One of the defining parts of the GFC was seeing the impact of a credit crunch on large property fund investments. These funds held billions of dollars in all types of property including offices, retail and commercial. Like any investment, these include both good and bad managers. Often when these investments perform badly it’s for relatively obvious reasons such as too much leverage. However, the GFC highlighted a different twist on the problem with debt.
In the lead-up to the GFC, credit was easy to source, it almost didn’t matter how much debt you had as you would just refinance it on new terms when it came due. But once the GFC hit, the music stopped, and it was far more difficult. It led to both good and bad property assets becoming distressed, and not because there was too much leverage or difficulty making repayments. It was because if you couldn’t refinance the loan it had to be repaid in full. This became a major problem that wasn’t expected.
Many big property players had become so complacent during the times of easy money that they forgot the fundamental rule of managing the maturity of their debt. With no refinancing available, the only options became asset sale or default. It was a catastrophe with many funds caught out. The only thing worse than being caught out with a default or having to sell assets in a fire sale is having it happen when everyone else is too. It led to many property trust structures collapsing and investors losing millions.
Fast forward to 2023 and there is an element of this beginning to emerge again. In the USA alone, there is almost $1.5 trillion of commercial real estate debt due in the next 12-18 months. There are two parts to this problem emerging. Firstly, that debt is going to be refinanced at much higher rates and that’s obviously a big problem for organisations making repayments. It may mean that many organisations are not even able to gain approval to refinance under the new terms given the new rates change all the financial models they previously applied. That’s one aspect where failure will occur.
The second part of the problem is going to be those that can theoretically afford to refinance may still miss out. With financial conditions tightening and banks being far more selective, there will be a significant number of organisations that will miss out. Lenders will move from friendly facilitators of business to ruthless corporate vultures pre-emptively picking and choosing the assets they support and those they don’t. Understanding the bank’s place in the pecking order of default will play an important role in their decision-making and which assets and organisations succeed and those that fail.
This time there is a lot of debt not just linked to property assets but also a range of business and other financial assets. The key to property trusts and corporations surviving all of this is making sure they get ahead of any potential credit crunch. They need to refinance sooner rather than later and ensure they have sufficient access to capital, so they are not forced sellers at the wrong time. Make no mistake when push comes to shove in these situations, the deck is very heavily stacked in the bank’s favour. In a time of crisis, the banks will make the decisions that are in their best interest, not the borrower.
General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.