{"id":155411,"date":"2023-07-19T17:16:10","date_gmt":"2023-07-19T23:16:10","guid":{"rendered":"https:\/\/www.biggerpockets.com\/blog\/?p=155411"},"modified":"2023-10-13T03:22:38","modified_gmt":"2023-10-13T09:22:38","slug":"investing-in-private-debt-in-turbulent-times","status":"publish","type":"post","link":"https:\/\/www.biggerpockets.com\/blog\/investing-in-private-debt-in-turbulent-times","title":{"rendered":"A Different Path to Real Estate Investing in Turbulent Times"},"content":{"rendered":"\n\n      <iframe loading=\"lazy\" frameborder=\"0\" height=\"200\" scrolling=\"no\" src=\"https:\/\/playlist.megaphone.fm\/?e=BIGPOC9026433210\" width=\"100%\"><\/iframe>\r\n  \n\n\n\n\n<p><span data-preserver-spaces=\"true\">I recently got an unexpected lunch invitation. The most successful real estate developer I know made a beeline for me in the church lobby. He requested lunch as soon as possible.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">We met for lunch the next day. We hadn\u2019t even ordered when he started pouring out his heart:&nbsp;<\/span><\/p>\n\n\n\n<p><em><span data-preserver-spaces=\"true\">&#8220;I&#8217;ve got a problem. I\u2019ve been doing business with two banks for decades. One of the bankers has become a close personal friend.&#8221;<\/span><\/em><span data-preserver-spaces=\"true\">&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">He paused with a pained, pensive stare at nothing.&nbsp;<\/span><\/p>\n\n\n\n<p><em><span data-preserver-spaces=\"true\">&#8220;But they&#8217;re both acting&#8230;weird. They seemed nervous last fall. But now it&#8217;s more serious than that.&#8221;&nbsp;<\/span><\/em><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">He went on to describe how his favorite banker changed the terms and then outright canceled an approved loan days before closing a few weeks before. This deal had been in the works for well over a year. My friend had to make a painful phone call to the seller to sheepishly ask for an extension to a now-uncertain closing date.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">He was meeting with me because he knew I invest in commercial real estate. But my friend didn\u2019t need equity. He had that. He needed a new source of debt.&nbsp;<\/span><\/p>\n\n\n\n<p><em><span data-preserver-spaces=\"true\">&#8220;I&#8217;m done with banks,\u201d<\/span><\/em><span data-preserver-spaces=\"true\">&nbsp;he said.&nbsp;<\/span><em><span data-preserver-spaces=\"true\">\u201cI&#8217;ve got to find a private lender I can trust. We&#8217;ve got a series of land acquisitions in the works, and I will not be screwed again!&#8221;&nbsp;<\/span><\/em><\/p>\n\n\n\n<p><em><span data-preserver-spaces=\"true\">&#8220;It was the managers who should have been wearing the ski masks.&#8221;&nbsp;<\/span><\/em><span data-preserver-spaces=\"true\">&#8211; Warren Buffett, referring to savings &amp; loan associations in the early 1990s.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">I didn&#8217;t expect this. As I said, this is no small developer. This three-generation professional operation does large deals with Ryan Homes, D.R. Horton, etc. One of their upcoming developments is platted for 8,000 residential lots, and 1,000 are presold to a national homebuilder.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">I would have been surprised&#8230;if I hadn&#8217;t seen lenders pull back in the last cycle. And the one before.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">It was ironic timing because I was planning to sit down to write about our newest operating partner and investment that day.<\/span><\/p>\n\n\n\n\n\n\n  <div class=\"lg:block\" x-data=\"{ ad_block_block_64b86e8563742: popAds(1) }\">\n      <template x-for=\"ad in ad_block_block_64b86e8563742\">\n        <a\n          :href=\"ad.linkURL\"\n          class=\"no-underline text-black\"\n          x-on:click=\"adClicked('https:\/\/www.biggerpockets.com\/blog\/investing-in-private-debt-in-turbulent-times', ad.sponsor, ad.title, ad.id, 'blockAdClicked', 'blockAd', '')\"\n          target=\"_blank\">\n          <div\n            class=\"py-4 border-b flex flex-col flex-nowrap text-sm border-t px-0 rounded-none\"\n            x-init=\"\n              analytics.track('blockAdLoaded', {\n                referrer: 'https:\/\/www.biggerpockets.com\/blog\/investing-in-private-debt-in-turbulent-times',\n                sponsor: ad.sponsor,\n                ad_title: ad.title,\n                ad_page_location: ''\n              })\n            \"\n            x-intersect:enter.once=\"adViewed('https:\/\/www.biggerpockets.com\/blog\/investing-in-private-debt-in-turbulent-times', ad.sponsor, ad.title, ad.id, 'blockAdViewed', 'blockAd', '')\">\n            <div><span class=\"text-xs text-slate-light block bg-slate-50 p-1 inline-block rounded-md\">Sponsored<\/span><\/div>\n            <div class=\"flex items-center text-sm space-x-4\">\n                <img :src=\"ad.imageURL\" :alt=\"ad.imageAlt\" class=\"h-10 w-10 object-cover rounded-full\">\n\n                <div clas=\"text-sm\">\n                    <span class=\"font-bold block\" x-text=\"ad.sponsor\"><\/span>\n                    <span class=\"text-slate\/80\" x-text=\"ad.description\"><\/span>\n                <\/div>\n            <\/div>\n\n            <div>\n                <span class=\"font-bold\" x-text=\"ad.title\"><\/span>\n                <p class=\"mt-2 text-slate\/80\" x-text=\"ad.body\"><\/p>\n                <span class=\"mt-2 text-themeBlue block mt-2 underline\" x-text=\"ad.linkTitle\"><\/span>\n            <\/div>\n          <\/div>\n        <\/a>\n      <\/template>\n  <\/div>\n\n\n\n\n<h2 class=\"wp-block-heading\"><span data-preserver-spaces=\"true\">Investing in a Private Debt Fund<\/span><\/h2>\n\n\n\n<p><span data-preserver-spaces=\"true\">We&#8217;re not investing in banks. And we\u2019re not looking to finance loans directly.