Pensions - From Senior Citizens to Senior Debt?

There is a question at the moment, about whether or not insurance companies, pension providers and other institutional investors can fill the senior debt in the real estate industry...

There is a question at the moment, about whether or not insurance companies, pension providers and other institutional investors can fill the senior debt in the real estate industry. The answer is a mixture of they won't and they can't and, they won't because they can't.

On one hand there is interest among pension funds to do so. According to Michael Zerda, director at LaSalle Investment Management, said: "The whole capital structure will move out in the future due to the fact several pension funds have already expressed interest in providing senior debt or investing into senior debt funds."

There is also interest from insurance companies, but according to institutional investors only the very biggest players will have the necessary capital to become useful and useable sources of senior debt for the real estate industry.

Patrick Züechner, head of real estate at Gothaer Asset Management, said: "Insurance companies could solve the funding gap problem, but they will have to be a regular lender in the market to provide a deal flow.

"To do so, they will need to be enormous in terms of size. As a result, only a few insurance companies will be able to provide senior debt for real estate projects."

It's all about the money; pension funds and insurance companies will only become heavy providers of senior debt in the real estate industry if it is in their own interests. So the real question is: is global real estate a sufficiently good investment right now to attract them? The answer: probably not overall, but in pockets certainly yes.

In these pockets it is entirely possible that we could see funds and companies pooling resources to create loan funds for senior debt. Time will tell.

Senior debt is debt that takes priority over other unsecured or otherwise more "junior" debt owed by the issuer. It is a class of corporate debt that has priority with respect to interest and principal over other classes of debt and over all classes of equity by the same issuer. Senior debt tends to be at the top of the capital structure, with subordinated (usually unsecured) debt coming after.  

Senior debt is usually secured by collateral on which the lender places a first lien. The debt then covers all borrowing company's assets, and in these cases the debt is most often used on revolving credit lines - before the crash we may have wondered what revolving credit lines are, but having seen the news dominated by when Greece's and Dubai developer Nakheel's debts are up for renewal we all know now. As you'd expect senior debt is repaid first in the event of liquidation, however, while this is fine in theory, in some cases it doesn't always work in practice.

It is only to be expected with global economic confidence so low, and particularly confidence in real estate sectors, that senior debt would be growing scarce. However, according to fund managers the amount of mezzanine debt available is up on last year, and sufficient to keep the markets ticking over.

Mezzanine debt is basically unsecured corporate financing, as you'd expect it costs more than senior debt, and increases risk in the marketplace. But beggars can't be choosers.

Cyrus Korat, senior investment manager at Duet Private Equity, said: "Mezzanine debt is becoming much more understood by borrowers, while the acceptance of price is also more established.

"But mezzanine debt is not enough. It would help to have more lenders providing senior debt to help deals close."

- Wednesday 07 December 2011

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