In Asia Pacific, according to recent CBRE data, real estate debt is fast consolidating itself as an alternative investment class as global investors investigate new methods to deploy capital in this industry. Investors are seeking more debt exposure and increasing transaction activity in 2018 due to tightening credit conditions, decreasing property prices, and the possibility of a rate increase in several regions. rentcars
More and more investors are opting to make loans against Asia Pacific real estate holdings instead of equity investments. As a result of a combination of growing demand and historically low yields along with the shortage of investable stock this strategy has seen a surge in interest. Asian lenders have also been more cautious when it comes to investing in real estate because of the US Federal Reserve's rising interest rates.
"Increasingly, people all around the country want to invest in real estate-backed debt. As lending standards tighten, more nontraditional lenders are entering the market. Some investors feel debt delivers greater risk-adjusted returns than equity. Customers are also employing loans to play a more strategic medium-term role in the capital stack for some clients "Tom Moffat, CBRE's Executive Managing Director for Asia Capital Markets, concurs.
A shift in the real estate capital stack from a normal bank loan plus equity structure to one that emphasizes mezzanine financing and preferred equity is also helping to boost investor interest in debt. Debt investments in Asia Pacific come in a variety of forms with varying levels of risk, which investors take into account when deciding where to allocate their capital.
Since senior lending sits at the bottom of the capital stack, it is associated with the lowest amount of risk. However, non-bank lenders such as insurance companies and pension funds are increasingly entering the industry, especially in Australia.
Investors involved in debt strategies in Asia Pacific continue to concentrate on mezzanine funding and preferred equity. Construction projects often have high loan-to-value (LTV) ratios or a sudden influx of capital. In Asia Pacific, activity in this area is being driven by private equity and debt firms that invest in real estate.
There were several noteworthy developments in 2018 including the following:
As traditional Chinese lenders tighten their lending standards, other entities are attempting to gain a larger share of the Chinese real estate market. Due to the national deleveraging effort and the decline in residential sales, global investors are turning to construction loans, junior and mezzanine debt, and non-performing loans (NPLs).
The development potential and attractive returns of 15-20 percent of medium-sized Chinese developers attract investment in mezzanine loans. Despite this, just 40% of China's mid-sized developers have positive cash flow.
Opportunities are increasing as national asset management companies and commercial banks increase the sale of nonperforming loans. According to CBRE, China's real estate NPL pool is valued USD 15 to 20 billion.
Mezzanine and stretch senior financing are flourishing in Hong Kong due to traditional lenders' lower LTV standards.
The international financial community, sovereign wealth funds, and individual investors all offer mezzanine loans to help businesses buy commercial real estate. The increase of senior loans and mezzanine debt transactions is being driven by offshore sovereign wealth funds.
India's residential developers continue to look for alternate funding sources as banks constrain the liquidity available for project finance and the default rate grows. As a result, developers no longer issue mezzanine loans but rather work with equity investors.
Over $2.0 billion in construction debt capital has been raised for Indian residential developers since 2015 by Indian-focused real estate debt firms.
In recent months, foreign investors have boosted their debt investment in India, increasing their exposure to the country.
As interest and activity in real estate debt grows, so do the potential for investors, according to CBRE. But cautions about the numerous risks must accompany this enthusiasm, the firm says.
"There will come a time when the Asian debt market matures, bringing with it the threats and challenges that come with an alternate asset class. Since construction and mezzanine debt make up the majority of the available options in Asia Pacific's real estate debt space, investors must thoroughly understand the assets they're underwriting "Dr. Henry Chin, the Asia Pacific Head of Research at CBRE, concurs.
Real estate debt can be a challenging market to manage for investors due to lack of readily available real estate loan possibilities. Investors must also take into account the risk of currency fluctuations. This asset class is mature, which necessitates strict due diligence and a detailed assessment of the borrowers' credit risk.
CBRE expects the Asia Pacific real estate debt markets to grow despite certain hiccups. An investor poll conducted by CBRE Research found that real estate debt was the top alternative asset class for investors in the Asia Pacific region for 2018.