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Grosvenor makes first Japanese property derivatives trade

London-based Grosvenor Group transacted its first Japanese property derivatives trade in July. The trade, a two-year total-return swap on the IPD Index for Japan, is the next step in Grosvenor’s foray into the property derivatives market.

Liquid real estate issue 03

 Nick Scarles, Grosvenor Group

"I’m now confident we can do any property derivative that our business feels it wishes to do"
Nick Scarles, Grosvenor Group

The privately owned firm, which owns and manages property worth more than £7 billion ($14.2 billion) and has the Duke of Westminster as one of its clients, has made a number of test property derivative trades over the past nine months. "We want to test the market and our ability to execute deals to make sure we understand the indices on which they’re based by actually doing small test trades, and managing them through to completion," says Nick Scarles, group finance director at Grosvenor. "That way we can build our own level of expertise and level of confidence to do more strategic trades going forward."

To date all of Grosvenor’s test trades have been of a small notional principal. The group has completed trades in the UK, US and Australia and now Japan. Part of the rationale for doing test trades was to make sure Grosvenor’s systems for assessment, marking to market and quantifying value at risk were robust. The Grosvenor team has also been familiarizing itself with trade documentation, which is becoming increasingly standardized but still needs to be tailored on a trade-by-trade basis.

"I’m now confident we can do any property derivative that our business feels it wishes to do," says Scarles. "The potential for the market is there and it really is important that people active in the physical market understand how the derivative market relating to it works. It’s good business sense."

Scarles sees the potential to use property derivatives in several different ways – from portfolio allocation to risk management. For example, Grosvenor could use property derivatives to deploy capital awaiting investment as well as to optimize its portfolio by quickly adding exposure to regions where it wishes to increase its allocation. On the risk management side, one use might be to synthetically sell a property for a period of time when the firm has a negative view but does not wish to sell it physically.

"We’re not going to limit how we use derivatives," says Scarles. "We are going to use them where there is a sensible commercial need."

At present, Grosvenor is underweight exposure to the Asia Pacific and the Americas. One way to change that situation quickly could be through property derivative trades.

"We’re reducing the proportion of the group’s equity that’s in the UK," says Scarles. "If we could get to our long-term targets quicker, why wouldn’t we do that using derivatives, provided we think pricing is sensible?"

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