The European Association of Investors in Non-Listed Funds (INREV) has developed a new funds style classification based on 'bundles of risks' which is aimed at introducing a workable, robust and enduring classification for the non-listed real estate funds industry. The move represents an important development for the non-listed funds sector, providing investors and fund managers with greater clarity which will help them to better assess their investment strategies, INREV said on Thursday.

The new INREV Style Classification refines and updates INREV's original framework introduced in 2004, which first classified non-listed fund styles as 'core', 'value-added' or 'opportunity'. The original factors on which these styles were based - internal rate of return (IRR) and gearing - are now generally seen as inconsistent measures.

The new classification takes account of three significant risk factors for determining the style of a non-listed real estate fund. A survey carried out by INREV based on data collected from more than 200 funds showed that three groups of funds could be established on the basis of just three risk factors: leverage; development exposure; and income distributions. The three groups of funds determined in this way were found to reflect low, medium and high risk; and each group mirrored closely the classification of core, value-added and opportunity funds, respectively, with three quarters of funds matching their current classification. Originally, six risk factors with an emphasis on fund activity were selected to help identify the key characteristics of the three fund style categories. These were: leverage; development exposure; income distribution as percentage of total return; country exposure; sector exposure; and diversification.

'We’ve moved away from the principle of target internal rate of return as a determinant of fund style. In fact, IRR is really about the price of risk. Returns and leverage objectives have shifted over time leading funds to drift across defined boundaries. The bundle of risks approach is more comprehensive and provides stronger data on which to base enduring classifications,' said Lonneke Löwik, INREV's director of Research and Market Information.

The three key determinants of style which underpin the new styles classification are simple and transparent indicators of variation in risk. Each has a specific numerical value band for the three different fund styles, providing investors and fund managers with clear and accurate verification of their funds' classification.

'The original assessment criteria for the different fund styles left too much room for interpretation,' said Michael Morgenroth, chairman of INREV. 'The understanding within the industry of the risk and return expectations for the core, value added and opportunity funds lacked uniformity. But the market has developed and we’ve become more sophisticated in our view of what’s required, and the new classification adopts a more robust approach with greater resilience to changes in market conditions.'

The new tool will be available on www.inrev.org from 14th March 2011. The new funds style classification will be introduced to all newly launched funds from 2011 onwards; and the key risk variables will be added to the INREV Vehicles Database. 'We believe this new approach is very exciting for the industry. It fulfills a long-standing objective to create a workable, robust and enduring basis on which to assess fund styles,' concluded Löwik.