When PERE produced its annual Real Estate Debt 50 ranking of managers by capital raised for debt issuance strategies in May, the property credit market was described to us as “a safe place to earn a 10”. The manager who characterized that annual percentage return said the perspective was becoming “thematic”.

Unsurprisingly, as global property markets froze in the months that followed, many institutional managers pivoted to real estate credit in a bid to position themselves among those able to offer that safe 10.

As credit markets have become less liquid, at a time when the cost of debt is on the up, managers see the opportunity to capture higher returns in a less competitive arena. And with many in the industry predicting a reduced role for traditional banks going forward, they want to be part of the solution to a funding gap which is fast paralyzing the marketplace.

As a consequence, within a concurrently freezing private real estate fundraising world, debt as a strategy has retained its pulling power. According to PERE’s third quarter statistics, $28.28 billion, or 26 percent of the $107 billion raised across strategies in the first three quarters of the year was for debt, the second highest proportional representation for the strategy since our records began – only in 2017 did we record more.

That proportion might well increase further as direct investment totals continue to plummet and entrants to the real estate credit space continue piling up.

In the last fortnight alone, US managers KKR and Westbrook were reportedly expanding their real estate debt businesses in Europe and Barings was doing likewise in Asia.

Notable among private real estate’s expansion plays was also Stockholm-headquartered Niam which has determined now is the time to buy its way into the space with the acquisition of the debt business of fellow Nordics-focused and Stockholm-based manager Brunswick Real Estate.

In one fell swoop, Niam bolted on a business responsible for three credit funds stemming back to 2013 and today responsible for a combined €2.5 billion of assets under management.

Brunswick Real Estate Capital, which is to become Niam Credit, has not used leverage for its lending programs, the firm told us. That fact is more relevant now than any time in the last property cycle. It means Niam Credit fits into one of two groups within a real estate debt fund market fast bifurcating between the ‘dos’ and ‘do nots’ when it comes to using loan-on-loan finance.

According to PERE’s affiliate debt publication  Real Estate Capital Europe, the growth of the real estate debt fund marketplace has increasingly depended on the use of loan-on-loan finance to reduce the amount of equity needed by mangers in order to be competitive on deployment and enhance returns.

Today’s evaporating finance picture is, on the surface, a huge opportunity for alternative lenders, including debt funds, to grab market share by plugging a gap left by traditional bank lenders. However, those needing to use back leverage to fund their lending activities are faced with the prospect of higher debt costs hitting their bottom lines. It means they are more likely to be as curtailed as their counterparts on the direct, equity-orientated side.

There is another part to this picture. Originating finance to private real estate debt funds might well become an opportunity in and of itself for organizations with the balance sheet to accommodate such loans.

Indeed, according to Real Estate Capital Europes coverage, to be published next week, loan-on-loan finance carries a lower risk weighting under banking regulation and, therefore, requires lower reserves to be held by originators. It is also understood non-bank organizations are viewing the provision of such funding as an attractive option in a marketplace fast losing options to place lower risk bets.

But until such a lending force materializes at scale, real estate debt strategies will present a divided marketplace for institutions to consider.

PERE understands debt fund managers typically do not advertise whether they borrow to fund their originations. As such, institutional investors keen to stay active in private real estate today via the debt part of the capital stack while the equity part rebases, would be wise to investigate this increasingly important differentiator when determining where to commit capital.