Bricks & mortar and property securities in a single fund For professional clients only

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1 HSBC Open Global Property Fund Bricks & mortar and property securities in a single fund For professional clients only

2 HSBC Open Global Property Fund A liquid property portfolio with fewer ups and downs on the way Direct property funds are unlisted vehicles that invest in physical buildings, such as offices, retail and industrial buildings, including distribution warehouses. Listed property equities, which include shares issued by Real Estate Investment Trusts (REITs) and development companies, are publicly-quoted securities that invest in buildings. Most property funds provide access to either direct property (also called brick and mortar property ) or property securities. The HSBC Open Global Property Fund is different. It gives access to both types of property investment at once. The reason we do it is simple. Combining direct property funds and listed property securities offers potentially lower volatility of returns than would be the case from investing in equity markets alone. It also helps to maintain higher liquidity than is possible when investing only in direct property. The best local expertise. Globally. When it comes to investing in global property we believe that no single manager can claim to be an expert in all countries and sectors everywhere in the world. We therefore believe in facilitating access for our investors to a range of specialists operating in different markets. We do it by investing globally in a range of funds that hold either predominantly direct property or property securities. Our Real Estate Investment team selects property funds taking account of the specialist skills and market knowledge of managers wherever they are based. Lower volatility: direct property One of the most attractive features of commercial property is its return characteristics. Over the long term, the asset class has historically produced a mixture of income and capital appreciation. A yield generated by rental income tends to be a stable element of the total return. WHY CONSIDER THIS FUND? ``Globally-diversified across both direct and indirect property markets (through investment in specialist funds) ``A one-stop solution for your clients entire property exposure, or as a core property holding, which combines top-down allocation and fund selection ``Access to local property market knowledge from some of the world s best local property managers ``Driven by our Real Estate Investment team s tactical asset allocation expertise, thematic property ideas and fund selection capabilities ``Daily dealing In addition, investors have long favoured direct commercial property as an effective diversifier not only it is lowly correlated to other asset classes but is also, typically, less volatile. However, these benefits come at a price. Commercial properties are large and expensive. According to Real Capital Analytics, the average lot size of office transactions globally in 2014 exceeded 30m. Some commercial properties, such as regional shopping centres, can trade at over 1bn. This means it is impossible for all but the largest institutional investors to assemble a portfolio of directly-owned investment properties and achieve adequate diversification. The acquisition, on-going management and disposal of buildings also requires locally-based specialists. Therefore, due to the significant expenses involved and local expertise required to build a portfolio of direct property investments, it is extremely difficult to achieve critical mass and diversification globally. Holding commercial property directly involves investment in inherently illiquid assets. It takes time to transact a property purchase or sale, especially at times of challenging markets. During buoyant conditions, when many investors are competing to buy buildings, it can take many months to deploy capital. In depressed markets, it can be difficult to sell when investor demand is weak. Investing through property funds can help to overcome the problem of large lot sizes, as investors pool their capital to create more diversified portfolios. The liquidity of pooled funds varies enormously. At one extreme, private equity real estate funds usually designed for large, institutional investors offer less liquidity than underlying buildings since investors tie up capital typically for a minimum of 5-7 years in fixed life, closed ended vehicles that have no liquidity during their life. At the other end of the liquidity spectrum, some funds are designed for small, private investors and have daily dealing. Between these two extremes are pooled funds designed for institutional investors that are either openended (allowing investors to purchase or redeem units in funds), with typically dealing on a quarterly basis, or are closed-ended. In extreme market conditions, managers may have difficulty meeting redemption requests and it is normal for managers of funds designed for institutional investors to have the ability to defer redemptions. Our approach to the problem of assembling a diversified portfolio is to invest in direct property through unlisted funds rather than by buying physical buildings. This approach also helps to access local markets quickly and easily, as well as to diversify property-specific risk. We can invest through local specialist managers with the requisite expertise, wherever they happen to be based. We can change portfolio structure quickly and easily. The Fund also maintains its liquidity by investing in the more liquid direct property funds and by bringing property securities to the mix.

