Colombia’s REIT industry is the third largest in Latin America with an NAV of around $4.16 billion (i.e., COP 19 trillion).
Figure 1: Latin America's REIT Industry by NAV
Colombia’s REITs are young and have grown rapidly.
Figure 2: NAV Growth of Colombia's Real Estate Funds Since 2009
The collective NAV is somewhere around COP 19 trillion (i.e., $4.16 billion), with 73% of the value concentrated in the top seven funds.
Figure 3: NAVs of Colombia's Real Estate Funds
The market leader is PEI, and it is the first and largest REIT in Colombia. The NAV reported by PEI is around COP 8.5 trillion (i.e., $1.8 billion). It would be the 8th largest REIT if it were listed in Mexico.
Figure 4: PEI AUM and GLA (2007 - 2022)
Colombia’s Leading REIT is Under Threat
In 2022, PEI became the first REIT in Colombia to have its shares traded on the main equity section of the Colombian Stock Exchange. The main advantage for PEI of doing this was heightened access to international and local equity funding. The downside of the move was more stringent reporting requirements and less control of the share price.
Prior to a regulatory change in 2021, all REITs in Colombia valued their shares based on the NAVs reported. Mark to market is the converse, and it values the REIT based on the last transaction of the share in the secondary market, multiplied by the number of shares outstanding. The 2021 regulatory change required portfolios of REITs listed on the Colombian Stock Exchange to be valued based on the mark to market valuation method.
The move to mark to market is a step in the right direction, but in the case of Colombia’s REITs, there will be a transition period. The trading volumes of REITs are quite low making the secondary market transactions arguably less reliable. In PEI’s case, it has a sizable NAV discount rate as of May, 2023 of 83%. In other words, the market price of the REIT of COP 1.46 trillion is 83% lower than the valuation based on NAV reported by the PEI management of 8.5 trillion. American REITs are mostly also trading at discounts, with office doing the worst.
Figure 5: May, 2023 American REIT Industry NAV Discounts
In 2019, PEI issued 77,773 securities, to current and new retail investors, which was oversubscribed and raised $256 million. When the REIT’s shares were valued as required by the 2021 regulation (i.e., mark to market), the share price fell by over 60%. Valuations further eroded in 2022 due to a variety of issues including higher interest rates.
Figure 6: Ten-Year Trend of Interest Rates in Colombia
A scandal has been created because the investors claim their shares were marketed as fixed income investments with little to no risk. The investors claim they have a conservative investing background, and were investing their life savings in order to generate an income stream for their retirement. In 2023, PEI implicitly acknowledged the situation and gave a 37.5% discount on its management fee based on NAV, and made it retroactive to January 1. As an externally managed REIT, the PEI management company charges the REIT an annual fee based on the NAVs of the properties. So in 2023 the fee would be based on the NAV of COP 8.5 trillion, not the dramatically lower COP 1.46 trillion market price. The PEI management company waived other fees and commissions it was collecting from the REIT.
External management of REITs is a topic I’ve previously covered in the context of Mexico’s REITs. The employees and executives of PEI are employed by an outside management company, which charges fees to the REIT. Investors strongly disfavor external management structure given the conflicts of interest they introduce. The management team is incentivized to grow AUM and constantly raise capital in order to increase NAV, and thus their fees. Investors prefer the team to be employed by the REIT itself, and compensation structures squarely aligned to metrics investors care about.
PEI, and most other real estate investment companies in Colombia, are facing a liquidity shortage to fund new investments. PEI’s debt levels presently stand at around 36% of total assets. This is dangerously close to the 40% LTV threshold funders have imposed. Even if a real estate company has room to add more debt to their operations, many banks in Colombia are refusing to loan more capital until the future economic landscape is clearer. Many REITs are facing cash flow challenges due to obligations to fund projects already underway. When those promises were made, the REIT anticipated future credit lines being available and at lower costs than is currently the case.
To fund the shortfalls, properties will eventually have to be sold. Where will buyers find funding to make the purchases? What valuation will the properties be sold for? This later question is particularly important due to the likely disparity between the cap rate a buyer would value the acquisition, and the materially lower cap rate used to calculate the REIT’s NAV.
Colombia’s young REIT industry is going through going pains and will have a bright future. Working with the regulators, the industry participants have to solve several problems.
Liquidity will have to be increased. A holder of REIT shares should be able to have more confidence that he can quickly sell his shares into a secondary market. REITs were formed to provide smaller investors a regulated vehicle to “safely” participate in commercial real estate investments in a manner that provides liquidity and outside supervision.
Internalizing management structures will go a long way in reducing conflicts of interests between REIT investors and their management teams. Read more here.
Colombia’s REIT ecosystem is devoid of reliable data, and the opaque nature of the industry will deter investment. As the industry matures and grows, this will be less of an issue.
Colombia doesn’t really have a REIT enabling regulatory framework in place. REIT investors in the country don’t receive tax and other benefits which are in place in countries with active REIT ecosystems. At the REIT level, the regulatory framework is not favorable. Mexico offers a good goalpost for what is possible for Colombia in terms of an effective regulatory framework.