Abstract
This article uses a multimanager sample of loan-level data to assess the performance of commercial real estate (CRE) subordinate debt from 2010 through 2020. The author compares its performance to various real estate alternatives, including senior mortgage loans and real estate equity. Risk-return trade-offs within CRE subordinate debt are examined using a subsample of loans that originated and were fully realized during the sample period. <b>Key Findings</b> ▪ Over the sample period, average returns from subordinate CRE debt were higher than those produced by senior loans and lower than what real estate equity generated. Income was the main driver of return achieved by subordinate debt. ▪ Investors were, on average, compensated for taking on both greater financial risk (higher position within a property’s capital stack) and greater real estate risk (e.g., value-add vs. stabilized properties). ▪ During the sample period, loan defaults were infrequent. However, high loss severity caused meaningful effects on composite or portfolio outcomes.
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