What is the Capital Stack?

July 17, 20183 min read
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The capital stack is a concept used to convey the risks and rewards of an investment. For example, Yieldstreet often participates in the senior secured position of the capital stack, where there is less risk compared to the rest of the stack. Let’s dive further into what the capital stack is and how it works.

What is the capital stack?

The capital stack represents the capital invested from each lender of an investment and the relationship between each of those lenders. The higher you are on the capital stack the lower your risk profile and the lower your returns. Conversely, the lower you are on the capital stack, the higher your risk, but the greater your potential returns.

How does the capital stack work?

The easiest way to visualize the concept of the capital stack is through a champagne tower.

capital stack

The more metaphoric champagne that exists, the more glasses will be filled in the tower. This seems simple enough. But now let’s apply it in terms of an investor’s risk profile. 

As we mentioned earlier, the further towards the top of the capital stack—or the champagne tower in this case—the lower your risk but also the lower your return. If you’re in a senior secured position, as the borrower begins to pay back the loan, you are the first in line to have your champagne glass filled. However, if you’re in the mezzanine debt or common equity position, there are generally lenders that must be paid back before you.

In a healthy investment, there is plenty of champagne to fill all of the glasses, regardless of where your investment sits. But, if the borrower can’t make expected payments, the amount of champagne is limited. This means that some glasses may be partially filled, or even empty.

Then why would I want to take on greater risk?

Great question! In the capital stack, greater risk equates to potentially greater rewards. So depending on your risk profile, or willingness and ability to take on risk, you have the opportunity to earn higher interest on your investment. 

When investing with a higher risk profile, the key is to vet an investment to make sure the borrower, sponsor, and collateral are of a high enough quality to make you comfortable with the additional risk. At Yieldstreet, our investment opportunities adhere to our Investment Philosophy, which helps ensure a higher quality investment for investors like you. 

Initially, Yieldstreet only offered investment opportunities with yields between 8–15% that sat at or near the top of the capital stack. But sticking strictly to this structure limited the number of offers we could bring to our investors. We understand that each investor’s risk profile is specific to them and no two are exactly alike. Because of this, Yieldstreet now offers a variety of investments within the same yields range but that sit in different places within the capital stack.

Does this mean some offerings are better than others?

The answer is no. It’s important for investors to understand that sitting higher or lower on the capital stack is not better or worse, just different. We strive to offer our community of investors a variety of investments designed to suit a range of risk tolerances, while still adhering to our core investment philosophy.

How do I determine my risk profile?

Every investor’s risk profile is different. Factors that should be taken into account are both your risk capacity (what you’re financially able to take on in risk) and your risk tolerance (how much you feel comfortable taking on in risk). The combination of these two factors contributes to the creation of your risk profile. 

This communication and the information contained in this article are provided for general informational purposes only and should neither be construed nor intended to be a recommendation to purchase, sell or hold any security or otherwise to be investment, tax, financial, accounting, legal, regulatory or compliance advice. Any link to a third-party website (or article contained therein) is not an endorsement, authorization or representation of our affiliation with that third party (or article). We do not exercise control over third-party websites, and we are not responsible or liable for the accuracy, legality, appropriateness, or any other aspect of such website (or article contained therein).