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Investors confirm healthy appetite for European real estate debt funds

Investors have expressed increased interest in European real estate debt funds, according to INREV’s recent Debt Fund Survey, with a majority citing the risk/return characteristics of real estate debt funds as one of the main attractions.

The survey suggests that a lack of certainty around the lending capability of banks and a growing funding gap have created opportunities for other players to enter the commercial real estate lending market, fuelling investor interest in debt funds as a viable, addition to their existing real estate investment portfolios.

“Debt funds help us to diversify and spread risk across our total investment portfolio and because we entered the market early, we now have a clearer view of its potential,” says Ingo Bofinger, head of real estate, Gothaer Asset Management.

In the last three years at least 19 European real estate debt funds have been launched with an estimated target size of EUR9bn to EUR10bn but only 50 per cent of this target has been raised to date. Part of this capital has come from internal sources, with many of the debt funds being set up by fund managers that are owned by large institutional investors who are prepared to invest the required seed capital.

Smaller, independent fund managers find it more challenging to raise capital and close funds.

Investors’ primary concern about debt funds is the lack of fund managers’ track record.

“Although there is a limited history around debt fund activity, fund managers should still try and disclose as much as they can on past deals to reassure investors they are capable of running debt funds. There is a clear need to demonstrate a dependable track record,” says Vitaliy Tonenchuk, senior research and database manager, INREV.

Given the lack of senior lenders in the market mezzanine strategies have been harder than expected to get off the ground. As a result, real estate debt funds that are currently being launched are adopting a broader mix of strategies, including senior, whole loans and broader subordinated strategies

Senior debt funds target fixed income investors and offer typical gross returns of four to six per cent, which are too low for real estate investors who prefer subordinated debt funds with target gross returns of between eight and 15 per cent.

The survey reveals that playing it safe remains the core strategy for the majority of debt funds. In general, funds focus on newly originated loans on high-quality real estate in key markets such as the UK, Germany, the Nordics, Netherlands and France.

“There is a great opportunity here for investors and fund managers to align their interests and activities as the real estate debt funds market is still very flexible. Our study reveals that transparency and education are key as everybody is eager to understand the market in more detail and to benefit from it,” adds Tonenchuk.

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