Nick Duff

Nick Duff sees the real estate industry as offering positive opportunities for his pension fund clients. He spoke to IQ about the benefits of the sector, as well as highlighting some of the issues that matter most to his clients and the challenges facing the industry.

It’s obvious early on that Nick Duff, a Partner within Aon Hewitt’s Global Investment Practice, has a firm view on big topics. With a client base predominantly made up of UK pension funds, he turns quickly to the debate about the role of real estate in the new era of defined contribution (DC) pension schemes.

Acknowledging the requirement of DC schemes for daily pricing and liquidity, Duff sees the opportunity for the real estate industry to innovate - albeit an opportunity born of necessity. “The DC universe is not adequately serviced by real estate at the moment. There just aren’t the products or structures available,” he says. Aon Hewitt is exploring some initiatives of its own. He mentions work they’re doing in relation to passive REIT funds and explains that they’re introducing more stringent tests when it comes to non-listed real estate in the context of DC.

However, he remains committed to the non-listed route for real estate allocations. His clients, he says, want core real estate, predominantly non-listed real estate and sometimes non-UK as a smaller element of a balanced mix. Duff describes how, given their need for liability matching, his clients are focused on the long term, looking for diversification and liquidity. They may have one or two balanced funds or a segregated portfolio and they operate at the opportunistic end of the spectrum.

INTEREST IN DEBT

This background leads into his perspective on the next hot topic. “We like real estate debt and we’ve placed large allocations into this over the last few years, because there is a lack of finance in the market with traditional lenders having stepped back from value-added assets.”

His preferred investments tend to be at the mezzanine debt level or whole loans rather than senior debt. “This might be locking away capital but the returns are around 8% or better and at this stage of the cycle debt looks attractive and most real estate investment markets are priced at fair value.”

This isn’t an uncommon view, but Duff adds an additional level of insight: “One thing we need to be aware of is the protection afforded to lenders, but debt is also a good way to get into the US market.”

Then he broadens his commentary to sweep up a view on joint ventures and club deals that, he says, he knows are happening but actual examples of which are hard to find. “Mostly we see these vehicles through multi-managers although we are doing an increasing number ourselves.”

He’s also unconvinced by the argument that global real estate investment equals diversification for smaller investors. “There is currency risk, gearing risk and tax leakage. There is a diversification benefit but this may not be worth the risk and the hassle,” he says.

Fund managers of all types are important to Duff. But he is acutely aware of the need to ensure they are as rigorous in their operations as they can be. This is one of the main reasons he was keen for Aon Hewitt to become a member of INREV.

“I felt we needed access to a professional body that promotes change. I see INREV as a forum for improving best practice and professional standards in real estate.”

Duff recognises the progress that INREV has made in terms of promoting better transparency and honesty in the industry. He is quick to highlight the benefits of consistent valuation and reporting methodologies such as the INREV Net Asset Value (NAV). He also cites the Due Diligence Questionnaire as being a very useful source of guidance for fund manager selection. But, he believes this could go further still.

The DC universe is not adequately serviced by real estate at the moment. There just aren't the products or structures available

Guidance on operational due diligence, for example, would be very useful given that his clients “are fixated on the operational side of a fund manager, quite rightly so.” In this context Duff refers to the potential for a checklist that would help identify whether fund managers have carried out the right background checks on their employees, whether they have been audited and what sort of business continuity procedures they have in place.

“All of this is important because the way in which a fund manager manages their own business indicates the way in which they’ll manage a fund.”

WALL OF MONEY

Duff also sees the need for better fee structures and performance data. “The ‘wall of money’ hitting the industry means some fund managers are dictating terms again,” he adds. And another thing he’d like to see from INREV in the future is a database that flags new funds that are about to be launched.

He is sanguine about the future, highlighting an inevitable consolidation in the industry but clearly supportive of boutique fund managers operating alongside some of the larger players. The big challenge he thinks will be about the lack of availability of quality assets and competition for client capital that he says “would have gone into real estate 10 years ago but is now heading into infrastructure or ‘real assets’”.

Nonetheless, he believes that most of his clients will probably still prefer real estate, because they can draw down within three years as opposed to the longer-term commitment required for infrastructure. And, as he points out, “there are fewer opportunities in forestry and farmland.”

He concludes that real estate is an asset class on which “everyone has a view and Trustees have strong opinions.” Ultimately, though, decisions depend on clients’ risk/ return requirements and strategy.