Mark Chalmers

I noticed with interest recently that Drum Property have made moves to wash their hands of Drum Income Plus real estate investment trust, which rejoiced under the code of DRIP. Drum is a property development group based in Edinburgh and in theory, the real estate investment trust or REIT was a good way to raise money on capital markets from institutional and private investors, by selling shares in a company which holds property. 

If the property is fully let, you make money from that, and from the appreciating value of your shares in the investment trust too. It may be that the banks won't lend you money on good enough terms, or that you think you can make more money from the investment trust than you would solely from the property itself, in this case by using the rental income and value realised by selling property to generate a dividend yield...

The successful REIT's may grow to hundreds of millions or even a billion pounds in value - for example Tritax Big Box REIT has been a success particularly in the past couple of years, thanks to the demand for warehousing. But stock markets are often driven by fear and greed. Time and again, poor results cause fear and investors flee. The resulting buying opportunity will sometimes cause greed and the price will recover … or the stock falls flat.

REIT's are just one example of the financial engineering used to promote and back property development – there are others. Scotland, and in particular Dundee, was a breeding ground for investment trusts, on the back of the jute boom which generated such huge profits that the mill owners began searching for new places to invest them. That’s why so many trusts have Dundee names, such as Mid Wynd International and Fleming (now JP Morgan) Claverhouse.

In 1873, Dundee businessman Robert Fleming launched the Scottish American Investment Trust (now called Dunedin Income Growth) to finance the building of the American trans-continental railway network.  Alliance Trust, launched in Dundee in 1888, was originally founded as a mortgage bank, raising capital from Scottish investors and lending it to pioneer farmers in the north-western United States.  

Nowadays the Scottish Mortgage Investment Trust has nothing to do with property mortgages, preferring instead to invest in companies like Tesla, but it began to offer mortgages to Malaysian rubber plantation owners in 1909. So the real estate investment trust goes back to its Victorian roots when it invests in land and property.

DRIP, which was launched in 2015, had persistently traded at a significant discount to net asset value (NAV), having not reached a scale that makes its shares attractive to a wider group of investors. That means the value of the company was actually less than the market value of the property, so in theory you could buy it up at a discount.

According to financial analyst Quoted Data, Drum gave up on DRIP when their board realised that there were no short or medium term prospects that the company would be able to grow organically. It probably didn't help that DRIP was partly invested in retail property. 

Having given up on schemes like the REIT, there are ever more esoteric ways to raise money, the most infamous of which was the Tontine.  I wrote at length about tontines in Leopard Magazine a few years ago, and was amazed when they made a reappearance in the US recently.  One more sign, beside cryptocurrencies, that the financial markets have begun overheating in the early years of the 2020's.

The Wall Street hedge fund manager Bill Ackman launched a 21st century tontine, Pershing Square Tontine Holdings, as a "special purpose" vehicle to raise money to buy shares in an another company.  Although his potential deal unwound itself, according to the financial press, it goes to show that there literally is nothing new under the sun.

Traditionally, investors who subscribed in something like a special purpose vehicle received shares and options in return (the Americans call it a SPAC, but the principle is the same).  They could redeem their shares once the target had been acquired, and hold onto the options meantime.  If the shares perform well in the public markets, the sponsors could convert the options into shares and make even more profit.  If the share price did badly, they had already redeemed their shares, so had pocketed some profit.

Pershing Square’s Tontine was structured differently.  Sponsors can still sell the shares upon acquisition of a target company.  However, if they exercise the put option as it’s called, they forfeit two-thirds of the options they were given, so those who redeem shares have a smaller opportunity than those who hold onto their shares.

The “tontine” part of the structure derives from the fact that the forfeited warrants are re-allocated to those who kept their shares.  This is similar to how a classic tontine life insurance policy works: interest in the pooled fund is re-allocated to the surviving policyholders every time one of them dies, until the last one standing runs off with all the spoils.

The fact that tontine owners benefit when one of their cohort dies is why tontines have traditionally been so controversial. It encourages them to behave like characters in an Agatha Christie novel, who dream up subtle ways of bumping each other off.  For that reason, tontine life insurance was outlawed in many countries, although there are still quite a few Tontine Inns and Tontine Hotels dotted around Scotland which were paid for by subscriptions to tontine schemes.

While Drum Property's DRIP is nowhere near as complex as Bill Ackman's tontine, it does demonstrate that bricks and mortar investments aren't necessarily as "safe as houses" to quote that old cliche from the financial pages of the Mail and the Express.  Commercial property deals have countless more moving parts than buying a house on a mortgage, and employ some complex financial engineering.

However, some investments never escape the steady drip drip drip of bad news.