Hong Kong's Securities and Futures Commission (SFC), yesterday revealed the results of its two-month period of market consultation on the development of a cross-border reit market. As a result, new reits will now be able to get authorization and reit managers can apply for licenses. The move is likely to kick start Hong Kong's moribund reit market.
As a result of the consultation, the SFC has announced a few new terms under which the products can be launched. Firstly, the SFC has set the maximum gearing limit of Hong Kong authorized reits at 45%, 10% higher than Singapore's level of 35%. In Japan, Australia and the US there are no gearing limits on reits. However, market practice has caused reits listed in those countries to have average gearing ratios of 36%, 39% and 50% respectively. The market participants consulted by the SFC called for a 40% to 50% limit due to the need for cross border reits to have more access to short term funding.
The second rule announced concerns how the reit managers can receive payment. The SFC will allow flexible payment arrangements for the reit managers through such measures as payment in units of the reit
"Previously, managers could get a management fee and a performance fee like in a traditional equity fund," says Alexa Lam, head of investment products at the SFC and the driving force behind the market. "But a reit is more like a listed company and so should be able to reward its manager in a way that is more akin to how a listed company rewards its managers."
Lam says that while the new code allows payment in units there need to be mechanisms in place that prevent managers just awarding themselves new units at cheap valuations. These mechanisms include using a standardized formula and timing for pricing the units used to pay managers, which is fully disclosed to investors.
With these new measures, the SFC has effectively opened the door for new reits to be listed in Hong Kong. Each new reit will need to be authorized and each reit will need a manager, which will need to obtain a license. In theory managers can apply for a blanket license to launch a number of reits but in practice, initially, each new license will probably be restricted to one reit.
Lam would not speculate on how many new managers would apply for license to issue reits in Hong Kong under the new code. She said the SFC has no target number but did comment, "a lot of people are very interested." In particular there is much market excitement on the prospect of putting mainland Chinese property assets into Hong Kong reits.
For reit managers to get a license, they need to show experience in managing a portfolio of property assets as well as demonstrating some fiduciary duty in that management. However, Lam did say that a bank, for instance with a lot of dead property on its books such as a branch network, could use the code to package all its branches in a reit, rent them back from itself and then list the reit, thus releasing a lot of capital onto the balance sheet. Westpac Bank in Australia did just this with its head office a number of years ago.
Lam also said that in theory there is no restriction on reits that are already listed elsewhere applying for a secondary listing in Hong Kong. This could prove attractive if the Hong Kong market affords higher valuations due to lower yield expectations or if the assets in the reit are already in Hong Kong, such as with Fortune Reit in Singapore.
The end of the consultation period effectively means the starters gun has been fired on who will be the first reit to list in Hong Kong. Recent market speculation suggests that Guangzhou Investment will try to go first with a $300 million deal brought by Citigroup, DBS and HSBC.
"Everyone in Hong Kong wants this market to develop and grow," says Lam. "The purpose of this consultation is to remove any impediments to its development while keeping the integrity of our market intact."
