REIT

Seven Ways Higher Interest Rates Will Change the NT REIT Industry

Higher interest rates can have a significant impact on real estate and the non-traded Real Estate Investment Trust (REIT) industry, affecting various aspects of its operations and performance. Here are seven potential impacts

Cost of Borrowing

Non-traded REITs often rely on debt financing to acquire and develop properties. Higher interest rates can increase the cost of borrowing for these REITs, leading to higher interest payments and potentially reducing their profitability.

Property Valuations

As interest rates rise, the yield on alternative fixed-income investments (such as bonds) also increases. This can make real estate investments relatively less attractive, potentially leading to a decrease in property valuations. Non-traded REITs typically hold a portfolio of properties, and if the value of these properties declines, it could affect the overall net asset value of the REIT.

Dividend Payments

Non-traded REITs often distribute a significant portion of their earnings as dividends to investors. Higher interest rates can lead to increased borrowing costs and potentially squeeze the funds available for dividend payments. Investors may become less attracted to non-traded REITs if the dividend yield becomes less competitive compared to other investment options.

Investor Demand

Rising interest rates can make other investment options, such as bonds or savings accounts, more appealing due to the potential for higher returns with lower risk. This could result in reduced investor demand for non-traded REITs, which may lead to slower capital raising for new projects or investments.

Fundraising Challenges

Non-traded REITs often raise capital through public offerings. Higher interest rates can lead to decreased investor interest in these offerings, as potential investors may seek higher returns from alternative investments that become more attractive due to rising interest rates.

Exit Strategy

One challenge with non-traded REITs is the lack of a liquid secondary market for investors to sell their shares. Higher interest rates could potentially make it even more difficult for investors to exit their positions, as the reduced demand for shares might lead to longer holding periods before finding buyers.

Development and Expansion

Higher interest rates can affect the profitability of new property development and expansion projects. If borrowing costs increase, it might lead to a slowdown in new project acquisitions or developments, impacting the growth potential of non-traded REITs.

It’s important to note that the impact of higher interest rates on the non-traded REIT industry can vary depending on factors such as the specific REIT’s portfolio composition, leverage levels, management strategies, and the overall economic environment. REIT managers typically employ various strategies to mitigate the effects of interest rate fluctuations, such as interest rate hedging or adjusting their investment strategies to adapt to changing market conditions.

Click here to learn more about Non-traded REITs

The Reemergence of Non-traded REITs

Total non-traded REIT (NT REIT) assets were $232 billion as of the end of 2022Q2, up 76% compared to a year ago. This recent growth has been led by Blackstone, which has come to dominate the sector. Yet several other major asset managers have launched new funds, indicating that the NT REIT is becoming a mainstream institutional product. This year is on track to be first year since 2016 that new NT REIT launches exceed exits.

The NT REIT sector survived three major existential threats in the past decade. First, in 2014, an accounting scandal at the REIT then known as American Realty Capital Properties brought fundraising down across the entire sector. Second, in April 2016 new FINRA 15-02 went into effect, bringing heightened scrutiny on the impact of up front selling costs. Industry participants scrambled to develop share class structures that would blunt the perceived impact, with limited success. Finally, in April 2016, The Department of Labor issued a new fiduciary standard that would have made it nearly impossible to justify high commission products like NT REITs. Although courts overturned this rule, the uncertainty it caused stymied NT REIT fundraising for several years.

Yet NT REITs survived these challenges and reemerged in a new form. In this paper we take a deep dive into the structural changes that have occurred in the NT REIT sector over the past decade. Then we look to the future and consider what the NT REIT sector will become.

Note: This is an excerpt adapted from a The Reemergence of Non-traded BDCs, a research report available to Alternative Investments Pro Members. Click here to sign up and access the full report. Already a member? Click here to login and access the content.

See also:

What is a non-traded REIT?

List of current non-traded REITs with current assets

Hospitality Investors Trust Files For Bankruptcy

Things went from bad to worse at Hospitality Investors Trust. Last year, they had to enter into a forbearance agreement with certain lenders. Earlier this year the DI Wire reported on a liquidity dilemma at Hospitality Investors Trust. Now at last the inevitable has happened. Hospitality Investors Trust has filed for bankruptcy.

