Opportunities amid uncertainty: Private Real Estate

November 18, 20225 min read
Opportunities amid uncertainty: Private Real Estate
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Amid record high inflation and the Fed’s consecutive interest rate hikes to reign it in, investors may be wondering which asset class can help them stay insulated from the broader market forces.

While every investment carries a certain level of risk, real estate investments have historically been viewed as a safe(er) haven in times of a market downturn. This is because real estate can be an effective inflation hedge, carries low correlation to traditional markets, and has even benefitted in times of market downturns, generating outsized returns from more quality lenders or sponsors. 

Hedge against high inflation

Real estate investments are secured by hard, tangible assets that have an intrinsic value. Historically, these assets have also outperformed public equities during periods of inflation and high-interest rates. 

Rent prices often increase in order to keep up with inflation. Income earned from regular rent increases on the properties can also  help investors navigate increasing prices, and the high interest rate environment. 

Case Study: Tucson Multifamily Equity
Yieldstreet’s Tucson Equity deal is an example of how inflation can benefit a real estate investment, because of the effect on rent prices. Amid record low housing affordability, rental units in the deal saw a $450 rent increase on renovated units, compared to the $150 that was underwritten – thereby outperforming projections. While the deal faced increased interest payment due to interest rate hikes, it also was structured with an interest rate cap, an agreed upon maximum interest rate between the borrower and the lender, which was purchased at closing. Because of the cap on interest payment at a certain level, the deal was insulated from the Fed’s new rate hike. 

Low correlation to traditional investments

Moreover, historically, real estate investments have shown low correlation to stocks and bonds and offered diversification benefits to investor portfolios.

Private real estate debt portfolio for example (as represented by the Giliberto-Levy Commercial Mortgage Performance Index) has produced low to negative correlation with US and global equities in the past ,while private equity real estate has shown modest correlations with public equity real estate and US and global bonds. 

Low correlation also helps private real estate act as a hedge against public market downturns.

Capitalize on rising rates

In general, Yieldstreet’s real estate debt offerings can be in the form of fixed rate debt or floating rate debt. 

Fixed rate debt can be advantageous for borrowers who don’t want to take the risk of rising interest rates. With floating rate loans , interest payment increases as the underlying benchmark rate increases. 

A floating rate debt is typically structured with an interest rate cap, similar to the Tucson equity deal, which limits the increase in interest rates at a certain level. Meanwhile, a fixed rate debt “fixes” the amount of interest payments, and keeps it one consistent level.

The chart below summarizes these differences. 

Fixed rateFloating rate 
Presents with a lock-in a low rate Can be advantageous for borrowers who don’t want to take the risk of rising interest ratesInterest payment increases as the underlying benchmark rate increasesTypically structured with an interest rate cap which limits the increase in interest rates at a certain level
Case Study: Norfolk Industrial Complex
Yieldstreet’s Norfolk Industrial Complex deal, which was driven by strong warehouse demand in Norfolk Virginia, is an example of equity investment with a fixed rate debt. Even amid high interest rates, it’s still set up to generate a consistent  cash flow due to “fixed” interest payments, thereby providing investors with a consistent source of regular income, irrespective of changes in the Fed’s rates.

High quality lenders or sponsors seek alternative capital 

As  big banks and large institutions tighten credit in times of economic stress, alternate lenders often get better access to high quality lenders or sponsors. This can in turn generate higher returns for similar risk profiles. 

Case Study: Portland Multifamily Financing
Yieldstreet’s Portland Multifamily Mezzanine deal is with a top developer in the Portland area, who has a 20% equity stake in the deal. As of now, the deal has an 80% LTC, or loan-to-cost ratio that generates around 12% return.

Gradual changes in price

Unlike public markets where investor sentiment can cause significant swings in market value, real estate pricing tends to move gradually – which affords investors valuable time when making decisions amid economic distress. 

How Yieldstreet selects real estate opportunities 

In times of a market downturn, flexibility is key. Unlike many other real estate investment platforms, Yieldstreet deals play across the capital structure. Not confined by a position in the capital structure, our team selects deals — whether it’s debt, equity, mezzanine or preferred equity —primarily based on market conditions and risk profile.

We are currently focused on multi-family and industrial properties for the following reasons:  

  • Both property types are an inflation hedge because they’re on shorter term leases, which allows them to react quicker to the market.
  • In the case of multi-family, the rising cost of a mortgage acts as a tailwind, as renters tend to rent for longer and are driven by necessity rather than choice.
  • While many lenders have retreated from the marketplace for a multitude of reasons (i.e., issues in their existing portfolio, warehouse lenders pulling funding, capital markets being closed), debt for multi-family is still available albeit at a higher cost. That should provide a deeper bench of lenders and buyers, setting a floor for this property type.

Moreover, the due diligence process at Yieldstreet is comprehensive and meticulous. The approach is two pronged; the team focuses both on the property and the sponsorship of the investments. 

  • Property: includes visiting the property, carefully selecting the type of deal, evaluating the tenants at the property, doing appraisals, property condition reports and even environmental reports
  • Sponsor: ensure the sponsor has the experience and expertise of the local market, as well as an outstanding track record in conducting similar deals 

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