Private Debt Investing

Nels Stemm:
Yeah. Thanks so much, Elana. I'm very happy to be here.

EMS:
Absolutely. So to kick off the conversation, tell us a little about the firm and how you got to where you are today.

NS:
Yeah. Thank you. So Fairview Partners was formed in 2011 with myself and my partner, Carson Rasmussen. I am someone who had studied the idea of distressed debt investing for a long time, had always found that to be something that I thought would be intriguing for me and my skillsets, and likewise with Carson having a background in hedge fund investing. And so obviously good time at that point in time, great financial crisis, so we set up shop and we started buying distressed debt on commercial real estate, and we continue to do that to today. We are on our seventh fund today, and at this point we still buy distressed debt and we also originate bridge loans, high yield bridge loans, I would say things that are distress oriented, very special situations oriented. And currently on the distressed debt side, we're buying loans that we think we can work out, we can mostly remain a lender, as opposed to being in a loan to own situation. And so that's what brings us here today.

EMS:
Great, Nels. So given your focus on private debt investing, love to hear your overall outlook for the space.

NS:
Sure. So it's been obviously a eventful 2022 with this historic rise in interest rates. We came into it, not exactly that we could predict obviously the timing or the extent or anything, but being wary of duration risk throughout the market. That was a thing that you could see, simply just the owning of certain pieces of paper, a five or a 10-year piece of paper, especially for someone like us who's targeting higher returns, that's unlikely to be a great place for us, so we went away from a lot of those. But there was also a lot of business models that were extremely duration oriented that people didn't really realize, or very dependent on low rates. And so those started to roll over last year, and a lot of people have tapped out and left the space in various ways.

Maybe they have problems getting their lines of credit, keeping their lines of credit, or running a syndication model or something like that. We're a very lightly, an unlevered or lightly levered, kind of operation, so we look to the native returns of the asset itself and we use moderate leverage. And so there's a big decent size unwinding of a lot of that in the private debt side. So we've seen a lot of pull back from competitors and we've still been here lending, so we've been able to achieve our rates, which are higher, and we never really moved them down a ton through the big boom, and so now people are just coming back to our level.

I think there's a reason I got into distressed debt investing and that's because I maybe have a skeptical view of the overall financial markets and the banking system, and you can see the troubles that are in the banking system. That's everything that we saw at the beginning of 2023, that's why we set up our firm, because we were not necessarily enamored with the fractional reserve banking system and the way that it operates where you're using overnight deposits to hold 10-year bonds and loans and things like that. And so the people that were really poor at that went quickly. But I think now you'll start to see some of the other people who maybe weren't as egregious as a Silicon Valley Bank or a First Republic Bank still come under a lot of pressure. And that's where people like us, where we're raising money from investors to, again, not do a highly levered situation and just provide capital into these situations. I think we're going to continue to do really well.

EMS:
Great, Nels. And more specifically, where do you see some of the greatest opportunities looking ahead and why?

NS:
Yeah, I think in loan purchases, I think there's going to be a big delevering from the banks, basically, and so you're already seeing that. You saw Pacific Western Bank sell several billion dollars of assets. Frankly, just the Signature Bank transaction while they got taken over by the FDIC, that's $30 billion of debt being sold, we think later in the summer of real estate debt. That's more than the FDIC sold over a decade. And so that's just one bank. So I think it depends on how the banking system continues to evolve, but clearly they're going to need to either take combinations and raising capital, selling loans, and we think they're going to sell a lot of loans so we think that the loan purchase space will be a really great place to be.

And then some of these high yield situations where we're navigating the bankruptcy system, we're dealing with a more obscure bucket of collateral where maybe we can tie someone up, it's not just a single asset, it's multiple of a portfolio where we do rescue financing in that sense. So we think for both of those, that's what puts us in mid to high teens returns, which is what we've targeted and what we've achieved on several of our funds and I think can achieve on the funds that we're investing in right now as well.

EMS:
Nels, on the other hand, what are some of the greatest challenges you face and how are you trying to conquer them?

NS:
It's still a competitive market. I think that if you look at people that had done investing in our style of investing in the 90s or something like that, there just weren't as many people. Maybe I wouldn't have been doing this, maybe I would've been an engineer or something like that. So I think it's a robust marketplace and it's a competitive marketplace, but at some points in time, I think it breaks open. And also I think you're getting to a point where, again, some people's business models just didn't really even make it through just a little bit of distress that we've seen. And so the people that are left over have a little bit better opportunity, but when they're still selling performing loans and things like that, they're still tight, tight to the spreads that you would expect and different things like that. So we're always here looking for some kind of edge, and I think that's where looking as versus...

We're trying to a lot of times look at other lenders and say, "Hey, why do they have that? They have some requirement. Is that a requirement that's necessary for us, or is that a requirement that's only necessary for them?" Banks have requirements because of how their capital structure is. But if a banker goes and then starts a private debt fund and he takes his entire banking mentality over to a private debt fund, that may not be the best situation for him. And so we're looking at what are these conventional ideas? That conventional permanent lending came up. And with us as an unlevered investor in this place, maybe there are things that we can do that other people can't. I know private debt funds that it could be an asset that has a lease on a property and it's got five years left on the lease to a top credit tenant, but the tenant has moved out and it's dark, and it's like, well, you can underwrite the cashflow on that and all that, but they can't do that. They're limited in doing that. We're going to look at that opportunity and see what's going on.

Again, we look at additional collateral. So some people can only underwrite just the primary property, where we could underwrite the primary property and different pieces of maybe smaller, less prominent collateral that someone could bring in to make us a package. And so that's where we're meeting the challenges, I guess. So the primary challenge is the competitive market, and then trying to find ways to deal with that.

EMS:
Nels, we've covered a lot of ground today and wanted to see what your future plans are, or if there are any other final thoughts you'd like to share with us?

NS:
No, there are a few final thoughts, but I really appreciate the opportunity. I think people should consider the levels of risks that they're taking. I think there are people that might be taking risks that they haven't fully grasped. And I think that the first part of, I think 2022 and the first part of 2023 were great examples of that where people are saying, "Wow, I was making an unsecured loan to a bank. I had no idea. In the end, I got bailed out, but I was making a loan to Silicon Valley Bank and I was making very, very little money for it." That's what a bank deposit is.

Or, "Oh, it sounded nice to have a US government bond that's five years or 10 years." Well, you lost 20 or 30% or more in your US government bond. I think there's a lot of, we're a shop that's very much around avoiding levels of conventional thinking that can get people into trouble, and finding the little areas where you can take those to your advantage. And so I think just evaluating what the risk is, really, what is your collateral and what can happen to it, and are you making enough return to justify it? So everything that investors ought to be doing, and that's why we feel like we're providing an edge in that way of basically providing what our goal is to provide equity level returns with debt levels or risk.

EMS:
Nels, I want to thank you so much for sharing your perspective with our listeners. And thank you for listening to the EisnerAmper Podcast Series. Visit eisneramper.com for more information on this and a host of other topics, and join us for our next EisnerAmper Podcast, when we get down to business.

^{Transcribed by Rev.com}