Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 153

What to look for in unlisted real estate funds

In the current low interest rate environment, the hunt for yield is a powerful force. Non-residential real estate via listed real estate investment trusts (A-REITs) and unlisted real estate funds (syndicates) have both benefitted from strong investment inflows. To date, investors have not been disappointed. According to the Property Council/IPD Unlisted Core Retail Property Fund Index* published by MSCI, unlisted syndicates generated a total return of 37.8% in the year to 31 March 2016, with an income return of 8.8%. For the same period, A-REITs generated a total return of 11.4%, with an income yield of 5.8%.

In this Part 1, we show the characteristics of unlisted real estate funds and how the Net Tangible Assets number is calculated, while in Part 2, we demonstrate how returns are affected by gearing, and the various exit strategies.

However, choosing to invest in any investment whether it be an A-REIT, a bank stock, or an unlisted real estate syndicate based on just the first year yield may lead to problems down the track when the market turns. Investing is about total returns – income and capital – over the life of the investment and a syndicate typically has a term of between five and seven years.

Most of the syndicates in the Index were established between 2010 and 2014 when real estate yields were higher, and hence the relative higher yield they are now generating. As prices of non-residential real estate assets have increased, yields have firmed (see Figure 1). Recent syndicate offers typically have starting yields of between 6.6% and 7.5%. When compared to the cash rate at 2.0% and 10 year bonds at 2.5%, the yields look attractive.

Folkestone does not believe the non-residential real estate sector will fall off a cliff in the next year or so with the exception of those assets in cities or towns reliant on the mining sector (e.g. Perth CBD office). As we recently pointed out in our 2016 Outlook paper,

“We are now seven years into the up-cycle, and we see less upside to many markets than we have in recent years … Easing capital market tailwinds and close to full valuations in some markets will mean that earnings growth rather than yield compression will be the key driver of value creation going forward.”

We still see opportunities to invest in unlisted real estate syndicates but it is becoming increasingly difficult to find quality assets at reasonable value. Now is not the time to stretch on price or overcommit to short-term strategies; maintaining investment discipline will be key.

Understand the asset and fund characteristics

Every real estate asset and fund are different, and investors should examine:

Asset level

  • Characteristics of the asset – what is the age, quality and location of the asset?
  • Tenant covenants - how good are the tenant covenants and what’s the risk of default?
  • Lease expiry profile – what is the vacancy, when are the leases due to expire, are they staggered through the term of the fund or do they extend beyond the term of the fund?
  • Rent structure - is the asset under- or over-rented compared to the rent level in the market, what incentives have been paid to tenants, when and how are rents reviewed during the lease term?
  • Capital expenditure - will the asset require capital expenditure during the term of the syndicate and if so, how will the fund pay for it?
  • Market dynamics - what is the prognosis for supply and demand in the surrounding market?

Fund level

  • Longer-term yields - don’t just focus only on the first year yield published on the cover of the fund offer, remember it’s a five to seven-year investment at least.
  • Distribution policy - is the fund paying distributions from its cash from operations (excluding borrowings) or capital, borrowings or other support facilities which may not always be commercially sustainable?
  • Gearing - what’s the fund’s gearing level and how does that compare to the bank covenants, and how much buffer is there between the gearing level and the bank’s maximum loan to value ratio? How much, if any, of the debt is fixed versus variable? (We will show how changing the gearing can appear to enhance returns in Part 2 next week).
  • Fees - what is the fee structure, are they transparent and aligned with investors?
  • Manager track record - what is the performance track record of the manager?
  • Poison pills - does the fund have a ‘poison pill’ which requires the manager to be paid by the fund if removed by investors for poor performance?
  • Regulatory compliance – does the fund meet the six benchmarks and eight disclosure principles for unlisted property schemes described in ASIC’s Regulatory Guide 46 on Unlisted Property Schemes, and if not, why not?
  • Treatment of acquisition costs – does the manager write off or capitalise costs?
  • Exit strategy - what’s the manager’s likely exit strategy? More on this in Part 2.

Three points worth emphasising

1. Good real estate managers are asset enhancers

They create value by their ability to manage the asset through the cycle. They don’t rely on tricky capital management and financial engineering to deliver returns to investors. They also offer true to label simple and transparent funds with fee structures that are reasonable and aligned with investors. We advocate on-going management fees based on a percentage of net assets (not gross assets) of the fund as the manager is not incentivised to take on higher gearing. A management fee of 1.3% of net assets assuming 50% gearing is equivalent to 0.65% of gross assets. A performance fee is also appropriate so long as the benchmark rewards the manager for real outperformance not just turning up for work.

2. Understand how the manager calculates the NTA of the fund

Some managers capitalise part of the acquisition costs rather than write them off on day one, which means the initial Net Tangible Assets (NTA) is higher. Table 1 shows the initial NTA when acquisition costs are not capitalised and Table 2 shows the impact when costs are capitalised. Instinctively when presented with the two options, an investor may think they are better off investing in the fund adopting option 2, where the NTA looks significantly higher. We (and most of the leading managers) advocate taking the conservative path and writing these costs off on day one which unfortunately results in a lower initial NTA. Managers capitalising costs run the risk that if the value of the asset has not risen by at least the amount of the capitalised costs at the next financial review date, then they will have to be written off at that time, impacting the NTA.