3 Liquidity: property securities Property securities REITs and property development companies are liquid financial instruments traded on stock exchanges. We hold both direct property funds and property securities to maintain a high level of liquidity allowing for the portfolio structure to be changed quickly. The listed sector provides access to markets where there are few (if any) suitable direct property funds. It is also a cost-effective way of investing in property, relative to the costs of buying buildings directly, including stamp duty land tax and other costs associated with property transactions. Another reason for investing in the listed sector is that short-term performance movements of property securities are influenced largely by the direction of the wider equity market. This provides buying or selling opportunities since pricing in the listed market can move significantly away from underlying property values. Over longer investment periods, however, listed property shows a stronger correlation with physical property markets and weaker correlation to general equity markets. Being able to access both types of property, and by actively allocating between both, provides an opportunity to take advantage of mis-pricing between the public and private markets. Finally, investing through listed property securities provides access to locally-based specialist management teams. Listed property equities are more volatile than physical property funds. However, by blending the two types of property we can provide a solution that can produce an attractive level of return relative to risk. Fund Manager Guy Morrell Head of Real Estate Investment, HSBC Global Asset Management Guy has over 30 years experience in property investment. Before joining HSBC in 2004, he was Chief Investment Officer of Global Property at Henderson Global Investors. Previously, he worked in the Property Research Team at Prudential Portfolio Managers and was an investment surveyor at Healey & Baker. Guy holds a PhD in property portfolio construction and risk from the University of Reading, a first class honours BSc degree in Land Management from Leicester Polytechnic (now De Montfort University) and is a chartered surveyor. He is a Visiting Senior Fellow at the Department of Geography and the Environment at the London School of Economics. Continued Industry Recognition Manager of the HSBC Open Global Property Fund, Dr Guy Morrell, has retained his Alpha Manager rating from FE Trustnet for the fifth year running. FE Trustnet Alpha Manager ratings are awarded each year to the top ten percent of UK retail fund managers running unit trusts & OEICs, who maintain a consistently high alpha score over a proven track record regardless of market direction. Dr Morrell, who has managed the fund since its launch in November 2007, is the only Alpha Manager in the IMA Property sector, which numbers 44 funds from different providers 1. According to FE Trustnet, Guy has achieved an annualised total return of 6.1% over 7.2 years, against 0.1% for the fund s peer group composite benchmark over the same period 2. Past performance is not a reliable indication of future returns. 1 FE Trustnet as at 03 June 2015, Column=P60M,UnitNameFull&Pf_sortedDirection=DESC last accessed on FE Trustnet as at , last accessed on

4 HSBC Open Global Property Fund A global perspective This global fund can balance its allocation geographically as well as between the direct and indirect property, particularly at times when these markets exhibit low correlation over the short term. A property fund which offers such comprehensive diversification benefits can be a valuable tool for many investment portfolios. By investing globally, we diversify the risk of investing in individual countries as property markets are driven by local dynamics. Rents are determined by local demand and local supply factors, which vary from country to country. Leasing terms also often vary across countries. These differences lead to the segmentation of property markets and lower cross-market correlation relative to mainstream equity and government bond markets. Low correlation is helpful in reducing risk as the fund is not dependent entirely on the performance of one single market. For example, we held no UK direct property investments when we launched the fund in 2007 because we considered the market to be unattractively-priced. This enabled us to avoid the sharp downturn in the UK commercial property market, which suffered falls in capital values of over 44% between June 2007 and July 2009 according to the IPD UK Monthly Index. The direct property funds we held at this time were invested outside the UK, and they performed relatively well when the UK market suffered its downturn in In June 2009, when All Property yields had reached 7.9% (up from 4.6% two years earlier), we entered the UK market quickly to take advantage of more attractive pricing 3. UK investors in other asset classes have diversified their equity and fixed income portfolios across other countries globally for many years. Assuming the appropriate structure, which we believe we provide through our indirect approach, we see no reason why the same principles cannot be applied to property. A distinctive investment approach Our approach to evaluating property funds and securities, which has developed over more than ten years, blends rigour with pragmatism. We assess the fund management team, the investment philosophy and process, the strengths and weaknesses of the current portfolio and future performance prospects. In addition, we evaluate a fund s risk profile as well as its liquidity, which is particularly important with direct property funds. We start our investment process with an appraisal of the underlying property markets. Property forms part of the wider capital markets but often experiences prolonged periods of mispricing. In addition, while all managers claim to add value at the individual property level through active asset management (and the better ones successfully do so), the biggest driver of property returns in the long run is the underlying market in which the assets are invested. Consequently, we believe that a HSBC Open Global Property Fund, performance since launch Investment Association OE Property sector Source: Morningstar, total returns, net income reinvested, bid-to-bid in GBP of retail Acc share class Data as at from fund launch on 26 November 2007 to 30 June 2015 Past performance is not a reliable indication of future returns. HSBC Open Global Property C Acc 3 Source; IPD UK Monthly Index, May 2009.

