Investing in Commercial Real Estate Debt: An Uncorrelated Alternative to Traditional Investments

Our next presenter is Alan Greenstein, the CEO and co-founder of Zega.

Alan has more than 30 years experience in banking and finance, with world experience in the United Kingdom, South Africa, and Australia.

His presentation topic today is investing in commercial real estate debt, an uncolorated alternative to traditional investments.

Welcome to the presentation, Alan.

Thank you, Angelina.

I think we'll just move straight into it.

So I want to talk today about CRED.

CRED is the acronym for commercial real estate debt.

And CRED has a lot of possible names and covers a lot of ills.

But for our purposes today, we're really talking about loans that are used for commercial use, usually having security over real property mortgages.

These could cover land banking, they could cover construction and development.

They could cover investment loans and residual stock.

Residual stock means

properties that are completed, often used as build form assets.

So these could cover office buildings and shopping centres, industrial warehouses, petrol stations, vacant land and residential apartments, and just about anything that could be used for commercial use, even though it may have some kind of residential component.

And borrowers for credit for commercial real estate debt are usually property investors or property developers, private corporations, so these could be the developers themselves in some kind of

corporate guys, property developers and often high net worth individuals.

So that's really what the market is all about.

And what I really want to talk to today is why this gives you an opportunity to build assets for income beyond the traditional asset sets.

What are generally the traditional asset sets?

that would be cash in the bank, property, equities, bonds, etc.

And generally any investor who's looking to invest wants to achieve capital preservation as a minimum.

In other words, they don't want to lose their money.

They want some kind of return on their capital, so they want an increase in value and obviously appreciation.

In other words, they want their original capital to grow in value in addition to return.

And the only real way to get these is to diversify beyond traditional asset classes.

Now, when you talk about diversification, we're talking about going beyond traditional assets into non-traditional alternative assets.

And there's a place in everyone's investment portfolio for alternative assets.

And we consider commercial real estate debt to be one of those alternative assets, not the only one, but the one we're going to talk about today.

So what's the real value and advantage of that?

Is that historically, investors have always balanced their portfolios to get higher returns.

against the volatility of equities with cash and bonds for stability.

Now what does that really mean?

Imagine you have a dumbbell or a barbell in your hand, you've got a narrow piece in the middle, you've got two big weights on either side, and generally on the one side you have the low income, very low volatility, very stable assets such as cash and bonds,

And on the other hand, you have the riskier, higher income, higher risk assets.

Could be equities, could be private equity, could be venture capital, could be crypto, could be lots of things.

What we're really trying to do is to minimize some of the risk between those two and to create some stability in the middle.

So really what happens is that when you're building out your investment portfolio, you want to minimize the volatility, improve the return without really sacrificing

any risk on the inside.

So that's what we really talk about when we talk about balancing the portfolio for commercial real estate debt purposes.

Now where does that take us?

Really that in terms of market uncertainty, we want to increase our portfolio allocations to become a lot more defensive.

What does that really mean to become defensive?

Is that we come a little bit less concerned with shooting the lights out on our portfolio and we come a little bit more concerned with about preserving capital and generating income.

And obviously something like a fixed income investment is the most popular strategy for preserving capital and generating income.

What's a fixed income investment?

This could be money in a deposit account.

It could be a bond.

It could be some kind of hybrid instrument which is paying your return.

But really,

The flavour of the month, certainly since COVID and maybe even beyond COVID and still today, is to really for people to be a little bit more defensive, to not put their portfolios at risk and to make sure that they don't lose money and generate a minimum return rather than trying to generate the highest return possible.

So really, that means that CRED is becoming increasingly attractive as an asset class.

Why?

because it's stable, it's risk adjusted because of the debt security and it's not correlated to highly volatile markets.

What do I mean by that in terms of stable, risk adjusted and non-correlated?

Stable really means you know what you're going to get.

It's not volatile.

It doesn't move up and down like the stock market.

If you buy a commercial real estate deadline, you effectively know the amount that's going to be repaid to you, when it's going to be repaid to you and how it's going to be secured.

So often these are secured by first ranking mortgages over real property and generally with conservative loan to value ratio.

So you have a lot of equity in the property.

You have a lot of equity in the deal and you have decent security.

And it's very low or negatively correlated because it's not very volatile.

It generates income for you.

And it also can be a fixed income asset.

It can be a property asset or alternative asset.

And that's really the benefit of credit.

So when you look at that,

you can see that you get solid stable returns.

In fact, if you look at our fund, the Zagafida fund, you can see that you can earn meaningful risk adjusted returns without the volatility.

If you look at that yellow bar at the top, you can see that historically 2019 to 2023, you've been earning around 10%.

Whereas if you've been in the S&P or the other indexes, you can see just how those things have spiked up and down.

And overall, you're actually under where the fund has delivered.

So what about the risks and mitigants that are involved when you're looking at a CRED portfolio?

So I think the most important thing is because CRED is private, it's unlisted, it's not regulated by a stock exchange, although it's regulated by a regulator, you've got to make sure that you do business with the right investment manager.

It's all about the due diligence and the structuring of the loan, and you need to be careful that you're getting into bed with the right players.

It helps for that player to have a technology platform that can service the loan, that can make sure that you're getting all the information you need.

