The DI Wire recently caught up with Mike Ezzell, chief executive officer of Inland Securities Corporation, to discuss FINRA Regulatory Notice 15-02, the Department of Labor’s proposed fiduciary rule, and the overall state of the industry.
The DI Wire: You recently attended the IPA Annual Conference. Can you share any news/updates with our readers from the conference regarding direct investments?
Mike Ezzell: Our industry is facing a significant period of regulatory change. These regulatory items found their way into virtually all of the presentations from the stage and the hallway conversations outside. While challenging for the industry in the short term, you could sense that most industry participants are approaching this time period constructively, and that time of transition creates an excellent opportunity to become better product manufacturers, ultimately benefiting shareholders.
The DI Wire: Can you tell me what trends you are seeing in the non-traded REIT (NTR) space, what these new movements like FINRA’s 15-02 mean for the industry and where Inland stands on NTR products?
Mike Ezzell: The new industry account statement standards help investors transparently assess asset values and related fees, which should make non-traded REITs more competitive and encourage innovation. We believe the non-traded REIT structure is the best way for the retail investor to have access to a more non-correlated form of commercial real estate investment otherwise only available to institutional investors.
The DI Wire: As you look to 2016, where do you foresee industry sales in the coming year and what impact do you think the DOL rule will have, if passed?
Mike Ezzell: It would not be surprising if sales decrease in 2016 compared to the previous few years, which were high points for the industry. That said, advisors are embracing new industry product structures and seem eager to learn more. We have already seen a positive reception to Inland’s new multiple share-class product structure.
As for the DOL rule – we support thoughtful regulation that helps remove doubt that financial advisors act in their clients’ best interest. That said we don’t necessarily think the new regulations are necessary. For the financial advisors that we work with, we believe that they are already looking out for their clients’ best interests and are providing very valuable services through the investment and retirement planning advice that they provide regardless of whether they accomplish this through the broker-dealer or the registered investment adviser (RIA) model.
Additionally, the impact of this potential rule will have far reaching effects, not only for the non-traded REIT and alternative investment (AI) industry, but also for the financial intermediated space, and could very well change our approach to retirement assets, depending on what is decided. Despite what happens, we feel confident that we have the intellectual capacity and the innovative horsepower to continue to create shareholder friendly product structures that will meet a new DOL standard and still provide access to quality commercial real estate and income solutions.
The DI Wire: A few REITs are enacting new share structures and trail commissions before FINRA Rule 15-02 goes into effect. One is offering a no-load REIT. Currently, Inland Residential Properties Trust offers both Class A and T shares. Will you continue to offer Class A shares? What percentage of your current sales is comprised of Class A shares vs. Class T shares? How do you expect that to change after 15-02 is enacted? How does Inland plan to comply with the new rule requiring investor statements to reflect the impact of sales load?
Mike Ezzell: Inland’s current product offerings are already compliant with the new industry account statement standards. We offer lower-load Class A and T shares, and also offer those share classes to RIAs in a reduced-load structure and in fact we are already complying with FINRA’s NIM methodology for shareholders invested in our most recent REIT. Additionally, we have reduced our management fees and generally shifted towards more performance-based fees to further align with investors. Our overall goal is to provide a lower cost access point to our investment strategy. In the end, we are agnostic about the overall structure and are more focused on providing great real estate and alternative investment solutions to shareholders.
The DI Wire: Commercial real estate prices have rebounded to pre-recession levels, and some even exceed pre-recession levels. Cap rate compression is an issue in certain markets. With the pending interest rate hike looming, do you still see commercial real estate as an attractive investment? If so, why?
Mike Ezzell: The performance of the marketplace since the bottom of 2008-2009 has been driven predominantly by capital appreciation in the underlying properties. We believe however, commercial real estate returns going forward could be much more dependent on active management by growing net operating income (NOI) both at the property and the portfolio level. This can only be done by increasing rents and controlling costs. To be successful at both, deep expertise in actively managing commercial real estate is what will drive performance going forward. We continue to see commercial real estate as an attractive investment and we are confident that Inland’s long track record of actively managing commercial real estate over many types of markets and interest rate cycles will continue to provide attractive investment alternatives to investors.
The DI Wire: What else does Inland sponsor in addition to nontraded REITs? Can you tell us more about the private placements you offer? Are there other programs that you plan to offer investors?
Mike Ezzell: Inland is fully committed to looking for strategic ways to better meet investor needs with less correlated investments to the broader equity and fixed income markets. In the accredited investor space, we offer private placements through both our 1031 and individual real estate properties and portfolios. This is a robust business for Inland and is very solution-oriented to the end user.
The DI Wire: How is demand in the DST space? Where have you seen the strongest demand? Where is it softening? What makes DST offerings attractive to advisors and investors?
Mike Ezzell: Demand in the DST space has been robust. There continues to be a solid need for replacement properties by investors looking to defer taxes using a 1031 exchange. We have seen the strongest demand for properties that require more active asset management to grow net operating income, which provides better opportunities for capital appreciation over time.
Tax deferral through a program sponsored by a real estate company with a significant track record is very appealing to advisors and investors. We have observed that Inland’s long track record in this space and the integrity of its leaders is a determining factor in the investors’ decision process.
The DI Wire: AR Capital’s initial success had an overall positive effect on the non-traded REIT space, at least from an equity raising perspective. With its sudden demise, do you believe that the market will shrink as a result of its collapse? Will investors and advisors become leery of these types of programs because of it?
Mike Ezzell: Moving into 2016, our industry is addressing multiple challenges. Seeing the retreat of one of the larger sponsors from our space is certainly one of the facets that could trigger sales to slow.
That said, it is too early to tell for these reasons: you can critique the nontraded AI space, the actions of some of the players or focus on some of the product features, whether commissions, pricing or liquidity. This is a discussion surrounding the packaging or wrapper surrounding the investment strategy, not a fundamental critique of the viability of the investment strategy.
At the end of the day, retail investors still need access to high quality real estate and other alternative income investment solutions. Because we are in a low interest rate environment, even with rate hikes forthcoming, we don’t see investors’ interest for income, diversification and less correlated assets changing significantly. This demand and Inland’s ability to provide high quality professionally managed solutions to meet that demand, we believe, will continue to support sales, and high quality companies like Inland that offer quality products will also have an opportunity to meet that need, ultimately leading to broader adoption and industry growth.