The Future of Real Estate Lending

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A few weeks ago I wrote an article exploring the new rent backed bonds Blackstone has begun issuing.  When I wrote that article I thought their next step would be to start buying leases from investors and bundling them up.  Turns out, I was wrong…but not by much.

Blackstone is calling their next step B2R.  I recently had a phone call with one of their employees, and I thought I would share my thoughts on what this means for the real estate market.

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What is B2R?

At its core, B2R is similar to a bank.  Both lend out money to real estate owners, sell the debt to a third party, and start the process over again.

The difference is who they sell it to.  In the case of banks it’s either a government agency like FNMA or a private note buyer.

B2R takes a bunch of these notes, bundles them up as a bond, and sells them to investors (mostly institutional).  This is known as securitizing the notes.

To make this bundling process easier B2R only lends money on 5 or more rental properties.

Why would anyone buy these new bonds? Well…it’s repayment is not only backed by the mortgage but also the rental cash flow, so, in theory, it should be a safe place to park your money.

Why is This Good for Investors?

Make no mistake about it, this is the next big thing.  If all else stays the same, this model will become the NORM, not the exception.  Here’s why:

Less regulatory headache

If you don’t know already know, starting in 2014 the red tape you have to jump through to get a loan is going to exponentially increase.  It’s to the point that many smaller banks don’t think they will be able to afford the extra administrative staff and are going to cease lending all together.

Enter the B2R model.

Since they’re securitizing their debt and selling it privately, they can avoid much of the bureaucracy.

Cheaper loans

At our company, we don’t pursue financing for our residential properties.  Why?  It’s too dang expensive.

Our average “all in” home cost is $50,000.  We’re extremely conservative, so at most we would only want to finance 50% of our home values (about $25,000).  To get that loan we have to pay loan original fees (up to 2% of loan amount) and appraisal fees (say $1,000).  So we’re looking at $1,500 to get a $25,000?  Up to 6% of the loan amount!?  In what world does that make any sense?

I think we can all agree that appraisals are pretty much worthless.  It’s one person’s opinion about what the market will support….turns out only the market can tell you that.  The reason they’re universally used and so expensive is because regulators have mandated them.

B2R recognizes this.

Since they’re selling this debt on as a bond, they only care about the cash flow…so that’s what they focus on.

They still make an approximation of the value of the portfolio, but they do so by getting appraisals on 10-20% of the portfolio (for a largish portfolio) and Broker’s Price Opinions (BPO) on the rest.  BPO’s cost around $100, way cheaper than a full blow appraisal.

How much cheaper?  The cost of of us getting $25,000 in financing drops from $1,500 to around $500.   Across our entire portfolio that could be $300,000+ in savings!

I’m already working with them to see what terms we can secure.

What Does This Mean for the Market?

Whilst this is the future…it’s also scary.

Bundling up mortgages into securities and selling them to private investors?  Does this sound familiar to anyone else?  It’s a couple steps further down the road than I warned about in my previous article.

Don’t get me wrong, securitization is nothing new and it serves a purpose.  As with everything, they key is moderation.  The subprime bubble burst because…everyone was doing it.  There was an insatiable appetite for these products and standards were loosened to fill the demand.  That’s how you wound up with a janitor making $25,000 per year living in a $1,000,000 home.

Today, the B2R’s standards are high: 1.25 debt service coverage, maximum of 60% LTV (70% recourse) and at least 5 properties.

It’s not Blackstone I’m worried about.  It’s their competition.  As more people clamber into the market, the debt service coverage might drop to 1.2, then 1.1, then 1.  LTV might rise to 60%, then 70%, then 100%.

That’s still a few years off…we’ve got time.

Wrap it Up: Rent Backed Instruments are Here to Stay

With the new regulatory mess coming online in 2014, the market needs these instruments more than ever.  I think this is going to help prop up the rental market…and by extension the entire market.

We just have to be very careful not to get caught up in the ensuing excitement and overdo it…


Photo: JD Hancock

About Author

Kenneth Estes

During Kenny's decade in finance he bought many single family rentals in rural areas, as a hobby. Along the way, he talked some brave souls into joining him as investors and recently retired from finance to take his hobby to the next level. Find more by and about Kenny on his personal blog and his recently created twitter account!


  1. Great info Kenny!
    Are you buying commercial property? Is that why your appraisals are so expensive? I’m paying $400 for an appraisal and luckily only if my loan is over 100k.

    Will this opportunity to buy multiple properties going to be open to everyone? Do they have to be bought at the same time or will there be a certain time frame that properties would have to be purchase in? Or would it only be available on already owned, non leveraged properties?

    • Kenneth Estes

      Hey Mark,

      Appraisals vary significantly from area to area. Even at $400/appraisal you’re looking at massive savings.

      As I mentioned in the article, it’s only open to real estate owners with 5+ properties (and 500k loan amount). That being the case, I imagine that it wouldn’t be open to people making an initial home purchase…you’ll have to check with them though.



  2. Great info. Do you know anything about what the rates are going to be? I thought I looked on their website and saw the reference rate was going to be swaps. Is it going to swaps +100 or swaps +1000?

  3. Wow! Great article yet also a scary article.

    This smells bad all over to me. Your best point was about the competition. If they see Blackstone doing well, of course they will jump in. As more institutional money seeks a home, I can see the demand for these products to increase significantly meaning more pressure to underwrite….leading us right back to the sub-prime meltdown.