And at the end of the day, what you're really trying to mitigate against is the loss of principal and the loss of income.

You don't want to lose the underlying investment and you don't want to lose any of the money that you've got.

So it requires intensive asset management and risk management.

And that means you need to ride the right jockey to make sure that you get the best results for your investment.

So with that in mind,

You can deliver for yourself a decent significant risk adjusted return with downside protection.

You can see on that slide there the capital stack equity is normally the last one out, mezzanine debt is the second last one out, and the senior debt, which is where the commercial real estate debt resides, is the first one out.

So the first investor out is the secured investor, that's the senior debt.

And what really has been proven is that this asset class has performed incredibly well during COVID.

You can get variable rates that adjust as rates go up, as rates goes up, your return goes up.

You generally shield it from negative price movements because you don't have the volatility of equity.

And because you generally have a secured position, you're not really caught with having to contribute if the loan should go bad.

So really, if you look at it in a nutshell, the mantra for this is that a risk mitigated credit opportunities that consistently deliver steady income

when compounded over many years and looked at in hindsight constitute highly attractive returns.

So you may say, well, I can get 20% on the stock market and I can get, I don't know, nine or 10% on a credit investment.

And if you just look at that in the short term, that doesn't look great.

But given in mind the volatility of the stock market, you need to understand that that 9% of a many, many years compound that is actually a much better return.

So moving forward, then let's just talk very quickly about Zagger.

And, you know, we have a mantra of why Zig, when you can Zagger just about us very quickly.

We were established in 2017.

We've originated more than $1.5 billion of commercial real estate debt transactions, about 240 transactions today.

None of our investors have ever lost a dollar on any of our loans.

We're regulated with all the financial services license and the credit license.

We have a superior investment credit rating by SQM for the third year running.

We have more than 500 investors and

our team has more than 200 years of combined experience.

And when we talk about riding that jockey, we think we're one of the better jockeys in the market to ride when it comes to delivering on a credit investment.

And just perhaps to summarise that in one chart, you can just see in this chart how Craig delivers positive inflation.

You can see that the Zagafina funds return over 2019 to 2023, bearing in mind that interest rates have changed quite considerably over that time.

In 2021 and 2022, interest rates were very low.

They started coming back in the middle of 2022.

They went up in 2023.

But as you can see, you would have earned anywhere from nine.

And in fact, as of this month, 2024, that fund is earning about 9.4%.

If you had held your money in cash, you can see the difference.

Just look at 2023 between the 2.96% you would have earned and the 822 you're earning in that fund.

And if you would have been in the term deposit market,

roughly the same.

So there you can see without really massively increasing your risk, so to take on a commercial real estate investment which has got security behind it, which has got a 62 or 63 percent loan to value ratio, you're earning about eight or nine percent return.

Whereas just to have your money in the safest possible, the extreme left of that dumbbell or bar that I spoke to you about earlier is only earning you about

and a half or three percent and that's really the best investment case for this product.

So in that 10 minutes I hope I've been able to give you an understanding of what Cred's all about, why it's a great alternative asset and why it's something you should consider and why maybe you would consider Zagger as the investment manager.

Thank you very much for your time and I'd be happy to take some questions.

Thank you for your presentation, Alan.

Can you explain how credit, the CRED investments, may provide consistent income streams compared to other asset classes?

Thanks, Angelina.

That's a good question.

I think the thing to appreciate about a CRED investment is that it's pretty transparent.

So what you see is what you get.

When you go into a CRED loan, you know exactly the rate of return you're going to get.

And generally, you know the amount of time over which that return is going to be paid to you.

and whether it's going to be paid monthly, quarterly, annually, et cetera.

That's not always the case when you're in a stock market investment.

You may think, you know, when you're going to get distributions, but distributions are not always paid.

You may want to sell out of the loan.

You may sell out at lower than your entry price or higher than your entry price.

You don't have this with credit.

You're going to get your money back.

So if you invest a hundred, you're going to get a hundred back.

If you invest it at a 10%, you're going to earn the 10% return.

And if the note is structured that you're going to earn it monthly, then you're going to earn it monthly.

So it just has a lot more certainty and a lot more transparency than if you were investing in other types of investments or asset classes.

How does the current interest rate environment affect the attractiveness of credit investment compared to other fixed income assets?

The other fixed income assets, because they're generally coming from banks or corporates, are always going to be slightly lower because they have a risk rating

which is exceptionally high, and obviously the higher the risk rating, the lower the return.

The advantage with CRED is that you are not massively increasing your risk rating, but you're getting a much better return.

So from a fixed income point of view, your savings account is going to be the lowest, and then you're going to get to kind of a term deposit, then you may get to some kind of hybrid.

With CRED and with these kinds of loans, especially as offered by our fund, you're always going to get a return over the cash rate.

So we target, depending on which fund we're at, 4% or 6% over the cash rates.

And on that basis, without taking too much risk, you're going to get almost double the return you're getting if you keep your money in the bank.

And that's what I think it's probably worth thinking about.

I just want to make the point that I'm not giving anyone financial advice over here.

Each person should look at their own circumstances.

They should take their own advice.

But just from a pure product attraction point of view,

There is a space for credit in every investor's portfolio, and they should look to see where it fits into that portfolio.

Thank you, Alan.

Thank you very much, Angelina, and thanks for the opportunity once again.