Rising Rates Ahead? Let's Discuss Risk!
I think this is a crucial question/concept to consider for those making investments in private real estate notes. I thoroughly understand the impact of rising and declining interest rates on debt intruments of all kinds.....except real estate notes. We are at 50 year lows on interest rates, which can also be described by saying we are at 50 year highs in bond prices. With that being said, does anyone in this forum have insight into how dramatically a rising rate environment will affect private real estate notes? It's the one risk I have yet to see addressed in any forums discussing real estate notes. Why is this important? If you are using investor funds or institutional funds to finance a note portfolio, you risk a declining asset value as rates climb and the price of your instrumnt potentially declines. This could leave you owing more than you own.
Investing professionals know that tracking rates is crucial to invetsment success. It's VITAL in fixed income markets. Real estate notes are debt and fall into fixed income.
Look forward to hearing some sage words on this subject!
Thanks,
David
it makes sense as interest rates rise the note would be worth less. so based on your investment strategy holding vs selling immediately you would price that in to your offer when purchasing. if you purchase at a substantial discount then it wont make much of a difference what the market is doing.
true...buying at a discount will buffer any rate rise....but the risk is still there...I'm not sure how quickly a rate rise filters through to the private note community. I am a professional investor and we sometimes will trade off of rate trends as they are communicated very efficiently across debt markets. It strikes me that the private note market isn't that efficient or perhaps even that sophisticated.
This is a very serious issue for people holding notes that they plan to sell at some time in the future.
Note buyers buy for the same reason and bond buyers. So if you understand bonds your way ahead of the game.
When note buyers buy notes they look at the yeild or ROI. There is software and calculators that will help you calculate the yeild. But first you will need to know what kind of yeild spread your buyers wlook for. Is it 2% of 10 year bonds?
If rates go up buyers will demand a higher discount so that they can get the required yeild. If you are the one holding the paper when this happens you will take a loss.
If your writting paper you can protect your self with a short term ballon.
Thanks for the feedback. I would imagine writing ARMs will help as well. As mentioned in my last post, I'm not sure how quickly rates filter through to the private note market. Assessing this risk when making offers on notes is crucial right now in my opinion as higher rates are ahead over the intermediate term.
I'm surprised at how few people addressed my question about interest rates and their impact on the value of private notes. If you are borrowing money to invest in notes, seems this is a crucial issue. The point about spreads over treasuries, such as the ten year, are important benchmrks to understand. Do prvate notes react that quickly? Are they benchmarked monthly? Weekly? How efficiently is the rate change communicated to the note market.
David
David
Keep an eye on MTA's, COFI, CODI, COSI indexes, and Libors.
Are you just saying that the value of the portfolio will drop or are you saying that the value of the property will drop also?