FactRight sums up the current situation here:

On May 19, 2021, Hospitality Investors Trust, Inc. (HIT) announced that it and certain operating subsidiaries had filed voluntary bankruptcy petitions under Chapter 11 of the Bankruptcy Code. The United States Bankruptcy Court for the District of Delaware is administering the cases under the caption In re: Hospitality Investors Trust, Inc., et al.
HIT and affiliates filed for first day relief including the authority to pay certain vendors, suppliers and employee wages and benefits in the ordinary course of business as well as for approval of a debtor in possession (DIP) financing facility of up to $65 million in aggregate principal balance. Brookfield (via multiple affiliates), which had previously made an approximately $300 million investment in HIT, has agreed under a restructuring support agreement to “support and take any and all commercially reasonable, necessary or appropriate actions in furtherance of the consummation of the restructuring transactions.” HIT noted that it had received approval from “certain of the Company’s lenders, franchisors and other parties in interests” regarding the planned restructuring and that implementation of the planned restructuring will not constitute a default or triggering event under certain loans or financial obligations.

Under the proposed restructuring plan, the existing common stock will be cancelled and exchanged into non-transferable contingent valuation rights (CVRs) which will receive distributions once certain hurdles are achieved for Brookfield. The maximum value of the CVRs is $6.00. Considering the retail investors originally bought in at $25.00, this is probably a painful outcome. At least there will be some tax benefits.

Backstory

Hospitality Investors Trust has a long and sordid backstory. Formerly known as American Realty Capital Hospitality Trust, it raised capital quickly from the broker-dealer channel right at the peak of Nick Schorsch’s reign as the non-traded REIT Czar. However it got overextended financially, and everything unwound right as an accounting scandal broke out at American Realty(now known as VEREIT. (See “History Repeats: The Serpent on the Rock” for details on this). Eventually they struck a Faustian bargain with Brookfield, who bailed them out in exchange for some extremely generous preferred stock. Then the pandemic hit.

Possible Recovery?

Many analysts have speculated that there is a lot of pent up demand for travel. If that is the case, then there is a lot of upside for the hospitality industry. There might be upside for Hospitality Investors Trust, but its complex capital structure means it will take a lot before the outside shareholders benefit. Its possible that the CVRs resulting from this bankruptcy might achieve the full targeted payout of $6.00. Considering that shares have recently exchanged hands at $0.50, this might be an extreme deep value play, albeit with a lot of risk. One thing is for certain: Brookfield will do extremely well no matter what happens.

Fund Launch: KKR Real Estate Select Trust

KKR has launched a new non-traded REIT: KKR Real Estate Select Trust, Inc. The REIT filed an initial registration statement on May 28, 2020, and the SEC declared the revised version effective on May 18, 2021. In this article we examine the key features of KKR’s new non-traded REIT.

KKR Real Estate Select Trust Investment Strategy

KKR Real Estate Select Trust’s vestment objective is to provide attractive current income and its secondary objective is to provide long term capital appreciation. The REIT has a broad investment thesis targeting single-tenant net lease properties, preferred equity investments and private real estate debt in the United States, as well as developed markets in Asia and Europe. The prospectus highlights several trends that it believes will be favorable to the REIT’s investment strategy. In particular, it plans to focus on opportunities in population centers that have favorable demographic, technological and preference changes accelerating urbanization.

Fund Structure

According to the prospectus, KKR Real Estate Select Trust is raising $2 billion, and offering four different share classes. The perpetual life REIT will price NAV and accept subscriptions daily. Class S shares will have an up front sales load of 3.0%, and a dealer manager fee of 0.5%. Class D, Class U, and Class I shares have no up front selling costs. However Class S and Class U both pay ongoing distribution fees of 0.60%, and shareholder servicing fees of 0.25%, while Class D shares pay shareholder servicing fees of 0.25% Class I shares have no distribution or servicing fees. The REIT will charge a base management fee of 1.25%, and a performance incentive fee of 12.5% of portfolio operating income.

