The entire fintwit cognoscenti is abuzz with the outcome of a very interesting experiment in the markets. A private real estate fund recently converted into a public fund and started trading on the NYSE this week. Bluerock Private Real Estate Fund, with assets of US$4.3B, promptly experienced a 40% drop from its last published NAV (from when it was a private fund). From a "private" NAV of $24.36, it's around $15 today. More than 10 million units have traded. One reasonable explanation for such a precipitous fall is that there were a lot of motivated sellers who had been waiting for liquidity. Nevertheless, the judgement of thousands of knowledgeable investors declining to buy at anything close to the "private" NAV is worth taking note of. Here's a related tweet by Boaz Weinstein, who is in the business of buying publicly traded funds at a discount.
The reason Bluerock decided to list the fund on an exchange is because they faced redemption pressures. But they did not want to be a "forced seller" of their assets. Nicola uses similar arguments for gating its funds and there's a useful lesson for their clients. If at all you can, take advantage of the artificial high prices of their real estate funds. Being a client in a Ponzi scheme is not necessarily a bad idea - if you are alert enough to leave early and stash your money somewhere recovery-proof. Nicola is not a Ponzi scheme, not in the classical sense. But its clients had a golden opportunity to take their illusory gains and run. The big clue was in 2022, when the Nicola story about magical returns without volatility jumped the shark. In a year when both stocks and bonds fell, Nicola reported a gain. Nicola claimed its real estate portfolio was up about 20 per cent versus a REIT market that was down by about 25 per cent.
The Globe covered this magical story thusly:
This was a typical credulous Globe story, but without even being prompted, John Nicola addressed the inconsistency of Nicola’s returns:
Some commentators have said to me, ‘Well John, you’re dealing in private markets, and the public markets are marked-to-market.’ But I tell them the opposite is true. REITs are trading at 25 per cent below their net asset value, which means they are not the market. They are the public’s reaction to external events. They’ve been oversold. The actual market – what buildings are being bought and sold for – that’s the real market.
There is a grain of truth to this, public investors are prone to panicking in a way that an intelligent owner of a private business or building rarely does. But John’s explanation overlooks something that is as close to a law of nature in finance: rising interest rates lower the value of income-generating assets. That year, the 10-year U.S. Treasury yield jumped from 1.8% to 3.5%. A 1% rise in cap rates typically wipes out about 20% of a building’s value if rents don’t move. So it takes magical thinking to claim a diversified North American real estate portfolio could have gained 20% that year. Nicola is primarily an investor in multi-family real estate generally in urban North America, with some concentrations in BC, Ontario and the US Sunbelt. Nicola was most active as a buyer in the peak years of 2021 and 2022.
To this day, on its two big real estate funds (US and Canadian), Nicola only shows flat-lining performance. It refuses to take meaningful losses. Yet, those funds’ distributions (reflecting operating income) have been reduced by 37% and 46% respectively. Just think what would happen in the stock market if a REIT or any dividend paying stock suddenly cut distributions by 40%. The REIT or stock would either crater on the news or would have in anticipation of the news. Neither the clients nor the media are asking these basic questions. Not surprisingly, Nicola doesn’t want to talk to me.