I'm trying to assess the attractiveness of real estate debt funds. I'm very surprised when I look at the investment performance of many of those funds. Many of them have no negative returns, and can yield up to 10% p.a. See for instance : https://ca.fierarealestate.com/wp-content/uploads/2022/12/Fiera-Real-Estate-Mezzanine-Fund-Overview-Q3-2022-EN-FINAL.pdf. In this particular case, the fund is investing in mezzanine which should be the riskiest level of lending.

Other example, with longer return history: https://ca.fierarealestate.com/wp-content/uploads/2022/12/Fiera-Real-Estate-Financing-Fund-Overview-Q3-2022-EN-FINAL.pdf The brochure even specifies a sharpe ratio of 13 !

What I understand:

  • Those returns are actually "coupon" and even if there was a default among the holdings, it would be diluted among the other holdings. So always having positive distribution (as opposed to total return) makes sense.
  • Asides from the credit risk, the risk might come from a liquidity perspective, where your money is more or less locked into the account, which is very hard to account for.
  • Even if the loans are floating above a riskless rate, the spread is locked so you are still exposed to a capital loss risk.

Still, at some point you might want to go out of the fund and redeem your money. I can't believe you have to expect pure positive returns, or returns drawn from an extremely fat tailed distribution (where losing money is unheard of yet).

So where is the catch? And how can I quantitatively assess it ?

  • $\begingroup$ When you see a SR of 13 you just have to suspect the volatility is being highly underestimated, i.e. valuations are smoothed. $\endgroup$
    – nbbo2
    Jan 23 at 19:43
  • $\begingroup$ Indeed. Hence my question. $\endgroup$
    – Literal
    Jan 23 at 20:09