Any debt folks get into note buying?
Everyone in the industry seems very equity focused - even the debt side - when it comes to personal investment. Granted that has been where the returns are the past decade.
I also know there has been a surge in private credit/opportunistic debt funds but I’m talking about finding local investors, community banks, and credit unions looking to offload distressed debt
With tables turning, rates rising, and deals showing distress, I would expect a lot of debt can be bought at a solid basis right now
Anybody ever look into note buying as a personal venture?
Based on the most helpful WSO content, note buying as a personal venture can indeed be an intriguing opportunity, especially in the current environment of rising rates and increasing distress in certain deals. While the industry tends to focus heavily on equity, there are niches within the debt space that can offer compelling risk-adjusted returns.
Here are some key insights:
Distressed Debt Opportunities: The distressed credit market is known for its inefficiencies, such as low liquidity, high transaction costs, and complex securities. These characteristics create opportunities for savvy investors to achieve outsized returns, particularly when buying debt at a discount to its net asset value (NAV) or par value.
Private Credit and Opportunistic Debt: There has been a surge in private credit and opportunistic debt funds, which often target higher-yielding credits or distressed situations. These strategies can range from short-term trades to multi-year, actively managed restructuring plans.
Local and Community-Level Note Buying: Engaging with local investors, community banks, and credit unions to acquire distressed debt can be a viable strategy. These institutions may be looking to offload non-performing loans (NPLs) or other distressed assets, providing opportunities for investors to step in at a solid basis.
Risk-Adjusted Returns: Many distressed debt trades are uncorrelated to broader market movements, making them attractive for diversification. However, timing and execution are critical, as poor market timing or misjudging the underlying asset's value can lead to significant losses.
Examples of Successful Strategies: Funds like Lone Star and Varde have successfully pursued strategies involving non-traded financial assets, lease financing, and other special situations. On a personal level, similar principles could be applied to smaller-scale note buying.
Challenges and Considerations: While the potential for high returns exists, the distressed debt market can become saturated as more capital flows in, potentially driving down returns. Additionally, the complexity of these investments requires a deep understanding of the underlying assets and legal frameworks.
If you're considering note buying as a personal venture, it may be worth exploring local opportunities and leveraging relationships with smaller financial institutions. However, ensure you have the expertise or access to advisors who can navigate the complexities of distressed debt investing.
Sources: Distressed Debt Investing Is really lucrative, Distressed debt / special sits investing - On the job, Credit Hedge Fund opportunities, Undergraduate Opportunities - Credit Funds
I made the switch from lending to buying debt a year ago and thought there would be opportunities left and right and would be easy given all of the bad loans in 2021/22 etc. This thought seems to be kinda common now as there are quite a few groups bidding now and some don’t understand tou can’t order third parties, operate day 1, etc.
I was right in some aspects, there are chances to get good deals at a strong reset basis, but some of the bad loans I wouldn’t want to touch with a 10 foot pole because the collateral has deteriorated so much and I’m not sure who my buyer will be in 3 years. You also underwrite differently depending on the state, at a minimum we expect 4 months to take title unless it’s a deed in lieu so you need to be fairly aggressive to hit the required returns.
I just typed thoughts that came to mind immediately but am happy to answer any questions.
How do you discount your basis based on credit profile? Do you follow a pricing matrix to get to your target yield? Or just mark the UPB to market and start negotiating arbitrarily based on appetite
We actually want to own the properties, not clip coupons, so we backwards-solve to an IRR. This is how I was doing during workouts as a lender (I gave some syndicators too much money and had some office loans). I look at what CapEx is needed, what levels I can stabilize the property, etc. I've spoken to some groups that just clip coupons, and they can engineer a 20%+ return doing so.
We have bought loans for par value before because we thought we'd be able to get title quickly (deed in lieu) or would get paid off. An example would be buying a position and getting paid off before you call capital so the IRR is insane as it stayed on the subline.
I'm not sure if I answered your question or not re credit profile. But most loans we look at are being sold for a reason. We also look at Sponsors to see how strong their balance sheet is, among other things.
No this makes perfect sense. Thanks. Last question- where are you sourcing capital and how large is the fund? Is it friends family, syndicated, all personal? Can you lever the portfolio?
Thanks for doing this. A few questions:
Of course, happy to answer questions.
have spent a decent amount of time but anything significantly below par is still a hard deal to make with em
Feel like note buying is more of an equity shop play than a debt play at this point. There isn’t broad bank distress causing a bunch of sales of performing loans at discount. So what’s for sale are mostly operationally distressed assets that require a bunch of turnaround work. Office buildings, very old and distressed multifamily, busted construction deals, etc. Those aren’t very attractive loan purchase targets for debt shops.
Feel like it’s more common to see reo sales right now than loan sales too.
As always, things are easier said than done.
I'm in equity AM right now and thinking about personal investing - would be great to open up the opportunity set to buying notes. What aspects of the debt side would you need to understand well in order to pull this off, assuming you're well versed in the property operations and comfortable taking the asset back/have a good business plan there.
One person mentioned properly underwriting the "foreclosure"/takeback process (for lack of a better word) based on what state you're in. Should you essentially be underwriting X months of $X loan payments from borrower, Y months to take back the property, and default costs of $Z, and then cashflows during ownership to dispo?
Overall just wanting to know how this differs from your standard acquisition of a distressed asset.
I mentioned UW the foreclosure earlier. Yes you do assume costs/timelines because it will affect your returns. You do not want any payments from the Borrower because that can greatly slow down your ability to take title. Sounds silly, but the last thing you want is the Borrower to pay interest in a maturity default situation because they can argue they are current.
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