    I would love to hear your take on how this will affect specifically commercial RE. Obviously in the large, multi-million dollar deals lending institutions look very heavily at the strength of the deal you are bringing to them. If not only the first position lien is in their favor but also direct security from the cash flow, will we see the crazy LTV numbers again of years past as the banks clamor against their competition for deals?

    The commercial states, “When banks compete you win.” In this instance however, I don’t think that statement could be further from the truth.

    • Kenneth Estes

      Hey Nick, thanks for the comment.

      I don’t know a lot about the commercial space. However, my knee jerk reaction is that this model won’t take hold. You’re spot on that they already look mostly at cashflow in larger deals, so the fact that this model makes that tenable in single family residential doesn’t have much play. Also, as a percentage the cost of appraisals and clerical work (for the red tape) are much lower.

      And… if we’re talking multifamily FHA loans will give you better rates.



    • Bradford Arner on


      In the commercial world, small balance CMBS (Commercial Mortgage Backed Securities) transactions were available up until the credit crunch. In fact, Lehman Brother’s small balance CMBS platform was one of the best performing areas before their collapse. There is a shop out of California, composed largely of former Lehman guys, that is bringing a small balance CMBS product back. Their name is ReadyCap. However, the chief difference is rates. Their spreads are well above what the rest of the CMBS market is at. Currently, the major platforms are somewhere in 200bps to 250bps over swaps. ReadyCap seems to be closer to 400bps to 500bps. That is a significant pricing difference. However, as they get better at the economics of their platform, it is highly likely the small balance spreads will start to compress. Lehman Brother’s small balance CMBS program was very well priced with the rest of the market.

      Blackstone appears to be making a solid bet that the small balance market is coming back. A lot of times it simply takes a big player like Blackstone to step back into the market in order to get others to follow suit. I have no idea how they are going to approach it. The CMBS market has done a phenomenal job since the credit crunch at self regulating; CRE Finance Council has put together a solid set of principles governing how deals should be underwritten. I’m not sure whether there is the equivalent on the residential side; I simply don’t know enough about residential. If there isn’t such thing on the residential side, there will likely be a lot of craziness that goes on until a set of well thought out underwriting principles are put together (that may have already happen).

      There are a couple of interesting points that Kenny has mentioned. One of the prohibitive things about even small balance CMBS transactions is that legal fees take up a greater portion of a $1MM deal than a $50MM deal because the legal fees for a securitization are generally the same regardless of deal size (i.e. $25K to $40K). Thus, Blackstone is making the model possible by making the fees much smaller. Thus, they must have a very specific set of parameters they are looking for and, if those parameters are present, they will lend regardless of what an appraisal might say. My feeling is that the program will be very conservative for the first few years so they can better understand the default rate and then move forward from there. Their first fund is $5B, which is nothing world changing as far as the ABS market is concerned; this is a conservative first step forward. By comparison, all of the major CMBS platforms had done more volume than this by the beginning of May this year.

      Another interesting point is the rate. I haven’t looked at the SEC docs yet but from a couple of press releases it appears as the rate will be floating and pegged to the swaps. I would imagine that the spreads will be pretty large at the beginning until Blackstone gets a better idea of default rate. Then, they will start to compress if default rate is as expected. I don’t know enough about residential but if these were commercial transactions that would be very interesting. In one press release, the rate range was listed between 5% and 7%. Given the fact that it is a floating rate, that would like put the spread in the 350 – 500bps range. That is still pretty expensive; at least it is expensive in the commercial world but maybe that is normal in the residential world.

      Another interesting point is that pre-payment penalties would likely be very expensive. They are certainly entering into a swap agreement for the loans. Unfortunately, swap agreements are incredibly expensive to break. I’ve seen commercial deals where breaking a swap agreement makes the average pre-payment penalty look like a clearance sale at Walmart.

      Regardless, this is definitely an interesting product that will be interesting to follow in the coming years.

      Thank you Kenny for brining it up. Kenny did you reach out to Blackstone? Have they issued a set of guidelines yet? Are the actively lending on the platform already? I wonder what S&P and Moody’s rating will be on the securities.

  4. I can’t wait for that 100% LTV to happen, prices will hit the stratosphere, and I will be the one selling out everything waiting for the SHTF. Nothing like buying up homes for pennies on the dollar.

  5. I was reading another article talking about the number of “Pending” sales because of new regulations set forth on Loan Limits. I see another issue happening where interest rates are increasing therefore making it more expensive to borrow money. As Lending becomes stricter I see the future opportunities as a real estate investor in long term financing. Owners will become more flexible with their financing terms as properties sit on the market longer. This B2R product is going to become a powerful weapon in 2014 and may set the standard by 2016 if the model proves to be successful.

    • Kenneth Estes

      Thanks for the comment Gerald.

      One observation: interest rates have almost no impact on home prices. I get the logic…it sounds appealing. The trouble is it just doesn’t stand up when you look at the data. Here’s a link:

      If you hear someone talking about how an interest rate change is going to buoy or sink the market, run for the hills.

      That said…prices ARE correlated with regulatory changes and I expect the cluster-F coming down the line to have resounding implications. I agree with you that it will probably result in more private lending like this B2R vehicle, but my crystal ball is cracked so I won’t be betting on that.



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