5 comprehensive fundamental assessment of property funds is difficult to achieve without understanding the underlying direct and listed property markets. When assessing the fund, we review the structural composition by looking at various metrics, including sector, geography, yield, occupancy and lease expiry profile. We review the largest holdings and question the manager on the most significant property asset management initiatives that are planned or are under way. Of critical importance is our assessment that the management team not just the lead portfolio manager but the supporting asset managers have the capability to deliver the objectives and execute the strategy. A lot of contact with the management team takes place before we invest. Initially, this involves desktop reviews and an evaluation of questionnaires. Once we have decided to carry out detailed due diligence, we meet the manager for a thorough review before we invest. Thereafter we undertake desktop reviews of performance quarterly and have update meetings with the manager at least annually. Open, honest and transparent communication with the manager is essential. This approach contributes to our robust, end-to-end investment process. By diversifying across geographies and picking skilled managers within these markets we have the potential to deliver attractive risk-adjusted returns in a highly liquid form. Top-down Strategic and tactical asset allocation Property market reviews Client reporting Portfolio construction and management Performance monitoring and review Manager/ fund selection Bottom-up

6 HSBC Open Global Property Fund The low interest rate environment and physical property investment: the importance of being selective 4 Dr Guy Morrell, manager of the HSBC Open Global Property Fund Central banks around the world have maintained a policy of low interest rates in response to the global financial crisis. The US Federal Reserve cut its key interest rate to 0.25% in December 2008 and has kept it at that level ever since. The Bank of England s Monetary Policy Committee (MPC) reduced the UK rate to 0.5% in March 2009, where it has remained ever since. The European Central Bank (ECB) was slower to act but its current main refinancing rate of 0.05% was introduced in September Central banks are taking concerted action to stimulate growth and avoid deflation. Such policies have had a profound impact on all asset prices. Bond and equity market prices have risen dramatically in recent years and yields have fallen. Property has not been immune from these wider trends. Investors have been attracted by yields that significantly exceed government bonds in many countries. A report by DTZ, a property services company, says that global property investment transaction volumes totalled USD 633bn in 2014, representing a 20% increase on As a result, strong price performance has been experienced in many unlisted (direct, or physical) and listed property markets. It is easy to get swept along in a positive mood towards the property market. But caution is needed. Other things being equal, the lower yields that accompany higher prices lead to lower prospective returns. We believe there is a danger that differences in pricing across diverse real estate markets are being obscured by a common remain selective in our allocations, particularly in physical property markets that are relatively illiquid and costly to enter and exit. A good example of where we believe there is a danger of mispricing due to extremely low interest rates is Continental Europe. As a result, we currently have no exposure to direct property funds on the Continent. This may seem surprising. Countries within the Eurozone alone have populations totalling 335 million people. In terms of economic importance, the Eurozone s GDP was USD11 trillion in 2012, 14% of global GDP. Extra-euro area imports and exports account for almost 40% of the Eurozone s GDP, highlighting the area s significant role in global trade, with the UK, US and China its three main trading partners. The Continent is also attracting huge inflows of money from property investors around the world, especially from US institutions. The DTZ study referred to above reported that the largest increase in investment activity in 2014 was directed towards Europe, which saw a rise of 32% in dollar terms relative to 2013, compared to an increase in global investment activity of 20%. This illustrates the opportunities investors see in Europe. So why have we chosen currently not to have exposure to unlisted property on the Continent? We believe investors are making over-optimistic assumptions in their pricing of property on the Continent. Put simply, we believe property yields are too low. 4 factor of unusually low interest rates. The consequence is that we This article was written on 3 July Source: Money into Property 2015, DTZ, June 2015.