More details on KKR Real Estate Select Trust’s fee structure and investment strategy is available to premium subscribers. Click here to learn more about data and tools available to premium subscribers.

KKR Select Real Estate Select Trust is relatively unique in that it is both a non-traded REIT, and a Tender Offer Fund. Real Estate Investment Trust, or “REIT” refers to its tax status. As a REIT, it is subject to a range of requirements, especially around distributing income to investors. As a tender offer fund, it is subject to disclosure requirements of the 1940 act. Broadstone Real Estate Access Fund, a closed end interval fund, is another example of a fund using this combination of regulatory structures.

About KKR

Founded in 1976 KKR was one of the pioneers in private equity and alternative investments. Today it operates globally, with 20 offices, and 1600 employees. As of December 31, 2020, KKR had approximately $252 billion in assets under management. Since 2004, KKR’s AUM has grown twice as fast as the broader alternative investment industry. Private equity remains the dominant strategy in KKR’s portfolio, accounting for 68% of total AUM. In recent years they have been expanding their real estate capabilities. KKR Real Estate has around 90 employees dedicated to real estate, with AUM of approximately $28 billion Additionally KKR has been expanding its focus on retail investors, with the launch of various non-traded BDC and Interval Fund products. This is KKR’s first non-traded REIT.

Invesco Launches Non-Traded REIT

Invesco has entered the non-traded REIT space with the launch of a new fund: the Invesco Real Estate Income Trust, Inc. This fund filed an initial draft registration statement on December 31, 2019, and conducted a private offering in 2020. On March 31, 2021, it filed a registration statement for a public offering, which the SEC declared effective on May 14, 2021.

Investment Strategy

The Fund’s investment objective is current income and capital appreciation. It will invest primarily in stabilized, income-oriented commercial real estate in the United States. Invesco Real EState Income Trust will invest in a broad range of property types including multifamily, industrial, retail, office, healthcare, student housing, hotels, senior living, data centers and self-storage. It will use the FTSE EPRA/Nareit Developed Index as its benchmark.

The fund has a mandate that allows it to invest globally. In order to fund liquidity for distribution payments, and the repurchase plan, it may also hold more liquid real estate related securities.

Since the fund conducted a private offering, it already has $31 million in net assets in the portfolio. The following table summarizes its property type allocation.

Share Classes

According to its prospectus, Invesco Real Estate Income Trust is raising up to $3 billion, and will have a total of 5 share classes. Class T, Class S, and Class D shares all have varying levels of up front selling commissions. Class I and Class E shares however, will not have any upfront selling costs. The minimum initial investment for Class T, Class S, Class D and Class E shares is $2,500. Class I shares are intended for institutional investors, and have a $1,000,000 minimum initial investment.

The fund will pay an annual management fee equal to 1.0% of NAV. Additionally, the Adviser will be entitled to a performance allocation of 12.5% over a 6.0% hurdle, with a high water mark, and catch up feature. The fund will not charge any acquisition, disposition, or financing coordination fees.

More details on Invesco Real Estate Income Trust’s strategy is available to premium subscribers. Click here to learn more about data and tools available to premium subscribers.

About Invesco

Invesco is a global investment manager with $1.2 trillion in assets under management. Headquartered in Atlanta, Georgia, it has more than 8000 employees branch offices in 20 countries. Invesco’s common stock also trades on the New York Stock Exchange under the ticker symbol “IVZ”. Invesco’s funds have a diverse investor base. According to its most recent annual report, approximately 70% of IVZ’s AUM is from retail investors, and 30% is from institutional investors. Invesco Real Estate buys and sells approximately $7.4 billion in real estate globally, in addition to real estate related securities.

Although This is Invesco’s first non-traded REIT, it has extensive experience marketing alternative investment products in the retail channel. Notably, Invesco has one of the longest running interval funds. Additionally, it is in the process of converting one of its closed end funds into an interval fund.