By James Levy on Thursday 15 December 2016
Clearwater Private Investment’s director James Levy reveals why he is backing real estate bridge lending funds for clients’ portfolios.
Real Estate Bridge Loan Funds offer investors consistent, non-correlated returns of over 8 per cent p.a. The loans are normally secured by a first mortgage on high quality real estate in jurisdictions that facilitate rapid liquidation in favour of the creditor in the event of non-payment.
We find no more attractive value proposition for alternative credit investors than real estate bridge loan funds. As traditional banks continue to withdraw their lending facilities for all but the largest bridge finance transactions, an opportunity has emerged for wealth managers and their clients to benefit from the returns of real estate bridge financing which until recently was only accessible to large institutional investors.
Real estate bridge loans, also known as ‘hard money’ loans, are short term loans (maturities generally between three and eighteen months) typically advanced to commercial property developers to help them ‘bridge the gap’ of negative cash flow between the beginning of a redevelopment project and the realisation of the sale of that project, or securing long-term traditional bank financing.
A classic example would be developers who use their own capital and/or bank credit lines to acquire a building for a redevelopment project, for example, a change of use from offices to luxury residential apartments. These developers might not be able to secure additional financing for the development project itself from a bank loan. To meet this need, a real estate bridge loan company might extend a short-term loan, backed by a first mortgage on the acquired building, to provide the funds for the redevelopment scheduled for completion in one year’s time. Upon maturity of the bridge loan the developers would repay in full, either through the proceeds of selling the renovated building, or through securing longer term financing from a bank using the now more valuable renovated building as collateral.
Bridge loan providers charge substantial interest rates for this service, typically between 1 per cent and 1.5 per cent per month on the outstanding capital. This is why real estate bridge loan funds are able to offer their investors very attractive yields, typically between 8 per cent and 10 per cent p.a., even net of all fund fees and commissions for the bridge loan fund management company. At the same time, investors can be assured that their money is financing real estate projects in the form of loans backed by the security of a first mortgage claim against a bricks-and-mortar real asset that can be seized and sold to recover their investment in case of default on the loan.
Additional assurance for the investor is provided by the fact that the bridge loans are rarely extended for amounts more than 60 per cent of the independently appraised market value of the property at the time the loan is originated. The short term nature of the loan makes it very unlikely a decline in the real estate valuations of a particular market so severe and rapid as to cause the value of the pledged building to drop below the amount of the loan before the building could be sold in case of a default.
Additionally, the best bridge financing funds only operate where local laws permit a rapid seizure and sale in case of a loan default (for example, the United Kingdom, Germany and the United States), and may also require personal guarantees and additional collateral before extending a bridge loan.
Real estate bridge loan funds are one of the central pillars of the Clearwater Secured Lending Model Portfolio. None of the real estate bridge lending funds in our model portfolio to date have returned even a single month of negative returns. Instead, our investors are benefiting from consistent returns of approximately 0.6 per cent monthly from these funds, with zero correlation to the traditional bond and stock markets.
The liquidity of real estate bridge funds is generally monthly, the same frequency that the NAV is declared by the custodian bank. This reduced liquidity as compared to traditional fixed income funds is more than sufficiently compensated by the attractive, consistent, non-correlated yields and the security of the underlying real estate claim that guarantees each and every loan in a bridge lending fund’s portfolio.
The key to success in investing in real estate bridge loans is to choose a fund manager with the expertise to navigate in this specialized segment of the alternative credit market, capable of extending bridge loans at attractive interest rates for investors that will be repaid at maturity without the additional cost and delays of executing the guarantees if there is a default.
This skill set is not likely to be held by an investor or wealth manager choosing loans from a selection available on an online platform without the benefit of specialized advice. For this reason, we recommend investing in real estate bridge loans through regulated funds managed by the leaders in the field who have demonstrated sufficient track record for their investors and a profound knowledge of real estate conditions and legal requirements in their chosen markets.
Specifically, we recommend the fund offering of Lendinvest Capital Real Estate Opportunity Fund to participate in this investment in the United Kingdom (specifically London and South East England) and the Marshall Bridge Fund to participate in United Kingdom and German bridge loan opportunities. Both of these funds are registered as SICAV-SIFs in Luxembourg and available in GBP, EUR and USD share classes. For “US person” investors (those subject to FACTA regulations), the Prime Meridian Capital Management Real Estate Lending Fund is available to benefit from U.S. based bridge loan opportunities.