3R RE FIA completed 2 years in 3Q18. Although the evolution on the macro side has been in the expected direction, the speed of improvement was unenthusiastic, which impacted heavily on the accounting numbers of the real estate developers (as discussed in previous letters). However, looking at the latest developments summed by the medium and long-term macro outlook following the presidential election, we are very optimistic about the industry and the future performance of 3R RE FIA.
During the quarter we had a lot of volatility, but the 3R RE FIA finished the quarter like the end of 2Q18, with accumulated negative performance in the year of -17.4%. The improvement in the Bovespa index, which ended the quarter with a cumulative performance of + 3.85% YTD, was not reflected in real estate stocks (IMOBB* -19.7% in the year). After the first round of elections, and a more predictable scenario regarding the result of the second round, the change to risk-on mood was disseminated. The fund closed October with + 30% performance in the month and + 7.4% YTD (+ 19.4% since inception), compared to -1% of the IMOBB* YTD and + 23.3% in the month of October.
With the data from the operational previews of 3Q18 published and what we noticed talking to the companies in the sector, the quarter was generally reasonable. It started stronger, but electoral uncertainties influenced sales at the end of the quarter. Overall, the news over the quarter was reasonably positive for those focusing on the medium/long term. Two points to highlight: I. inventories continue a downward trend, returning to 2010/2012 levels; II. Savings accounts continue to raise funds, and as a result banks’ willingness to lend continues to grow.
Analyzing the valuation aspect, using Net Asset Value (NAV) as a metric, 2Q18 has already marked an important inflection point, in line with our expectations. It was the first quarter since 4Q14 that we saw “value creation” considering the companies we have under our coverage. When considering only the companies focused on medium and high-income products, the variation in the quarter was positive. We expect this turning point to be confirmed in the coming quarters as well.
Drivers of value creation continue to move in the expected direction. The reduction in sales cancelations, gross and net sales growth continue a positive trend. It varies from company to company according to the mix of products being delivered (both by product type and location) and by the volume of deliveries.
After the first round of the presidential elections coupled with a scenario that appears somewhat favorable, we have made a reasonable adjustment in the Fund´s allocation. We have reduced cash to just under 5% and change our low-income company’s exposure to focus on companies that favor middle- and high-income markets that also possess a higher leverage operationally and/or financially.
The difference between the updated NAV, according to our calculations, and the market value of the companies in our portfolio continues to indicate a substantial upside potential. Our average weighted portfolio is at 0.55x of today’s NAV. We continue to believe that at the end of the recovering cycle the Fund will deliver an attractive performance to investors.
