCAP, which owns broker dealers and distributes AR Capital-sponsored alternative investments, and treats the two companies as one entity.  If we have learned anything over the past four months it is that ARCP (and Cole) and RCAP are separate companies.  If you are going to spread rumors, at least get the companies straight.

Head's Up

CNL Lifestyle REIT announced (warned) today that it is disclosing its net asset value per share on March 10, 2014.  I can hardly wait.  Lifestyle's NAV last year was $6.85 per share.  In 2014, Lifestyle sold its golf properties and used most of the proceeds to pay off mortgage debt related to the golf properties and pay down the REIT's line of credit.  Lifestyle has not returned any capital to investors from property sales.  Lifestyle is still planning on completing its liquidation by December 31, 2015, according to its third quarter 2014 10-Q.  At what share price do we set the over/under for the new NAV?   I'll guess $6.50 per share.

The Wait Is Finally Over

American Realty Capital Properties, Inc. (ARCP) filed its restated financial statements this morning, which stem from the October 29, 2014, disclosure of accounting errors .  The restatement includes the first two quarters of 2014, and full years 2013, 2012, and 2011.  According to this Bloomberg article, which quotes a JP Morgan analyst, it does not appear that any bigger issues emerged from the restatements.  The specter of some undisclosed issue at ARCP was the concern of most people who follow the non-traded REIT industry.  The restatement did result in ARCP reporting an increased loss and lower adjusted funds from operations for 2013. 

Not Dead - Unlike Inland American

My blogging hiatus is over.  There was no reason for the lack of posts other than more pressing work.  I won't predict the frequency of future posts, but I expect more posts than there have been recently.

Here is Bruce Kelly's article on Inland American's new Net Asset Value of $4.00 per share.  I need to dive further into this calculation.  My quick takeaway is that despite plenty of asset sales over the past two years, the new, lower NAV per share primarily reflects this year's spin-off of Inland American's remaining hotel assets. 

In 2014, Inland American sold $1.1 billion of hotel properties to NorthStar and $2 billion of properties overall, but didn't return any capital to investors.  In 2013, Inland American closed a portion of a $2.2 billion property sale to various American Realty Capital entities, the balance of which closed in 2014.  I figure Inland American sold over $3 billion of properties from the middle of 2013 through the end of 2014. 

In February 2015, in a separate transaction from the sales in 2013 and 2014, Inland American completed the spin-off and listing of Xenia Hotels and Resorts (XHR), which Inland American formed in 2014. (Inland American retained 5% of XHR.)  Inland American investors received shares in the new hotel company, and I estimate that the XHR transaction was worth the equivalent of approximately $2.60 per share to an original $10.00 per share Inland American investment.

Inland American's new Net Asset Value (NAV) per share is $4.00, as of February 5, 2014.  Its previous NAV (December 31, 2013) was $6.94 per share.   The drop in NAV reflects - mainly - the XHR spin-off.   The XHR transaction was Inland American's first return of capital event - through the distribution of fully liquid XHR shares to Inland American investors -  with Inland American retaining and retiring debt with the net proceeds from the $3 billion in property sales in 2013 and 2014.  An investor that originally purchased Inland American shares at $10.00 per share have $7.40 per share remaining, based on the estimated listing value $2.60 per share for XHR.  The new $4.00 per share NAV needs to be viewed in relation to the $7.40 per share of remaining offer contribution.

Inland American announced a lower distribution with its new NAV.   The new distribution is $.13 per share, a drop from the previous $.50 per share.  The lower yield partially reflects the XHR spin-off, but it is also a cut in yield.  The yield on the new $4.00 per share NAV is 3.25%, but based on original investment amount, this represents a yield of 1.76% on the $7.40 of remaining original contribution value ($.13 / $7.40).  This should be compared to the previous 5.0% yield ($.50 / $10.00 per share).

I'm no revisionist and won't feign shock that the current $4.00 per share NAV - which is net of the XHR transaction - is less than the original $7.40 per share, or the remaining original offer price.  Inland American acquired the bulk of its properites before real estate prices dropped in the late 2000s.  A drop in value below the original offer price is expected.  Its disingenuous to think that Inland American could have somehow missed the decline in real estate values.  That being said, the cut in annual distribution yield from 5.0% to 1.75% is sharp.

I encourage you to read Inland American's September 22, 2014, 8-K.  It details new incentive compensation for Inland American executives, among other items.  I guess the executives realized that the original compensation, which was subordinate to investors getting a full return of capital plus a preferred return, was unobtainable.  Here is some of the language from the filing:

On September 17, 2014, the board of directors of the Company adopted the following three incentive compensation plans (the “Share Unit Plans”): (1) the Inland American Real Estate Trust, Inc. 2014 Share Unit Plan (the “Retail Plan”), with respect to the Company’s retail business; (2) the Xenia Hotels & Resorts, Inc. 2014 Share Unit Plan (the “Lodging Plan”), with respect to the Company’s lodging business; and (3) the Inland American Communities Group, Inc. 2014 Share Unit Plan (the “Student Housing Plan”), with respect to the Company’s student housing business. Each Share Unit Plan provides for the grant of notional “share unit” awards to eligible participants.

Share Units. Subject to applicable vesting conditions, each share unit represents the right to receive a cash payment, or, to the extent provided in the applicable award agreement, shares of common stock of the Company, Xenia Hotels & Resorts, Inc. (“Xenia”) or Inland American Communities Group, Inc. (“IA Communities”), as applicable, in an amount equal to the fair market value of the share unit on a specified date. Share unit awards will vest and become payable on terms and conditions determined by the plan administrator and set forth in the applicable award agreement, including by reference to certain change in control transactions or specified events resulting in a listing of the applicable entity’s shares on a national securities exchange (including an initial public offering) (“Listing Events”). A “change in control” under the Lodging Plan and the Student Housing Plan includes a change in control of the Company, in addition to a change in control of Xenia or IA Communities, as applicable. A “change in control” under the Retail Plan includes only a change in control of the Company.

For purposes of each Share Unit Plan, the “fair market value” of a share unit will be determined by the board of directors in good faith, and prior to a Listing Event, will be determined by reference to the valuation performed as of December 31, 2013, or such other subsequent similar third party valuation performed to estimate the value of a share unit on a fully diluted basis, using methodologies and assumptions substantially similar to those used in prior valuations.

At the time of the September 2014 filing, the Xenia assets, retail properties, and student housing were the main property types left in Inland American's property portfolio.  It is my opinion that Inland American investors will never get a full return of capital.   Inland American executives, therefore, won't get their originally planned revenue sharing (15% of profits after a return of investor capital plus a 10% annual return), and is the reason for the new incentive compensation plans.   The drop in the REIT's share value and performance of the REIT made the original incentive hurdles unachievable.   I am sure Inland American's executives know this better than anyone and have have created a salve to ease their financial hardship - by which I mean a plan to pay themselves despite investors losing capital.  It is a salve that excludes Inland American investors.