1.99% fixed rate…how?
Big investors hold lots of cash and want yield. A Bloomberg story published on Friday noted that Cerberus Capital Management bought more than 200 homes from home-flippers in the first quarter, which the company will rent out. The most striking bit:
“Cerberus . . . operates more than 24,000 rentals through a portfolio company called FirstKey Homes. The firm recently borrowed $2.5bn against a portion of the property portfolio at a fixed rate of 1.99 per cent, according to Kroll Bond Rating Agency.”
How do institutions get such low rates? Who are making these loans? Why not invest in bonds? Allocation purposes?
Banks, pension funds, and life companies can make these loans. I’m sure there is a low yield debt fund out there that can do it too.
They can make these loans because of cost of capital. For instance, if a bank’s cost of capital is Libor, and Libor is at 40 bps, a loan for 1.99% is effective Libor plus 159 bps. It’s a good relative yield assuming you are getting more by putting your money into this deal than traditional investment grade corporate bonds.
When looking at these deals, you need to keep in mind most of the market isn’t looking for absolute value. Absolute value funds are generally the ones we talk about on here targeting high returns - 12%-20% IRR funds. Most of the market is actually chasing relative value - which basically means - ‘what is our benchmark, where do we think we will outperform our benchmark, and by how much.’ Banks, pension funds, life companies - are all for the most part relative value investors. They have a cost of capital and they effectively just need to get returns above their cost of capital, or returns which help match their liabilities (Life Co).
As another example, Libor today is .091%. If a bank has a Libor floor of zero, and the market spread is 150 bps, effectively the bank would be willing to do a deal at .091% + 1.50% = 1.591%. Spreads in real estate could be wider than 150 bps, but this is the jist of what is occurring in this deal.
Great response. Thanks for the color and explanation.
To piggy back on Pudding, also consider how many cross defaulted, cross collateralized homes are part of that 2.5B package. Shoot I'm getting quotes from insurance companies at 2%,10 years IO @ 65% LTV on any multi tenant industrial building I'm putting out. Not a ton of options for lenders right now when you can cross off office, urban multifamily and whatever good retail there was remaining before the pandemic.
Do you have a link? I could not find the story. In the example from another comment, 1.59% is not a "relatively good yield" for a bank. Also, the example ignores that the rate is fixed, not floating, so cost of funds could rise quickly.
https://www.bloomberg.com/news/articles/2021-05-21/mega-landlords-are-s…
If its a Bank they generally keep the floating side of the swap for term debt. Only small banks quote fixed rates
The US Corporate AA Effective Yield is 1.80% today. You need to compare real estate loans to bonds and their corresponding credit rating. Assuming that Cerberus borrowed low leverage, that makes sense. I know that some CLO issuers are effectively borrowing at 75bps over Libor and Safehold recently borrowed 100 bps over Libor I believe.
Consider that gov't bonds in Europe have sold at negative yields for years, 1.99% can easily be viewed as "attractive" on a relative basis. It's all relative.
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