Investor Lawyers Blog
Investors who purchased shares in the publicly registered non-traded REIT United Development Funding III (“UDF III”) upon the recommendation of their stockbroker or financial advisor may be able to recover their losses in FINRA arbitration if the recommendation to purchase shares lacked a reasonable basis or the nature and characteristics of the investment were misrepresented. UDF III is one of a number of successive funds offered by the real estate finance limited partnership, United Development Funding (“UDF”), headquartered in Grapevine, TX. Formed as a Delaware limited partnership in June 2005, UDF III, according to its publicly filed Registration Statement, was “… formed primarily to generate current interest income by investing in mortgage loans.” By April 2009, UDF III had completed its securities offering, having raised net proceeds of approximately $290.7 million.
Following allegations of misconduct by a Dallas hedge fund manager, the share price of UDF III suffered severe decline in late 2015. These allegations by the hedge fund manager concerned UDF and its various funds, including UDF III, allegedly exhibiting potential signs of a Ponzi scheme, including propping up poorly performing investments in earlier funds with new investor capital raised from later fund vintages. By November 30, 2015, UDF III filed an involuntary bankruptcy petition in the U.S. Bankruptcy Court for the Western District of Texas against UDF III’s largest non-affiliated borrower.
Many investors in UDF III have come to learn of the many risks inherent in investing in a non-traded REIT. To begin, a non-traded REIT is generally a very illiquid investment vehicle, given the fact that its shares do not trade on a national exchange. As such, when investors seek to exit their position, they may only do so by redeeming their shares directly with the issuer (often such redemptions are limited in terms of when they may occur, and in what amount), or through attempting to sell shares on a limited and fragmented secondary market.
In addition to their illiquid nature, non-traded REITs typically carry very high fees and commissions. In most instances, non-traded REITs are sold through a network of independent broker-dealers and associated financial advisors, who earn steep commissions (ranging up to 10%) on sales of non-traded REITs to investors. In addition to the sales commission charged, non-traded REITs typically charge other expenses, including certain due diligence and administrative fees (that can range anywhere from 1-3%). Such high fees act as a “drag” on the performance of the investment and create a substantial risk, particularly for the uninformed investor.
Another significant risk associated with non-traded REITs has to do with the nature of their investment portfolio. Most non-traded REITs are structured as “blind pools.” This means that an investor in, for example, UDF III, would have little to no knowledge of the fund’s investment strategy or contemplated acquisitions until such time as the investment capital was actually committed to deals. Accordingly, investors risk placing their money in an illiquid security that may make risky loans, perhaps concentrated loans to only one or a handful of borrowers, as the case appears with UDF III.
The attorneys at Law Office of Christopher J. Gray, P.C. have significant experience in representing investors who have incurred losses in connection with non-traded REITs and other illiquid investments in FINRA arbitration proceedings. Investors may contact our office at (866) 966-9598 or via email at newcases@investorlawyers.net for a no-cost, confidential consultation.