Investing in Private Lending Funds

Here is what we have learned

Management



When it comes to the ultimate success or failure of a Private Lending Fund, the most important lesson I’ve learned over the years is that management really does matter a lot.



If a great company is run by a poor CEO, the odds of that company turning into a good investment are low. On the other hand, if you have a growing company in a good industry with a great CEO, then it is much more likely that company will turn out to be a good investment.



We all know that RE is about location, location, location. Same for a great company, investors must focus on management, management, management — that is essentially the first rule of investing in Private Lending Funds.



Successful investors have developed their own process to select the best Private Lending Funds. They focus on the character and resources of the manager, and not on past performance of the fund.



Leverage



Some fund managers may borrow money from third-party lenders (“Leverage Providers”) to fund additional mortgage loans.  In order to obtain such a loan, the fund may assign part or all its loan portfolio to the Leverage Provider. Investors of the fund will be subordinated to the Leverage Providers. The Leverage Providers may advance an agreed-to percentage of each loan (typically between 50% and 85% of the loan amount) and will be senior to the Investors of the fund.



Some of the borrowed money may have interest at a variable rate, whereas the fund may be originating fixed rate Mortgage Loans.  If the borrowed money interest rates rise, the Fund’s cost of money could exceed the income earned from that loans originated, thus reducing the fund’s profitability or causing losses.



Leveraging a fund may also result in the receipt of some taxable income to Investors using their IRA accounts, 401K or some other tax-exempt programs. 



Investors shouldn’t fear down markets



Another lesson I have learned in my RE career is that RE investors take advantage of bear markets. Declining markets gives RE investors the opportunity to select properties at lower prices. RE investors tended to prepare early for a downturn and then, when prices start falling, they use the bear market to take advantage and buy opportunities.



Timing



Timing plays a huge role, and successful portfolio managers whom understand RE cycles well, must keep their funds fully capitalized during the downturn because some RE investors will come out strong, and they will need to move fast to acquire those opportunities.



Valuations



The flip side of a bear market is the bull market we’ve seen for almost a decade. This is one of the longest-running bull markets in history. This exceptionally strong market has resulted in valuations that are higher than expected, however the strong discipline and underwriting criteria of a Fund Manager is critical during a bull market. Since no one knows when the next market turn might occur, inconsistent managers could face challenging times during a market shift, thus this would place the fund in a critical situation.



We have always encouraged that a strong, well-disciplined investment philosophy is key for successful managers.



Technology



The use of technology (Fintech) has made the Private Lending Industry more efficient for both; the borrowers, and the Fund’s Investors. It allows them to have access to the information they need 24/7 and into a paperless lifestyle environment. It creates a smooth, and efficient customer’s experience.



Fintech is highly appreciated by investors. Nowadays it’s easier to get in touch with your account anywhere at any time – technology has been a huge game changer for the fund’s industry, and investors enjoying it. Information is one click away in real time.



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