Just wanted to get people's thoughts on mezz financing in real estate, and the outlook for mezz lenders/originators in the next couple of years, given where we are in the cycle. I am searching old threads as well, but wanted to see if anyone had any current insight. Might have an opportunity at a small specialized player in this space and I am wildly uninformed as it stands.
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This is 100% anecdotal, but I have seen a lot more deals with mezz financing over the past 12 months. From what I've heard others say it is a definitely a growing trend right now.
Construction mezz could be an interesting space to play in right now. New bank regulations limiting leverage on construction (research HVCRE rules), alongside a general pullback in construction lending could make for a lot of opportunities. I think the mezz space can also offer a really good risk/return profile, depending on your firm structure and capitalization, but it can be a grind to put expensive money out.
What type of job are you talking about, if you can share?
Analyst role for a firm that originates mezz and bridge loans, purchases debt, and some direct equity investing for a particular asset class
Definitely a rapidly expanding space with banks up to their noses in cre loans. I'm actually looking at a deal where we might use one of those guys right now. Not sure how sustainable it'll be as the cycle matures/resets though
I get being a mezz LENDER, who wouldn't want to get paid 10-12% to go to 70% LTC on a new development deal. What I don't get is who are the mezz BORROWERS.
Seriously who is actually a mezz borrower though? No way it's life cos, most large REPE seems smart enough to not be mezz borrowers, REITs even if they finance at the property level I doubt it, foreign capital probably to core so doubt it, pension advisors nope doubt it. The only one I can think of is a developer that raises the other required equity privately and then levers up with mezz. Smart money is TYPICALLY not a mezz borrower. If my theory is correct most mezz deals you'll be working on would not really be institutional.
This is exactly it. Source: senior lender.
No shit REITs don't use it lol .. and yeah it's not for deals where you're gonna pick up some class A office with no roll or STNL and sit on your 5% yield, but it certainly has its uses.
Value-add plays where you need an ongoing credit facility or want to avoid recourse, situations where you're capital constrained or need a quick close, deals where you want to leave yourself the ability to create a capital event in a few years without prepay, bridge loans on entitlement deals, or just deals in general where the collateral has little value unless you perform. It's about providing flexibility.
It's usually not that expensive on the whole stack, they'll tranche it and provide the first too. These guys are getting pretty competitive.
I'm going to respond to these one by one.
-value-add deals where you need a credit facility or want to avoid recourse.....Banks, life co and debt funds provide senior non-recourse debt for these deals all the time. And you can 100% get a future funding component. So no don't see the point in getting expensive ass money, complicating the transaction and spending an extra 100K in legal fees to get mezz.
-Situations where you are capital constrained and need a quick close.....Capital constrained to me means not having the money you need to play in the big league and a quick close is BS. Most lenders will have a "quick close" it's one of the only ways they can differinate themselves. Also every lender I've ever talked to ever promises a "quick close".
-deals where you want to leave the abilty create a capital event without prepay.....nope don't buy it. If you get full leverage and it's fixed rate most lenders will not allow secondary financing. If you're floating rate then it's obvi prepayable.
-bridge loans on entitlement deals....Jesus a LOAN on unentitled property. Think about what you said. Would any institutional investor do this ever? The answer is no. This was my original point that the mezz borrowers are not institutional.
-in general where the collateral has little value unless you perform.....sounds like a great buy! Just kidding it sounds like a great way to lose a fuck ton of money
-it's not expensive across the whole stack....you're not selling me on it buddy so no point in trying
individuals that get rich in this business have the balls to lever up and reposition something. Enjoy the safe boring institutional world
I worked at a Bridge and Mezz shop. I Think the firm closed one Mezz deal.I think Mezz is useful when it's a Value-add asset in a highly valuable market. IE the Property is producing some cashflow and stabilize assets trade at under a 5.5 Cap. The borrower wants the excess leverage to renovate part of the asset. the plan may take a while or the bank has agreed to refinance when the project is complete without defeasance.
Judging by the past tense verbiage and stating you guys only did one deal, I take it the shop wasn't a successful place to be?
Yea, they couldn't compete on pricing with a lot of shops pricing for the same type of deals in the 8s and 7s on rate. Their cost of capital was too high.
The issue with mezz debt right now, is being the lender. Sure there are still needs for mezz since banks have tightened up, but pricing is SUPER competitive right now since debt funds are popping up left and right trying to capitalize on this dynamic. It's very difficult for some funds to hit hurdles with the competitive pricing. The next few years may see a consolidation or loss of some funds.
There is definitely excess capital across all markets (from IG debt down to the riskiest forms of equity) and mezz is no exception. I think the saving grace for mezz is the expectation that interest rates will eventually rise, which should make mezz cheaper relative to senior types of debt. Mezz is definitely still popular in infrastructure, energy, power, and basically any industry where there is a mix of existing cash flows and an opportunity to deploy capital into some value-creation project. The challenge is that as interest rates rise (but performance hurdles stay flat), a bunch of new players enter the space and compete on pricing, which is already happening as others have mentioned. Delivering solid returns is hard and too many shops end up taking too much risk without the proper portfolio management and experience. The successful ones find a way of getting adequate returns by sourcing unique ("proprietary") transactions that are well structured and backed by quality assets, but that have complicating factors that might scare away some of the less experienced competition. I think this will ultimately lead to more specialization in the space, whereby we won't think of a "mezz shop" versus "equity" or "debt" shop anymore - instead we might see shops/groups specializing by industry/region and investing across the capital structure in niche, tailored transactions. There are already shops like this out there, and I think others are following suit as it seems to be one of the few winning strategies (at least that I can think of).
Can you name some shops that invest across the capital structure like you described? Looking into FT opportunities and a place like that sounds like an awesome place to work/learn.
In the PE space, it's generally the large funds that do this. As you grow AUM, you step out into different types of investments as it becomes harder to maintain narrow focus with lots of $$$ to put to work and still generate nice returns. Here, the inverse is also true - smaller shops have a hard time managing the additional challenge involved in stepping out into different specialties. For example, Blackstone and Apollo invest across the cap structure, but I struggle to think of many MM shops that do as well. It may be a different story in the hedge fund space, where there is more creativity involved/required and many things are easier since you tend to deal with public / liquid markets.
As a senior debt lender... I can't wait for rates to rise to shake things up. I've been trying to learn as much as I can about mezz because there is such a gap between senior debt at LIBOR + 200 and equity returns at 15% .. I'd love to invest in a 2nd position mortgage under 75% LTV and get returns of 8-10%. I bet Private Equity RE guys start offering investors a mezz piece if they start seeing the equity as much riskier (which it is but markets have been killing it the past 5yrs)
picklemonkey is correct, there are tons of deals going through with mezz right now. personally, i view this as a sign of weakness in the markets. lots of people can't get bank debt, so they run to mezz lenders trying to close the gap and get deals done. inherently these are folks without access to cheap capital (they have less of everything you want: reputation, credit, partnerships, reserves) and they go there because they have to. at least in my market, lots of deals are falling through right now, many of which have a layer of mezz.
smart investors, on the other hand, are piling into mezz lending right now to juice their yields, but 'smart' in hindsight will depend on how they underwrite and when they exit.
I'm on the bank side and competition is very intense across all the larger and middle market banks competing for the same deals and clients. My impression was a lot of banks are stretching their terms and pricing to win business and lifecos have continued to increase competition as they seek shorter term/more risky debt. What kind of projects are being turned down by banks that they're stuck going to mezz? Are these projects abnormally risky, which is signaling that there's projects and acquisitions happening that ultimately won't pencil out per proforma?
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