Real estate debt: From strength to strength

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A quick glance at the Data Room section of the supplement (page 19) will show you that relative to last year, there are more funds in market, chasing more capital, than at the same point last year. PDI’s Research & Analytics team estimates there are 59 real estate debt funds in market at the moment, chasing combined commitments of $33 billion. That compares to 53 funds chasing $29 billion last year. It’s by no means a massive increase, but then no-one ever got rich through credit investing in a hurry, and a measured approach to growing AUM avoids the perils of over-extending one’s team or drifting away from one’s investment sweetspot.

Fund sizes appear to increasingly significantly too. Last year, 34 funds closed with a combined $31.4 billion raised, compared to 33 funds accounting for $18.7 billion in 2012. This year looks set to outpace last, too, with 10 funds closed totalling $10.4 billion by the end of the first quarter.

In recent weeks, there have been several fund closes which augur well for the industry. DRC Capital shot the lights out with a £487 million (€596 million; $818 million) final close for its sophomore fund against a target of £400 million, while Goldman Sachs raised a cool $1.8 billion for its latest real estate credit fund, Broad Street Real Estate Credit Partners II.

Investors, it seems, are warming to a sub-sector of private debt that offers attractive returns with the added security of tangible assets against which to secure the debt. Some, like CalSTRS, are even mulling providing real estate financing direct to borrowers.

They’re increasingly willing to trade illiquidity for higher returns, particularly as traditional credit investments – gilts, for example – offer such poor yields in this record low interest rate environment. Yet with new entrants arriving on the scheme frequently, and a relatively small number of deals on offer, spreads have been compressed while firms have offered ever higher loan-to-value ratios. Aviva Investors’ James Tarry discusses these issues and more on page 6.

Private debt funds are undoubtedly an increasingly important part of the market. In the US, such funds account for approximately a quarter of all real estate finance. Europe is well short of that mark, but catching up fast – fund administration group Sanne (which offers a perspective on fund structuring considerations on page 8) estimates that non-bank lenders will increase market share to 15 percent in the UK and 8 percent in Europe over the next five years. The pace of that increase could well accelerate if banks in Europe speed up disposals.

They certainly seem to be in a hurry to offload non-core assets and thereby delever, mindful perhaps of the impending asset quality review process. In 2013, for example, sales of non-core loans by banks were 40 percent higher than in 2012.

Several groups have established themselves as market leaders in the acquisition of such loan portfolios, including Lone Star Funds, Apollo Global Management, and Cerberus Capital Management. They have the pedigree, having transacted successfully for many years, the firepower, having raised huge amounts of capital, and the skill to get comfortable with different jurisdictions and complex portfolios of assets.

We take a look at the advisors who have the unenviable task of managing such sales on page 11, with Deloitte’s David Edmonds speaking frankly about the enormous scale of the NPL portfolio market relative to previous post-crisis environments.

Plenty of other firms are now well established themselves in other areas of the market. ICG-Longbow, for instance, celebrates its 8th birthday this year and has cemented its reputation within the UK market as a group whose skills are firmly rooted in understanding the fundamentals of commercial property. For an interview with the firm’s co-founder Martin Wheeler, turn to page 17.

We hope you enjoy the supplement, and as ever, welcome any feedback. Happy reading.