FAP Group mezz fund tops €200m, as debt funds see solid growth

The independent Berlin-based FAP Group has chalked up its largest individual investor commitment so far to its core mezzanine FAP Balanced Real Estate Financing I Fund. With a €50m contribution by an unnamed German insurer, the equity volume of the mezzanine debt fund has now risen to over €200m.

The debt financing fund was launched at the end of 2018 to allocate subordinated capital to existing properties, revitalisation projects and developments throughout Germany. Positioning itself as “core mezzanine”, the fund has distributed over €80m over the past months. Among the projects financed is a revitalisation on Düsseldorf’s Königsallee high street, the development of a plot in Frankfurt as well as maximising financing for the acquisition of a residential asset in central Berlin, close to the famous KaDeWe department store.

The average LTVs on the loans issued are under 80%, although up to 90% is permissible. Depending on risk level, interest payable on the mezz tranches provided varies between 7% and 11%.

Hanno Kowalski, who manages the fund within the group division FAP Invest, said further major inflows were imminent. “The FAP debt fund has been successfully established in the market and attracts high demand from our investor partners. Following the largest individual investor commitment to date, we expect further capital inflow of around €50m in the third quarter. Activity on the lending side is also imminent: We are currently finalising credit allocations in the double-digit millions.”

In March, a listed note which invested in the FAP debt fund, was given a “BBB+” rating from rating agency Creditreform. The note, which was already issued last year, is classified as an equity investor in the vehicle. It thus directly replicates the returns of FAP’s core mezzanine debt fund.

At the time, Creditreform particularly highlighted the quality of the properties that form the underlying of the loans, the amount of senior collateral on the portfolio level, as well as the management’s experience. A further positive factor noted was the relatively low share of properties from asset classes negatively impacted by economic trends in the wake of the Covid-19 pandemic.

We reported back in May about how ever more alternative lenders, including debt funds, insurance companies, family offices and other investors are increasingly stepping in to fill up gaps in the capital stack - if not provide the full financing - while institutional investors are increasingly looking at the optimal structuring of their financing.

FAP Group was an early entrant into the European market for real estate private debt funds, with the asset class only really establishing itself as pan-European in recent years. Not surprisingly, the US and the UK have had a head start in the sector. But increased equity regulation and the withdrawal of banks from much apart from prime lending that the market for real estate debt has really started developing in continental Europe.

A recent study by consultants Wüest Partner Deutschland concluded that the supply of these loan funds is only going to increase further in 2021 and 2022, partly because of the pressure on returns from investors. The target yields of investment products with a senior loan strategy in Europe range from 3% to 8%, while North American products are seeking between 4% and 10%. Mezzanine funds achieve 8-10% returns in Europe and 6-12% in North America.

"The significant spreads in target returns show that even within seemingly homogeneous investment strategies, a very differentiated view of the individual strategies is necessary," said Wüest Partners' head of investment consulting Stefan Stute. Given the fallen yields on real estate itself, debt funds and their returns are likely to become even more interesting in the years ahead.

The higher returns achievable in the US, along with growing competition in Europe, is probably one reason why private equity group 777 Capital Partners recently reversed its decision to join the ranks of debt finance providers in their new European investment approach. The company, headed by ex-CORESTATE bosses Ralph Winter and Thomas Landschreiber, said recently it was now taking the view that, "We're no longer pursuing the idea of setting up a debt fund - we just don't want to be one of many (in the sector)."

The duo's alma mater CORESTATE is not so reticent. The €28bn CORESTATE acquired Frankfurt-based financing platform and securities trading bank Aggregate Financial Services (AFS ) in a €113 million deal in January this year, with new CORESTATE chief executive René Parmantier heralding it as the start of a “new chapter of growth” for its existing private debt segment. The company has been providing mezzanine loans in Germany since 2009 through its Swiss subsidiary Helvetic Financial Services. With the new bolt-on buy of Aggregate Financial Services as a securities trading bank, it now hopes to offer clients diversed debt options such as corporate finance and bond issuance.

With all that global capital looking for new investment opportunities, along with the increasing diversification of managers' debt products, more capital will be targeting debt strategies this year. The latest INREV Investment Intentions Survey revealed non-listed real estate debt was the third most popular strategy by assets under management among investors for this year, up from fifth in 2020.

This has lured big US managers with experience in real estate equity to set up shop in London to hunt out opportunities in Europe. These include lending giants Alliance Bernstein and Invesco Real Estate, along with further commitment by Oaktree Capital Management, majority-owned by Canadian firm Brookfield, which already has a high-yielding property lending business in Europe. Others include LaSalle Investment Managers and Cheyne Capital.

Among new arrivals into the sector in Germany is wealth manager Schroders, who recently hired Daniel Younis away from ING Bank to set up a new full-service German real estate debt funding platform. He'll report to Natalie Howard in London, likewise recently onboarded from DRC Capital to specifically target the debt side of the industry, including senior and high-yielding lending.

Also kicking off in Germany is London-headquartered Avelios Alternative Assets Germany, founded by Matthias Lücker last year, who had previously set up developer and investor FREO. The Berlin branch is being headed up Thomas Fiebig, previously at Deutsche Investment KVG and before that as head of real estate at insurer Talanx. Developer FREO will be providing technical know-how for helping finding development funding.

Likewise focusing on development funding is the Raiffeisenbank im Hochtaunus, tapping in to debt matching platform Hypcloud. The regional bank is targeting the €3m to €30m funding segment, almost exclusively commercial property. The importance of digital platforms is growing rapidly, as most debt funds do not have the traditional branch network enabling them to tap investors. Another player betting big on the digital distribution possibilities is Linus Digital Finance, which recently floated on the Frankfurt Stock Exchange, without raising new capital.

In March Aam2cred Debt Investments entered the debt funding sector with its first Luxembourg-authorised fund, a joint venture with savings giant Union Investment. The fund is targeting €200m equity, and expects to invest that twice or three times over its planned six-year lifespan, issuing both pure mezzanine and whole loans, while aiming for a 6% to 7% return. The company said it planned to drum up at least €200m in fresh capital each year, apart from its separate individual mandates from insurers and pension funds.

Aam2cred boss Nico Rottke commented at the time on the development of the debt fund market in Germany. He said, "Up until now most debt funds - mainly foreign - struggled to find deals, because their return expectations were too high compared to the interest charged by German mortgage financing banks. In the meantime, investors expectations are more modest, and bank financing has become more expensive."

Mezzanine funds and other debt financiers have grown fast in Germany over the past few years because they've been able to provide subordinate capital into the capital stack which had simply become too risky for the traditional banks. They avoid conflict with Germany's Banking Act (Kreditwesengesetz), since mezzanine capital is viewed by the authorities as risk capital, not as lending.

Germany has about 150 alternative financiers, many with their own speciality and comfort level. Most work with banks to complete a financing, and are often complementary to the main bank financing, frequently even helping to secure the bank financing for a project developer in getting a project off the ground.