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">We\u2019re partnering with a seasoned operator to invest in a portfolio of commercial real estate loans.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Before I tell you more about them, I want to tell you&nbsp;<\/span><em><span data-preserver-spaces=\"true\">why<\/span><\/em><span data-preserver-spaces=\"true\">.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">In the Great Financial Crisis, seasoned investment professionals hedged their portfolios with debt and preferred equity, while most &#8220;regular&#8221; investors ran for the hills. The pros invested in assets with current cash flow and a safer position in the capital stack. And they created a lot of wealth for their investors.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">As investment managers, we made a commitment that our fund would have two top priorities:<\/span><\/p>\n\n\n\n<ol class=\"wp-block-list\">\n<li><span data-preserver-spaces=\"true\">Safety of principal<\/span><\/li>\n\n\n\n<li><span data-preserver-spaces=\"true\">Predictable cash flow<\/span><\/li>\n<\/ol>\n\n\n\n<p><span data-preserver-spaces=\"true\">These are followed by growth and tax advantages.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Fund managers have struggled for the past 12 to 18 months to find investment opportunities that meet these criteria due to market conditions. I admit we\u2019re in that same boat.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">We\u2019re pleased with the investments in the fund so far, and we painstakingly vetted each operating partner for safety.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">But a few of those investments have limited cash flow in the first year or two as value is being added. So, we looked to people like Warren Buffett and others to observe their practices about how to hedge our portfolio with fixed income.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">We discovered the fixed-income component we were looking for in the form of private debt. And we found the appropriate vehicle through our latest operating partner.<\/span><\/p>\n\n\n\n<h2 class=\"wp-block-heading\"><span data-preserver-spaces=\"true\">Our Private Debt Operating Partner<\/span><\/h2>\n\n\n\n<p><span data-preserver-spaces=\"true\">The founder, a third-generation real estate developer, has created an organization that we believe is uniquely positioned for this role. Between 1988 and 2009, the founder successfully developed over $350 million in commercial and residential real estate projects.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">So, unlike most banks and other private lenders, this firm can intelligently evaluate deals, and, as importantly, we believe they are in a position to step in to take the project to completion in the event of trouble. This was a critical condition for us, and it is vital in times of uncertainty like we\u2019re in now.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">This group is not your typical local private lender. The track record in the fund we invested in includes:<\/span><\/p>\n\n\n\n<ul class=\"wp-block-list\">\n<li><strong><span data-preserver-spaces=\"true\">Safety:<\/span><\/strong><span data-preserver-spaces=\"true\">&nbsp;Zero losses from inception in 2009 to date across 128 paid-off loans.<\/span><\/li>\n\n\n\n<li><strong><span data-preserver-spaces=\"true\">Scale:<\/span><\/strong><span data-preserver-spaces=\"true\">&nbsp;196 loans totaling over $4 billion.<\/span><\/li>\n\n\n\n<li><strong><span data-preserver-spaces=\"true\">Alignment:<\/span><\/strong><span data-preserver-spaces=\"true\">&nbsp;The two founders invested $20 million of their own cash in their fund.<\/span><\/li>\n\n\n\n<li><strong><span data-preserver-spaces=\"true\">Yield:&nbsp;<\/span><\/strong><span data-preserver-spaces=\"true\">Annualized net yield since inception is 12.9%.<\/span><\/li>\n\n\n\n<li><strong><span data-preserver-spaces=\"true\">IRR:&nbsp;<\/span><\/strong><span data-preserver-spaces=\"true\">Weighted average gross IRR for paid-off loans is 19.9%.<\/span><\/li>\n<\/ul>\n\n\n\n<p><span data-preserver-spaces=\"true\">If you are puzzled by the high IRR, realize this: In addition to charging points, private lenders often release cash in draws as needed. But the borrower pays interest on the entire loan amount for the entire loan in many cases. This could allow a 12% loan to create a 19% IRR, as an example.