US debt funds are flourishing, but are they becoming complacent?

The Watchtower building in Dumbo
The Watchtower building in Dumbo

From the New York website: U.S. private fund managers are doubling down on debt, but some observers are worried they might be underestimating the risks.

Last year, the total sum raised by real estate debt funds rose to $20.4 billion, from $12.2 billion in 2015, according to research firm Preqin. The appeal of issuing debt is that it protects investors against falls in property values because equity holders take the first hit.

“Prices are really, really stretched,” pension fund Kentucky Retirement Systems’ interim CEO Rich Robben told the Wall Street Journal. “We feel, at this point, we’re happy to lend to you and let you take the haircut.”

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Still, critics point out that the new rush into debt and increased competition may lead to overpricing. “There’s a perception that when you say debt, it implies safety,” said Michael Stark of advisory firm Park Hill Real Estate Group. “But if the collateral you’re lending on is not a stabilized asset, there’s still some underlying risk that needs to be priced accordingly.”

In New York, Blackstone’s debt funds have been active lenders, backing projects like CIM Group, LIVWRK and Kushner Companies’ acquisition of the Watchtower office building in Dumbo.

The Real Deal reported last year that more and more development firms are launching lending businesses in part because properties are seen as overvalued while cautious banks have left an opening in the finance markets. [WSJ] — Konrad Putzier