Secured Vs Unsecured Lending: What are the subtle differences between private credit and private real estate credit

Next up, we have Joel Christie, Executive Director at Capital Property Funds.

Joel has 19 years of experience in financial services and plays a key role in the Investment Committee at Capital Property Funds, where he focuses on investor relations.

Today, he will be sharing his thoughts on secured versus unsecured lending, the subtle differences between private credit and private real estate credit.

Let's give a warm welcome to Joel.

Hi, Angelina, and thank you for having me.

You can see my side, I'm going to be talking about real estate, private credit and unsecured private credit more broadly.

Before I kick off, I just want to pull up a disclaimer, it's important that investors understand that this is not financial advice or personal advice, and any returns dependent upon the performance of the underlying funds that you invest into.

So as Angelina said, I'll be talking about what is real estate private credit.

And in particular talking about what is the difference between real estate private credit and private credit more generally.

And they're often grouped together, but there are key differences, particularly in security, risk profiles and returns.

I'll then be talking about what is a risk adjusted return.

We'll have a brief discussion of what is the capital stack, and then I'll provide a summary of the key differences between real estate private credit and private credit more broadly.

So just to kick things off, real estate private credit, what is it?

So real estate private credit involves a non-bank lender providing loan funds where the loan is secured generally by a mortgage over property.

So we call that a hard asset or a tangible asset.

Another important thing about real estate private credit is these valuations.

So property as the underlying security is relatively easy to value by using either comparable sales like we look at other properties that are similar in size or value or location and you can compare or work out the value looking at comparable sales or you can do a discounted cash flow analysis where you can gain an understanding of the income being generated by a property

and then applying the discount factor to that cash flow.

Or you can have a combination of those two methods to determine evaluation of a property.

And the third thing that's really important about real estate private credit is what happens if there is a default.

So if the borrower is unable to repay the loan funds, the lender can sell the underlying property security in order to help recover their loan funds.

So now just move on to the broader category of what is private credit.

So typically private credit involves a non-bank lender providing loan funds to a business where the loan is secured against the cash flow of the business.

Now in terms of valuation, generally these businesses are private businesses so they're not listed on the stock market or they don't have

a public rating.

So private businesses are generally more difficult to value than property, not impossible, but generally more difficult.

And as I said before, they're not typically listed on the stock market or have an independent rating by a rating agency.

And again, another thing that's really important to understand with private credit is what happens if there is a default?

If the borrower is unable to repay the loan,

the lender generally has no hard asset to sell, such as a property security.

And often the loans referred to as unsecured loans.

So it stems back from being secured against the cash flow of the business.

There's no hard tangible asset for a typical private credit loan.

So just to summary, just provide a summary of private credit.

So private credit refers to privately negotiated loans between a non-bank lender

and a borrower.

As we said, in terms of valuation, so with a secured private credit, being real estate private credit, they're secured against property.

And with unsecured, with private credit more generally, that's where a non-bank lender provides loans to companies.

And typically they're small to medium sized enterprises that aren't listed on the stock market or are not investment grade.

I don't think anyone would argue that they're probably more difficult to value than, say, property.

And if you look at the current returns that are available, for real estate private credit, our fund is paying 10.5% as at September 2024.

So one of the things we'll be talking about in the presentation is understanding what the risks are, what the underlying security is, and then weighing that up against what return is available.

So secured versus unsecured lending.

The primary distinction here is security.

In real estate private credit, loans are secured by tangible hard assets, i.e.

a property.

With unsecured, in contrast, private credit loans are typically secured against an intangible asset, such as the cash flow of the business, which means they are dependent upon the business's financial health.

If a business falters, there may be no tangible asset to fall back on, making recovery more challenging and riskier for the lender.

So just to do a quick comparison, if we look at real estate private credit, security is against a hard tangible asset being a mortgage over real estate.

With private credit, it's secured against the cash flow of a business.

So there's no hard or tangible assets, and they're often referred to as unsecured loans.

If we look at real estate private credit, it is relatively easy to provide evaluation of a property.

You can do, I mean, even any person who do a desktop valuation by doing comparable sales.

By way of example, if I wanted to get a rough estimate of what

a two bedroom unit at DY on Sydney's Northern Beaches was worth, I could look at comparable sales in the area to find out what recent sales were transacted for assets of that same type, for example, two bedroom units in DY.

Or you can do a discounted cashflow analysis or a combination of the two.

If we look at private credit more generally, there is not a deep market to do a comparable sales analysis.

medium to large businesses that are being sold regularly where you can have a look at those two businesses and they're generally not easily comparable.

Now it's not impossible to get a valuation of a small to medium business, but it is more difficult than getting a valuation of property.

The other thing too when we come back to real estate private credit,

probably values tend to remain quite stable.

So if you're looking at the capital stability of your security, real estate private credit, broadly speaking, provides a fairly capital stable security being property.

If we look at private credit, the underlying security is dependent upon trading conditions, business cash flow, and other economic factors which can be variable.

So depending on where we are in the economic cycle,

that underlying security could move around in its value.

And that leads me on to my next slide, which is what is a risk adjusted return?

A risk adjusted return simply means an investment return that adequately reflects the risk, sorry, adequately reflects the investment risk associated with an investment.

For example, a higher risk investments, sorry, for higher risk investments,

an investor should expect a higher rate of investment return as compensation for the additional risk.

So basically, if you're taking more risk, you should be getting a higher return.

And you can see here in the capital stack, you can see that real estate private credit being secured is lower risk and unsecured private credit is higher risk.

Therefore, you should be getting all things being equal

a higher return for unsecured private credit when compared to real estate private credit.

And our real estate private credit funds at the moment are providing a 10.5% return, so you should use that as a benchmark for other returns that are available in the marketplace.

Again, this slide says make sure you're getting a risk-adjusted return.

So what we're saying is there's nothing wrong with being an investor in unsecured loans, provided you're receiving an adequate return.

So investors need to understand the underlying security and also the underlying risk.

And then they need to make an assessment about whether that return that is being offered compensates them adequately for the risk that's involved.

So again, coming back to the, it all comes back to capital stack.

in terms of understanding where you sit in that capital stack and what sort of return is available and whether that return is adequate for the risk that's involved.

And you can see here as that's September, 2025, sorry, 2024, the CPS copy debt fund is paying up to 10.5% per annum on a quarterly basis.

So just to summarise,

There is a difference between real estate private credit and private credit generally.

Investors really should understand the underlying security.

And investors should be comfortable with the returns they are receiving in return for the risk that they are taking.

Thank you, Angelina.

Are there any questions?

Thank you for your presentation, Joe.

Yes, I do have a question for you.

How would an investor know if their investment is secured or not?

Angelina, that is a really good question.

Look, I would always go to the offer document.

So generally, if, for example, it's a real estate credit investment, generally it will talk about whether there's a mortgage over the property.

It'll also talk about an independent valuation of that property, or it should.

So if it doesn't mention what the underlying security is being property, or if it's just a private credit loan more generally, and saying that it's secured against the EBITDA, EBITDA just means earnings before interest in tax or in depreciation and amortization.

But, you know, it'll say it's either secured against the cash flow, or it's secured against the hard asset.

So you really need to take some time to look at the underlying offer document.

Often people get caught up, you know, there's a great return and they don't want to look at the detail.

So look at the offer document and understand what the underlying security is.

The other thing I always say, if you're not sure, seek independent financial advice.

So go and see your financial planner.

Thanks, Joel.

My pleasure, Angelina.

Nice to talk with you.