In the last 24 months, we have seen the demand for real estate investments increase dramatically. Investors can’t get decent returns on “safe” or “core” investments, which makes 5-7 percent unleveraged returns on real estate quite appealing. Fund promoters and private sponsors of these deals increasingly are able to “juice” the returns by utilizing cheap debt. This trend becomes more pronounced as lenders competing for deals become more aggressive, which enables property purchases at higher prices while maintaining returns on equity.
While there is a school of thought that we are in a stable, long-term low interest rate and low return (by historical standards) environment, investors should pay close attention to how returns on any individual opportunity are generated. A good real estate deal can be jeopardized by a sponsor’s willingness to borrow aggressively to “win” a deal at a price that is too high. Remember: Loans mature, but cost basis is forever. Happy hunting!