Commercial mortgages are proving to be among the best investment vehicles around.
For starters, institutional investment firms have calming effects on turbulent markets, thanks to their long-term investment horizons and deep pockets. Those factors, along with sophisticated investment views and Canada’s conservative banking practices, play a crucial role curbing oversupply in the market.
In a city like Toronto, which has North America’s lowest commercial and industrial vacancy rates and where market fundamentals are indomitable, commercial mortgages have emerged as a superlative investment vehicle.
“Mortgages have very low loss experience, comparable to the loss experience of credit-quality corporate bonds,” said Geoff McTait, SVP and co-head of debt strategies at Fiera Properties Ltd. “Given the cyclical nature of economy, and real estate’s nature itself, at some point there will be a recession, but mortgages at this time represent reduced risk exposure to the real estate asset class. We’re lending on commercial real estate at cents on the dollar.”
Lending at precisely $0.65, should a recession or value reduction befall the real estate market, investors are largely insulated. Added McTait: Especially when compared to corporate bonds.
“We look at commercial mortgages as superior security but with reduced liquidity to corporate bonds, collateral being the first one,” he said. “With real estate, you’re getting a hard asset—the commercial property itself—as well as assignment of underlying rents. With corporate bonds, you’re getting a general claim on the corporate asset.”
In pooled mortgages, investors also benefit from income-generating tenant diversity, all of whom ultimately pay off the mortgage’s interest.
“In terms of liquidity, mortgages are private,” said McTait. “Amortization is another feature. Often times, you can get amortization of 20 to 30 years where principal is repaid monthly, as well as interest over the life of the mortgage term. From a risk rating perspective, mortgages are not publicly rated, but corporate bonds are.”
As an asset class, commercial mortgages are private in nature, and that curtails the frequency with which they’re traded. In tandem with the mortgages’ duration, McTait says the yield premium is significant.
“Mortgage duration typically is going to be shorter than in the corporate bond space. Terms are usually three-, five-, and seven-years. They commonly go up to 10 years. Given this private premium and shorter duration bonds, you’re able to achieve this higher yield with lower duration.”