While no U.S. industry was left untouched by the pandemic, the commercial real estate industry, particularly the CRE special use property and multi-family markets, have experienced some of the most dramatic losses. As a result, many CRE owners and investors have found themselves facing depleted cash reserves, empty business books and cash flow projections that can no longer be supported.
Rothchild Capital Solutions of Illinois, a commercial real estate investment firm and private niche lender with two loan niche products we developed from the structure of “Senior Secured Debt” and Mezzanine” RCS real estate Preferred Equity “a private label product” that can used as HARD preferred equity (more like debt) and or Soft Preferred Equity (more like equity) from special use project development, financial pivot and stabilization.
“Early in my career I learned a very valuable lesson, that all investments and the risk that arise from them share the same key elements,” Williams said. “The people who face the greatest risks don’t understand the importance of measuring debt vs. equity, use unsupported financial theories, avoid thoughtful risk mitigation with market speculation to create asset valuations.”
Understand the importance of the finance leverage ratios measurement test
The federal reserves have set the table for several finance options to be considered during this crisis including loan modification and government guarantee — or SBA — loans. Williams said that for building owners and investors, the unanswered question is will they qualify for these loans and, if not, what other options are available.
Williams said that when assessing loans, the capital stack is the most important thing investors need to understand and consider.
“Many new investors have trouble assessing risk and making investment decisions, particularly when it comes to their capital stack,” Shelton & Williams said “Mezzanine, equity and preferred equity will have to take on a new approach with longer terms at play and much lower leverage.”
He recommended packaging mezz, equity and/or preferred equity into five, seven, or eight-year terms under a JVP structure to mitigate some of unforeseen economic bumps in the road.
Avoid using unsupported financial theories
Monetary and financial stability are of central importance to the functioning of any market economy be it commercial real estate or others. They provide the base for rational decision making. In the absence of this creates damaging uncertainties that can and often leads to failed projects and bank/lender losses.
Credit risk, or default risk, is the risk that someone will not be able to meet a financial obligation. Lenders face default risk that a borrower will not be able to make a monthly loan payment on time. Similarly, leased property includes a risk that tenants will not be able to make timely lease payments as expected. In these cases, sponsor/borrower financial accountability is key. Sponsor/borrower skin-in-the game, default reserves and lower leverage ratio will help migrate some of these risks.
Always include thoughtful financial risk mitigation strategies
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Don’t make asset valuations based on market speculation with an unsupported opinion
Williams said that his X years of experience at Rothchild Capital Solutions of Illinois has taught him that transactions that are highly leveraged without a supporting balance sheet are often problematic.
Speculative investors tend to make decisions more often based on technical analysis of market price action rather than on fundamental analysis. The difference between the two, a quick overview:
Investing vs. Speculating:
Investors and traders take on calculated risk as they attempt to profit from transactions they make in the markets. The level of risk undertaken in the transactions is the main difference between investing and speculating.
The primary difference between investing and speculating is the amount of risk undertaken. High-risk speculation is typically akin to gambling, whereas lower risk investing uses a basis of fundamentals and analysis.
Speculating is the act of putting money into financial endeavors with a high probability of failure. Speculating seeks abnormally high returns from bets that can go one way or the other. While speculating is likened to gambling.
- The main difference between speculating and investing is the amount of risk involved.
- Investors try to generate a satisfactory return on their capital by taking on an average or below-average amount of risk.
- Speculators are seeking to make abnormally high returns from bets that can go one way or the other.
- Speculative traders often utilize futures, options, and short selling trading strategies.
“When it comes to the pandemic, many questions remain unanswered: Will the market return to normal soon? Will equity investment bottom out? Will banks and or new construction financing continue?” Williams said. “The truth is, there’s no quick fix, but if investors avoid common mistakes and focus on making smart moves, we may be one step closer to a better tomorrow.”
About the authors:
Gary Williams, Rothchild Capital Solutions of Illinois LLC, firstname.lastname@example.org
Gary Shelton, Rothchild Capital Markets of Charlotte, email@example.com