Why Invest in Commercial Real Estate Debt?
Similar to bonds and stocks, commercial real estate debt and commercial real estate equity possess different risk and return characteristics. In the commercial real estate capital structure, senior debt investors typically take the least amount of risk as they are the first to be repaid and have the highest claim on the real estate asset
Equity investors, in an attempt to earn a greater investment return, typically take relatively more risk by having a lower payment priority and a lower-priority claim on the underlying real estate asset.
Investors may choose commercial real estate equity investments for their capital appreciation potential and commercial real estate debt investments for potential cash flows and capital preservation. Holding both in a portfolio may help to further diversify and potentially reduce overall portfolio risk. However, diversification does not eliminate risk and does not assure better performance.
High Demand for Capital and Limited Supply Create Opportunities
Since the financial crisis of 2008, banks’ and other traditional lenders’ ability to finance commercial real estate has been greatly diminished and lending requirements have become more stringent. Even so, demand for commercial real estate financing remains strong as real estate fundamentals improve. It is estimated that $2.1 trillion in commercial real estate loans will mature through 2019, far out pacing traditional lenders' capacity to provide debt capital.1
This supply and demand imbalance presents an opportunity for commercial real estate lenders with successful track records, flexible capital, strong origination platforms and minimal credit losses. Non-bank lenders like NorthStar Income II can meet demand by originating and structuring loans at competitive yields and may pass those yields to investors, providing the potential for attractive risk-adjusted returns.
1) Barclays Capital U.S. Securitization Research: CMBS Outlook 2015. Compiled using data from U.S. Federal Reserve, FDIC and Barclays Capital.
Chart Source: Barclays Capital U.S. Securitization Research: CMBS Outlook 2015. Mortgage Bankers Association Annual Origination Volume Summations 2012-2015. Mortgage Bankers Origination Index estimates quarterly origination volume, which was extrapolated against actual historical originations.