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Our partner employs rigid due diligence criteria, even re-creating the design and the budget from scratch before approving the loan. They do a value analysis, reviewing the location, design, layout, and overall economics, including cost versus potential value.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">As a licensed general contractor, they can step in to finish every type of project they lend on, if necessary, potentially increasing profits to investors.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Over 30% of their borrowers are repeat clients. Developers appreciate them because, unlike banks, they can close on a project in four to six weeks.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">And private loans may not cost as much as I thought. My developer friend and I did some quick math, and he realized that a loan like this would only cost him about $250,000 extra compared to his nonperforming bank, which seemed to him like a drop in a bucket for a deal projected to profit $7 million to $8 million.<\/span><\/p>\n\n\n\n<h2 class=\"wp-block-heading\"><span data-preserver-spaces=\"true\">Sample Full Cycle Loan<\/span><\/h2>\n\n\n\n<p><span data-preserver-spaces=\"true\">Here is one of many successful deals our private lending partner completed in the middle of the pandemic. This was a $19.8 million construction loan on a six-unit multitenant retail building in Temecula, California.<\/span><\/p>\n\n\n\n<figure class=\"wp-block-image size-large\"><img loading=\"lazy\" decoding=\"async\" width=\"1024\" height=\"628\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image1-1024x628.jpg\" alt=\"different types of commercial buildings\" class=\"wp-image-155413\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image1-1024x628.jpg 1024w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image1-300x184.jpg 300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image1-768x471.jpg 768w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image1.jpg 1421w\" sizes=\"auto, (max-width: 1024px) 100vw, 1024px\" \/><\/figure>\n\n\n\n<figure class=\"wp-block-image size-full\"><img loading=\"lazy\" decoding=\"async\" width=\"833\" height=\"521\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image3.jpg\" alt=\"\" class=\"wp-image-155415\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image3.jpg 833w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image3-300x188.jpg 300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image3-768x480.jpg 768w\" sizes=\"auto, (max-width: 833px) 100vw, 833px\" \/><\/figure>\n\n\n\n<figure class=\"wp-block-image size-full\"><img loading=\"lazy\" decoding=\"async\" width=\"536\" height=\"618\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image2.jpg\" alt=\"loan details\" class=\"wp-image-155414\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image2.jpg 536w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2023\/07\/image2-260x300.jpg 260w\" sizes=\"auto, (max-width: 536px) 100vw, 536px\" \/><\/figure>\n\n\n\n<p><span data-preserver-spaces=\"true\">For context, this operator&#8217;s worst deal generated a 9.7% gross IRR, and the operator&#8217;s best deal generated a 113.9% gross IRR. As with all investing, past performance is no guarantee of future returns, and there are other risks of which you need to be aware.<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Speaking of cash flow\u2026&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">By now, most of us have heard about funds and syndication cutting or stopping distributions and doing capital calls. We take no pleasure in this, especially since many investors are being harmed.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Hedging your equity investment with debt is no guarantee of success. Debt and equity holders were harmed during the Great Financial Crisis, as many of us recall.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">But I don\u2019t believe this is 2008. And I&nbsp;<\/span><em><span data-preserver-spaces=\"true\">do&nbsp;<\/span><\/em><span data-preserver-spaces=\"true\">believe that a safer position in the capital stack, with returns that rival equity, will be a great move for many of you.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">You should note that investing in debt will not provide the tax benefits enjoyed by equity investors. But debt investments often provide liquidity, a good trade-off for some.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Liquidity means investors can theoretically enjoy the cash flow for a while and then exit when they locate suitable equity opportunities. If this downturn goes like others, we may expect to see some distressed opportunities at bargain prices within about one to three years. This is a Warren Buffett strategy, one that works for real estate as well as stocks.&nbsp;<\/span><\/p>\n\n\n\n<p><span data-preserver-spaces=\"true\">Maybe even better.