The Institutional Real Estate Inc Sponsorship brochure, Connected-Investor Focused, We connect people, data and insights, sponsorship, events, IREI Products
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levee breaks I nvestment dollars are flowing into privately managed debt funds at historic levels, seek- ing both yield and stability at a time when many believe we are in the later stages of a very long upward trend in the commercial real estate cycle. Numerous factors are piquing interest in the commercial real estate debt sector: the enor- mous $4.1 trillion commercial and multifam- ily mortgage marketplace; the history of lower loss and higher recovery rates than comparable corporate bonds; the opportunity for portfolio diversification (e.g., property type, geography) coupled with short duration instruments that facilitate risk rebalancing; and the presence of subordinated capital as a margin of safety to late-cycle value disruption and volatility. In addition, research shows a high level of negative covariance between commercial real estate debt and most other financial assets, thereby allow- ing a portfolio manager to construct a more "efficient frontier" if real estate mortgages are added to the mix. As a result, it's not surprising 94 debt funds currently are active globally, with $33.1 billion of aggregate capital raised as of January 2018, compared with the 61 debt funds with $24.8 billion of capital in January 2015. Unlike high-yield distressed-debt invest- ments, the commercial real estate debt funds described above are organized to construct a balanced portfolio of "performing" loans that generate a steady and predictable core- like quarterly dividend for their investors. Nonetheless, even the best portfolios with the most disciplined underwriting will experience both technical (e.g., covenant) and monetary defaults within the loan book. When these circumstances present themselves, it is para- mount the debt fund sponsor has a tested team By Jay Hart When the Is your debt fund sponsor prepared to take back the keys? Some 94 debt funds currently are active globally, with $33.1 billion of aregate capital raised as of January 2018. of workout specialists to optimize resolution. Without such a team, the likelihood increases that loan recovery rates will be lower along with corresponding fund investment returns. So, where are investors likely to find "performing" debt-fund sponsors with a significant workout or turnaround pedigree? GUIDED BY HISTORY To begin such an evaluation, the background of any debt fund manager and its team members must be placed against the historical context of past real estate cycles and disruptions. World War I Supreme Allied Commander Ferdinand Foch once said it takes 15,000 casualties to train a major general. In the commercial real estate loan-workout equivalent, the past 35 years have witnessed only two severe downward cycles in the United States and arguably during only one of these was it possible to gain the level of experience that Foch describes. e global financial crisis of 2007–2010 was a period of extreme stress in the world financial markets and banking systems. Although prices 54 REALASSETS ADVISER | D E C E M B E R 2 0 1 8