Real estate debt is rapidly cementing itself as an alternative investment class in Asia Pacific, according to new research from CBRE, as global investors explore new ways to deploy capital in this field. house for sale
Tightening lending conditions in some countries, lower property prices, and the possibility of a rate hike in many markets are driving investors to seek out more debt exposure and increase transaction activity in 2018.
Rather than taking equity positions, an increasing number of investors are lending against Asia Pacific real estate properties. Several factors have influenced the increased interest in this strategy, including a combination of higher demand and historically low yields, as well as a scarcity of investible stock. In addition, in the face of rising interest rates from the US Federal Reserve, some Asian lenders have taken a more cautious approach to real estate.
"Across the country, demand for real estate debt investment is increasing. Tighter lending conditions in some markets have opened doors for nontraditional lenders, and some investors believe debt offers better risk adjusted returns than equity. Some clients are also using debt to take a more strategic medium-term role in the capital stack "CBRE's Executive Managing Director, Capital Markets, Asia, Tom Moffat, agrees.
Investor interest in debt is also being bolstered by a change in the real estate capital stack from a conventional bank loan plus equity structure to one that emphasizes mezzanine financing and preferred equity. The different types of debt investments available in Asia Pacific are placed at different risk levels, which investors are factoring into their capital allocation strategies.
Senior lending is correlated with the lowest risk level since it is at the bottom of the capital stack. Although commercial banks have historically provided this service, non-bank financiers such as insurance companies and pension funds are increasingly entering the market, especially in Australia.
In Asia Pacific, investors interested in debt strategies appear to favor mezzanine funding and preferred equity. These techniques are used to increase loan-to-value (LTV) ratios or to meet short-term cash needs for construction projects. Private equity real estate funds and debt funds are driving activity in this segment in Asia Pacific.
In 2018, there were a number of notable developments, including:
China: Due to the tightening of conventional domestic lenders, new groups are looking to expand their exposure to the Chinese real estate market. Global investors are gravitating towards construction loans, junior and mezzanine debt, and non-performing loans as a result of the national deleveraging drive and the downturn in residential sales (NPLs).
Medium-sized Chinese developers are attracting investment in mezzanine debt because of their growth potential and attractive returns of 15-20%. However, only 40% of mid-size developers in China have positive cashflows.
As national asset management firms and commercial banks intensify the selling of nonperforming loans, opportunities are emerging. The NPL pool in China's real estate is estimated to be worth USD 15 to 20 billion, according to CBRE.
Hong Kong: Investment activity is still high, but conventional lenders' lower LTV levels are allowing mezzanine and stretch senior financing to flourish.
Mezzanine loans for commercial property acquisitions are provided by international financiers, sovereign wealth funds, and private funds. Offshore sovereign wealth funds are driving the growth of senior loans and mezzanine debt transactions.
India: As banks tighten the liquidity available for project financing and the default rate rises, domestic residential developers continue to pursue alternative funding sources. As a result, instead of issuing mezzanine debt, developers now tend to engage with equity investors.
Since 2015, Indian-focused real estate debt funds have raised over $2.0 billion in construction debt funding for local residential developers.
Foreign investors have recently increased their exposure to India by investing in debt.
The growing interest and activity in real estate debt in the area, as well as the opportunities available to investors, according to CBRE, must be tempered by warnings about the various challenges.
"The debt market in Asia Pacific will eventually mature, bringing with it the threats and challenges that come with an alternative asset class. Since the majority of existing opportunities in Asia Pacific's real estate debt room are still in mezzanine debt and construction loans, it's important for investors to fully comprehend the assets they're underwriting "CBRE's Asia Pacific Head of Research, Dr. Henry Chin, agrees.
The main obstacle for investors is locating suitable real estate debt opportunities, as the debt market in this area can be difficult to navigate. Currency uncertainty should also be considered by investors. Because of the asset class's maturity, due diligence must be stringent and provide a thorough evaluation of the borrowers' credit danger.
Despite some setbacks, CBRE expects Asia Pacific real estate debt markets to expand. According to CBRE Research's 2018 Asia Pacific Investor Intentions survey, real estate debt piqued investors' attention as the preferred alternative asset class.