<\/span><em><span data-preserver-spaces=\"true\">&nbsp;<\/span><\/em><\/p>\n\n\n\n    \n  <div id=\"visibility-group-block_57af34cc12d07af602405506b66d539d\" class=\"visibility-group  hidden\">\n        \n\n<div id=\"hero-block_4d1436519d74b770f9f7e0839a85abf7\" class=\"first:mt-0 hero-block py-4  alignwide   has-background has-theme-gold-light-background-color has-text-color has-theme-gold-color\">\n    <div\n        class=\" flex flex-wrap lg:flex-nowrap max-w-screen-xl mx-auto px-4 relative lg:items-center \">\n\n        <div class=\"relative z-30 w-full \">\n            <main class=\"py-4\">\n                \n\n<p class=\"has-theme-gold-color has-text-color has-large-font-size\" style=\"font-style:normal;font-weight:800\">Get the Best Loan Today<\/p>\n\n\n\n<p class=\"my-3 md:my-5 lg:my-8 has-slate-900-color has-text-color\" style=\"font-size:16px\">Find trusted, <em><strong>investor-friendly<\/strong><\/em> lenders who specialize in your strategy. <\/p>\n\n\n\n<p><\/p>\n\n\n\n<div id=button-custom-event-block_2c2fc41ac0cec7097a75265247ab3f12 class='button-custom-event'>\n      <a\n    href=\"https:\/\/www.biggerpockets.com\/business\/finder\/lenders\"\n        x-on:click=\"window.analytics.track('Blog Block | B2C Marketplace Lender Finder', {\n      referrer: 'https:\/\/www.biggerpockets.com\/blog\/investing-in-private-debt-in-turbulent-times',\n    });\"\n    class=\" btn-shape inline-block no-underline has-background has-theme-gold-background-color has-text-color has-white-color\" target=\"_blank\">Find a Lender<\/a>\n  <\/div>\n\n            <\/main>\n        <\/div>\n\n                <div class=\" first:mt-0 relative h-full lg:flex lg:items-center\">\n            <img decoding=\"async\" class=\"object-cover w-full relative z-20 my-0  rounded-md hidden lg:block\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2022\/08\/Marketplace-Blog-Blocks-Lender-v3.png\" alt=\"investor friendly lender, investor friendly real estate loans\" title=\"\">\n        <\/div>\n            <\/div>\n<\/div>\n\n  <\/div>\n  \n\n\n<div class=\"wp-block-group\"><div class=\"wp-block-group__inner-container is-layout-constrained wp-block-group-is-layout-constrained\">\n    \n  <div id=\"visibility-group-block_64dd31c79f00f\" class=\"visibility-group  \">\n        \n\n<div style=\"height:10px\" aria-hidden=\"true\" class=\"wp-block-spacer\"><\/div>\n\n\n\n<div id=\"hero-block_64dd2875dba9d\" class=\"first:mt-0 hero-block py-4    has-background has-slate-100-background-color has-text-color has-theme-slate-color\">\n    <div\n        class=\" flex flex-wrap lg:flex-nowrap max-w-screen-xl mx-auto px-4 relative lg:items-center \">\n\n        <div class=\"relative z-30 w-full \">\n            <main class=\"py-4\">\n                \n\n<h3 class=\"wp-block-heading my-0 tracking-tight font-extrabold has-theme-slate-dark-color has-text-color has-large-font-size\">Join the community<\/h3>\n\n\n\n<p class=\"my-3 md:my-5 lg:my-8 has-theme-slate-color has-text-color\" style=\"font-size:16px;font-style:normal;font-weight:400\">Ready to succeed in real estate investing? Create a free BiggerPockets account to learn about investment strategies; ask questions and get answers from our community of +2 million members; connect with investor-friendly agents; and so much more. <\/p>\n\n\n\n<div id=button-custom-event-block_64dd2888dba9e class='button-custom-event'>\n      <a\n    href=\"https:\/\/www.biggerpockets.com\/signup\"\n        x-on:click=\"window.analytics.track('Blog Block | Acquisition | Free Membership Signup', {\n      referrer: 'https:\/\/www.biggerpockets.com\/blog\/investing-in-private-debt-in-turbulent-times',\n    });\"\n    class=\" btn-shape inline-block no-underline has-background has-theme-blue-background-color has-text-color has-white-color\" target=\"_blank\">Sign Up<\/a>\n  <\/div>\n\n            <\/main>\n        <\/div>\n\n            <\/div>\n<\/div>\n\n\n<div style=\"height:10px\" aria-hidden=\"true\" class=\"wp-block-spacer\"><\/div>\n\n\n  <\/div>\n  <\/div><\/div>\n","protected":false},"excerpt":{"rendered":"<p>Times are turbulent, so it&#8217;s probably about time you start taking a look at alternative forms of investment. Consider this as one.\t<\/p>\n","protected":false},"author":214608,"featured_media":155416,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[4433,7119,5527],"tags":[],"class_list":["post-155411","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-opinion","category-biggerpockets-daily","category-commercial-real-estate-investing"],"acf":[],"comment_count":0,"_links":{"self":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/155411","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/users\/214608"}],"replies":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/comments?post=155411"}],"version-history":[{"count":0,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/155411\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media\/155416"}],"wp:attachment":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media?parent=155411"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/categories?post=155411"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/tags?post=155411"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}