Oaktree targets mid-market real estate firms through latest lending vehicle

The manager has raised €1.2bn for European-focused debt opportunities as volatility persists

The marriage between economic instability and tightening monetary policy is providing impetus for Los Angeles-based Oaktree Capital Management’s latest strategic lending push into Europe.

In April, the manager held a final close on €1.2 billion for its latest European debt fund, Oaktree European Capital Solutions Fund III, having already deployed 36 percent of its committed funds.

Through the fund, Oaktree is aiming to provide capital to performing, non-sponsor, mid-market borrowers in Western Europe. The real estate sector features prominently within its target sectors, alongside corporates and hard asset-backed loans.

Nael Khatoun, managing director and portfolio manager at the investment manager, told Real Estate Capital Europe that although European market dislocation – created by Brexit, the covid-19 pandemic and economic uncertainty – has created an investment case for Europe in recent history, months of interest rate hikes now make it even more compelling.

As a result, Oaktree has already begun sweeping what it believes to be high-calibre, mid-market borrowers – which are increasingly unable to access bank loans – to its books.

“The combination between volatility and high interest rates will likely continue,” he said. “As a result of all these trigger points, we are seeing banks taking longer to make decisions, they are becoming more conservative. Anything that slows decision-making works in our favour because you can then find interesting deals with some well-positioned borrowers.”

‘Not rocket science’

For Oaktree’s target sponsors – family offices, high-net worth individuals and entrepreneurs – loans for up to three years will be available. In return, the manager is aiming to achieve attractive un-levered returns.

Making that happen, is, he said, “not rocket science”. “All we’re doing is focusing on the middle market, where the illiquidity premium is highest.”

Such borrowers, Khatoun explained, pay high premiums for Oaktree’s loans not because their assets are risky but simply because liquidity is increasingly scarce: “Entrepreneurs want loan decisions to be made quickly and they are willing to pay for that. If builders and developers are making mid-20s percent internal rates of return on a development, for instance, that’s a small price to pay to complete the project. After that, they look to get a [lower rate of] finance through the main market.”

Oaktree can efficiently recycle capital, with the average hold period on loans at 18 months. “Short durations like this are a real advantage to us because we can recycle that capital into other deals,” Khatoun said. “When you are looking at development financing, with the type of volatility you’ve seen recently, contingency planning is much more crucial than it was two years ago. The level of guarantees we look for at both a personal and corporate level are also much higher the previously.”

Oaktree is aiming to lend in situations where inflation will have an impact, such as hotels, where price rises can be captured through room rates.

“We try to avoid assets where we believe the consumer would be very sensitive to price increases,” Khatoun said, adding: “This idea is at the heart of our underwriting.

“Over the past four years we’ve underwritten a lot more in the hotel sector than we have done previously, partly because the sector has proved quite resilient, irrespective of cycles, and the forecast for occupancy rates is good. Lending to student housing also appeals because we expect that students will continue to go to university no matter what’s happening in the economy.”