Afores: Jumping through hoops

Mexico’s Grupo IGS wrapped up a $100 million investment in infrastructure and real estate projects in March. The seed money came from two certificados capital de desarrollo (CCD) transactions that the firm launched in 2011.

Within the next five years, IGS will divest the CCDs. But the investment manager is hardly finished with the specialized instrument. Chief executive and chairman Antonio Ruíz Galindo says IGS will issue more CCDs to further tap Mexico’s infrastructure sector and venture into hotel real estate.

On the buy-side, the instruments have long been in demand by Mexico’s pension fund managers, the Afores, he says.

“The Afores were saying, listen, we need more vehicles to invest in longer term assets,” says Galindo. “So the regulators created a way for Afores to invest a percentage of their funds under management into private equity funds. Why? Because they can deliver a better return or investment than investing in debt, or other issuances.”

So it was that, in 2009, CCDs were developed as an instrument through which Mexico’s pension funds can invest in private equity. CCDs must list on a stock market and receive approval from regulators. Then, the administrators can leverage the capital by tapping equal amounts from international investors and loans.

Newer rules allow capital calls, meaning CCD managers can collect pledged money from buyers of the certificates when the need arises. Typically, a CCD has a lifespan of 10 to 15 years.

CCD funds invest, and divest, in properties, machinery, loans, and other private assets. But codes regulating investments are vague, and uncertainty around the instrument has impeded the funds from investing more, say pension managers, CCD mangers, and regulators.

The assets managed by Mexico’s pension funds have grown close to five-fold over the last decade, pushing up assets under management to more than 2.4 trillion pesos ($163 billion). But, as of the close of last year, only four of Mexico’s 11 Afores had invested in CCDs. Since CCDs were created six years ago, pension funds managers have invested a little over 80 billion pesos ($5.2 billion) in CCDs. Last year, Afores that invest in CCDs allocated about 3.5% of their assets to the funds.

“The low amount of investment reveals that they have to change something,” says Arturo Rueda, head of Fitch’s fund and asset manager group in Mexico.

The CCD market “has been maturing at a slower pace than we have hoped for,” says Ignacio Saldaña, chief investment officer at Afore XXI Banorte, Mexico’s largest pension fund manager.

Saldaña says Afore XXI’s assets have grown between 12% and 15% a year, but with a lack of new CCDs hitting the market, the fund has trouble keeping its current allocation in the asset class. All the same, the fund manager plans to increase its investments in CCDs from about 2.75% to 7.5% of total assets during the next three years, and push up its investments in some CCDs to about 65%, from 30%.

The evolution continues

Luis de Garay, director of brokerage house GBM’s investment bank and corporate investments, which manages two CCDs, says now the instruments must become more “agile”.

“They are complex and need a lot of work. A lot of the discussion is about how to make them more efficient, and we think there is a lot of work to do,” he continues.

But, “with every new CCD, the financial technology around these funds gets better, becoming more like a private equity fund.”

Consar, Mexico’s pension fund regulator, is reforming codes to make investing in CCDs easier. “In most developed countries, the pension systems can participate in private equity. They don’t have to jump through hoops,” says Carlos Ramírez, head of Consar. “They decide what they want to invest in and they invest in it.”

Ramírez says the regulator is working to separate CCD investing codes from those of Fibras, Mexico’s real estate investment trusts. It also is streamlining processes for evaluating CCDs, such as creating a database so fund managers can track CCDs.

“We are changing the rules to give Afores a little more flexibility and to adapt best practices,” Ramírez says.

Noting that the CCD market “is a very new thing in Mexico,” Galindo of IGS says he expects CCDs to evolve through the years. “They will be simpler. Now a CCD is a public instrument. I think it’s going to become private. But you have to be very careful because you’re talking about funds from workers and employees. There has to be very tight regulation so it’s not a free for all.”

Indeed, already there are signs of new types of CCDs in the works. Mexico’s largest REIT, Fibra Uno, said in March that it would get into the business, creating its own CCD to develop properties. Once that real estate investment turns a profit, the fund would sell it to its Fibra business.

Fibra Uno is not the first to suggest a more integrated type of CCD. Afore managers have pondered making their own CCDs as one way around regulation.

“We know that more than one Afore wants vertical integration and that they want their own teams to manage the CCD. But it’s not our case,” says Saldaña.

Rodrigo Blancas, head of mandates at the Afore Banamex, meanwhile, says he thinks these types of CCDs are unlikely to become a reality in the near future. 

A lot is at stake, not just for Mexico’s pensioners but also the country’s infrastructure. “In the rest of the world, pension funds are some of the most important investors in private capital, accounting for 46% of the money in the industry,” says Armando Martínez, who oversees investment research at Discovery Americas, which operates three CCDs. Investing in private capital “increases the expected return for pension fund portfolios without increasing their aggregated risk,” he says.

Getting in early

Mexico’s Siefores — the individual funds managed by the Afores — posted median returns of 7.42% last year, more than double 2013’s 3.17%. Nevertheless, with growing assets under management, most Siefores are looking for instruments with higher returns.

Saldaña says that Mexico’s Fibras, another instrument pension fund managers are allowed to invest in, are not offering the returns Afore XXI wants. By the time real estate reaches the Fibra market, “it’s already expensive”, Saldaña says, noting Afore XXI has the funds to take earlier-stage risks.

The Afore XXI team sees more profitability in investing in real estate through a CCD than a Fibra because CCDs can tap the real estate market at an earlier stage. Once the CCD stabilizes the real estate assets, it sells them to a Fibra, typically booking a double-digit return, he says.

Afore Banamex, Mexico’s second-largest pension fund by assets, sees the CCD as a key diversification vehicle. “We can potentiallyhave instruments with better returns at the medium- and long-term,” says Blancas. “It is a good option that we have used in recent years as a way to look for higher returns.”

Blancas says that participating in CCDs is time consuming, because investors have to do a lot of analysis. Before investing in a CCD, Blancas says, his team looks over the fund’s project pipeline, the experience of the CCD team, and its exit strategy. “The CCD market is really dependent on the offer that the managers bring.” LF