3. Chasing short-term yield may not deliver the best outcome

Thirdly, unlisted real estate funds or syndicates offer a legitimate investment option for investors where liquidity is not a high priority. But like any investment, investors need to understand the risk and return. The first-year headline yield should not be a priority. Real estate is a long-term investment and chasing short-term yield may not deliver the best long-term investment outcomes.

*Note: The Index tracks the performance of 28 funds with a gross asset value of $3.3bn. These funds own either office, retail, or industrial assets and must have greater than 90 per cent direct property exposure, less than 50% per cent gearing, must not capitalise interest and be an ASIC registered managed investment scheme.


In Part 2 next week, we examine gearing and how an unlisted real estate syndicate generates returns, and the different types of exit strategies.

Adrian Harrington is Head of Funds Management at Folkestone (ASX:FLK). This article is general information and does not address the specific investment needs of any individual.


Brett Burridge
May 06, 2016

Excellent overview & good summary of the "pro's & cons" from the individual investor's perspective Adrian.
Increasing everyone's understanding of these forms of investment can only be a good thing for both the property industry & investment sector generally.
Keep it coming!

Adrian Harrington
April 30, 2016

David thank you for the feedback. We are often asked which is better listed or unlisted? Folkestone manages both unlisted funds and also a high conviction A-REIT securities fund - the Folkestone Maxim A-REIT Securities Fund - and the ASX listed Folkestone Education Trust. We therefore have no bias to either type of investment. Ultimately it depends on the investor's liquidity requirements - do they feel more comfortable in a liquid investment like A-REITs or is liquidity less of an issue and they are more comfortable in an unlisted fund. Also they need to consider whether they want to be a in a diversified vehicle like an A-REIT or are happy, subject to the criteria I raised in the above article, to be in an unlisted fund. At the end of the day the cashflow for both comes from real estate but as one person told me many years ago - it's like chocolate - it may taste the same but have a different wrapper. Over the longer term, the returns should converge.

David Williams
April 29, 2016

Interesting article. I have traditionaly invested in A-Reits rather than unlisted property because I lack understanding of the risks. To me they seem obscure and I don't trust myself to see through the 'fog'. This article assists my understanding and piques my interest.

With Thanks
David Williams


Leave a Comment:



How do unlisted real estate funds generate high income returns?

The hot spots in commercial real estate

Real estate outlook: positive returns expected in challenging year


Most viewed in recent weeks

How to enjoy your retirement

Amid thousands of comments, tips include developing interests to keep occupied, planning in advance to have enough money, staying connected with friends and communities ... should you defer retirement or just do it?

Results from our retirement experiences survey

Retirement is a good experience if you plan for it and manage your time, but freedom from money worries is key. Many retirees enjoy managing their money but SMSFs are not for everyone. Each retirement is different.

A tonic for turbulent times: my nine tips for investing

Investing is often portrayed as unapproachably complex. Can it be distilled into nine tips? An economist with 35 years of experience through numerous market cycles and events has given it a shot.

Rival standard for savings and incomes in retirement

A new standard argues the majority of Australians will never achieve the ASFA 'comfortable' level of retirement savings and it amounts to 'fearmongering' by vested interests. If comfortable is aspirational, so be it.

Dalio v Marks is common sense v uncommon sense

Billionaire fund manager standoff: Ray Dalio thinks investing is common sense and markets are simple, while Howard Marks says complex and convoluted 'second-level' thinking is needed for superior returns.

Fear is good if you are not part of the herd

If you feel fear when the market loses its head, you become part of the herd. Develop habits to embrace the fear. Identify the cause, decide if you need to take action and own the result without looking back. 

Latest Updates


The paradox of investment cycles

Now we're captivated by inflation and higher rates but only a year ago, investors were certain of the supremacy of US companies, the benign nature of inflation and the remoteness of tighter monetary policy.


Reporting Season will show cost control and pricing power

Companies have been slow to update guidance and we have yet to see the impact of inflation expectations in earnings and outlooks. Companies need to insulate costs from inflation while enjoying an uptick in revenue.


The early signals for August company earnings

Weaker share prices may have already discounted some bad news, but cost inflation is creating wide divergences inside and across sectors. Early results show some companies are strong enough to resist sector falls.


The compelling 20-year flight of SYD into private hands

In 2002, the share price of the company that became Sydney Airport (SYD) hit 80 cents from the $2 IPO price. After 20 years of astute investment driving revenue increases, it sold to private hands for $8.75 in 2022.

Investment strategies

Ethical investing responding to some short-term challenges

There are significant differences in the sector weightings of an ethical fund versus an index, and while this has caused some short-term headwinds recently, the tailwinds are expected to blow over the long term.

Investment strategies

If you are new to investing, avoid these 10 common mistakes

Many new investors make common mistakes while learning about markets. Losses are inevitable. Newbies should read more and develop a long-term focus while avoiding big mistakes and not aiming to be brilliant.

Investment strategies

RMBS today: rising rate-linked income with capital preservation

Lenders use Residential Mortgage-Backed Securities to finance mortgages and RMBS are available to retail investors through fund structures. They come with many layers of protection beyond movements in house prices. 



© 2022 Morningstar, Inc. All rights reserved.

The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.