“The greatest obstacle to discovery is not ignorance -- it is the illusion of knowledge.”
The late University of Chicago historian Daniel J. Boorstin wrote these words nearly two decades ago, and I can’t think of a better quote to sum up what has been the norm in the non-traded REIT industry since the product gained mainstream momentum around the turn of the century.
Transparency and the availability of reliable information are the bedrocks of stable financial markets. When your clients want to know how much their shares of IBM are worth, how difficult is it to find that out? Fortunately, in today’s world there is an abundance of reliable financial data available instantaneously with which to evaluate investments. But that has not been the case for non-traded REITs. That is about to change.
Before the passage of Finra Rule 2014-006, which was approved by the SEC on October 17, a non-traded REIT had up to 18 months after the close of its offering period to reprice the value of its equity shares. In other words, the share value of a REIT purchased for $10 might stay at that price on client statements for potentially as long as three to five years from the purchase date. In many cases, the reported price remains immutable even though a valuation of assets owned by the reporting REIT could result in a lower price.
This has been a problem for investors, advisors selling non-traded REITs and the industry itself. The practice created an opaque atmosphere that bred mistrust and confusion. The time is overdue to shed some light and reality on “per share” valuations.
The passage of Finra 2014-006 will undoubtedly do just that. Non-traded REITs will now be required to report a per share price/value (NAV) that more accurately reflects the value of the assets held by the REIT.
The benefits to investors are clear, but some non-traded REIT sponsors and financial advisors have been resistant to the changes. I find myself in the camp that believes the long-term gains outweigh the short-term pain for both sponsors and the advisors selling these programs.
The reasons are fundamental. First and foremost, sponsors should be accountable for the results they generate. Secondly, the financial advisory industry is a business built on trust, and there is nothing that jeopardizes trust like the failure to meet investor expectations. When clients buy into a non-traded REIT at $10 per share, they should not be caught off guard when the account statement reveals the share price has dropped off a cliff.
An investment in a non-traded REIT does involve a substantial front-end load. These costs are justified if the non-traded REIT and its sponsor are successful in creating value for investors. But today investors have no way of knowing. Finra 2014-006 will help advisors and their clients identify those REITs that focus on value creation, and the industry will benefit from the support of sponsors who can generate the expected results. This will have the effect of rewarding good actors at the sponsor and advisor levels, punishing bad actors and ultimately aligning expectations to improve trust at all levels.
Jacob Frydman is the Chairman and CEO of United Realty, a strategic third-party real estate advisor and sponsor of public and private real estate investment programs.