7 And a key reason for this is that investors have been assuming either implicitly or explicitly that the so-called risk free rate will remain at unrealistically low levels for many years. The redemption yield on 10 year German government bonds often used as a benchmark risk free rate illustrates this point. Before the financial crisis, yields on 10 year bonds stood at between 4% and 4.5%. They have since fallen dramatically, as the chart below shows. By April 2015, the yield on 10 year German bonds had dropped to less than 0.1% although at the time of writing they have since risen to around 0.75%. 5 Year yields are even lower, at around 0.1%. What has this got to do with property? If investors are using 10 year Government bonds as a measure of the appropriate risk free rate, then there are two consequences. First, such low yields mean that the required rate of return that property investors use to judge whether or not prospective returns are attractive, is also low. Assuming, for example, that investors require a premium of, say, 2.5% to 3.0% points above the current benchmark risk free rate as compensation for owning a risky and illiquid asset class such as property, then the required return from property is around 3.25% %. In our view, this is too low. The second consequence is that the market s pricing of future government bond yields is influencing investors assumptions (either explicitly or implicitly) about future property yields. Low future risk free rates will, other things being equal, result in low future property yields. And the lower the level of future yields, the higher the capitalisation of future income streams. This makes it easier to justify low current yields. In addition, any investors using debt to finance property purchases can do so by borrowing at extremely low interest rates, well below current property yields, which further helps to explain the current enthusiasm from some investors. The net result is that low current and implied future risk free rates are, in our view, leading to significant over-pricing of some Continental European cities when seen in a global context. We believe other property markets are priced to offer superior risk-adjusted returns. It also means that the market is extremely vulnerable to any future rise in interest rates. As the chart below shows, 10 year bond yields have already risen sharply since their April lows. Whilst we do not expect a dramatic rise in interest rates in the short term, we believe it is sensible to assume a gradual reversion to higher rates in 5-10 years time. When adopting this more conservative approach, it is difficult to conclude that current property yields in many cities in Continental Europe are attractive given our outlook for rental value growth. The consequence is that we do not currently hold any unlisted (direct) property vehicles investing in Continental Europe within the HSBC Open Global Property Fund. In addition, to concerns about long term prospective returns, the costs of managing and operating pan-european unlisted funds can reduce significantly the net returns to investors. At the time of writing, continued uncertainty relating to Greece has potentially wider negative economic implications for other European countries. As a result, we prefer to get exposure in Continental Europe from publicly quoted property equities because they offer a higher level of liquidity and, in the short term, stand to benefit from the strength in the underlying unlisted (private) market. By contrast, our direct property fund holdings are confined to the UK. We believe we are past the peak of the current cycle and the strong performance experienced in 2014 is unlikely to be repeated in Nonetheless, we consider prospective long run returns are likely to exceed those in Continental Europe. German 5 and 10 year government bond yields /29/2006 5/29/ /29/2007 3/29/2008 8/29/2008 1/29/2009 6/29/ /29/2009 4/29/2010 9/29/2010 2/28/2011 7/31/ /31/2011 5/31/ /31/2012 3/31/2013 8/31/2013 1/31/2014 6/30/ /30/2014 4/30/2015 Source: Thomson Reuters Datastream as at 30 June Year Benchmark Yields 5 Year Benchmark Yields

8 HSBC Open Global Property Fund What are some of the risks when investing? ``TIME HORIZON: This is a medium to long-term investment and your clients should plan to keep it for at least five years ``RISK TO CAPITAL: The capital value and the income generated by the fund may go down as well as up and is not guaranteed. Investors may not get back the amount originally invested ``CURRENCIES: The currency movements between sterling and other countries could influence the returns of the portfolio. Where overseas investments are held the rate of currency exchange may cause the value of such investments to go down as well as up ``PROPERTY: The long term nature of investment in property and the income generated tend to make this type of investment less volatile than equities although it can be difficult to buy and/or sell quickly. Where the underlying funds invest directly in property, the property in the fund may not be readily realisable, and the Manager of the fund may apply a deferral on redemption requests. The value of property is generally a matter of the valuer s opinion rather than fact ``Commercial and residential property have different risk profiles and returns in one market do not necessarily follow the other. The risks involved in property investment are different from other types of investments such as equities and bonds, in that this type of investment tends to lag the economic cycle rather than lead it ``Some of the underlying property funds will not price daily ``Listed property securities are part of the equity market and are more volatile than direct (unlisted) property, which can mean that the price of Shares and the income from them can fluctuate, sometimes dramatically ``There are certain additional costs and risks associated with the direct ownership of real estate. These include: risk of oversupply in local markets, risk of extended vacancies within properties, property taxes and operating expenses, risk of changes in planning laws, risks relating to legal title, costs relating to environmental problems and liability risk to third parties for damages resulting from environmental problems, and uninsured damages from floods, earthquakes and other natural disasters ``Property values are affected by a number of factors, including general and local economic conditions, attractiveness and location of properties, increases in local competition, financial condition of tenants, quality of maintenance, limitations on and variations in rents, level of investor demand and changes in interest rates Important information For Professional Clients only and should not be distributed to or relied upon by Retail Clients. The material contained herein is for information only and does not constitute investment advice or a recommendation to any reader of this material to buy or sell investments. This document is not intended for distribution to or use by any person or entity in any jurisdiction or country where such distribution or use would be contrary to law or regulation. This document is not and should not be construed as an offer to sell or the solicitation of an offer to purchase or subscribe to any investment. Any views expressed were held at the time of preparation and are subject to change without notice. While any forecast, projection or target where provided is indicative only and not guaranteed in any way. HSBC Global Asset Management (UK) Limited accepts no liability for any failure to meet such forecast, projection or target. Fund specifics These funds are sub-funds of HSBC OpenFunds an Open Ended Investment Company that is authorised in the UK by the Financial Conduct Authority. The Authorised Corporate Director and Investment Manager is HSBC Global Asset Management (UK) Limited. All applications are made on the basis of the HSBC OpenFunds/prospectus, Key Investor Information Document (KIID), Supplementary Information Document (SID) and most recent annual and semi annual report, which can be obtained upon request free of charge from HSBC Global Asset Management (UK) Limited, 8, Canada Square, Canary Wharf, London, E14 5HQ, UK, or the local distributors. Investors and potential investors should read and note the risk warnings in the prospectus and relevant KIID and additionally, in the case of retail clients, the information contained in the supporting SID. Issued in the UK by HSBC Global Asset Management (UK) Limited. Authorised and regulated by the Financial Conduct Authority. Copyright HSBC Global Asset Management (UK) Limited All rights reserved /AS/0715/FP15-FP Expiry date 23/01/2016.