Fund leverage does not average by NAV: the most geared interests carry most of the debt, and the portfolio's exposure to property values follows the debt.
Look-through LTV is your share of every fund's debt divided by your share of every fund's gross asset value, summed across the portfolio. Gross each interest up from NAV with its fund LTV, add up the debt and the assets, then divide. On an illustrative 75.0m portfolio of four property fund interests it is 43.85 per cent, not the 40.0 per cent a NAV-weighted average of fund LTVs reports, and the difference shows up as a portfolio NAV that falls 17.81 per cent, not 16.67, when property values drop 10 per cent.
Worked in full in The Real Estate Secondaries Investor by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
A portfolio of real estate fund interests is a geared position in buildings, held through several layers of debt at different levels. Each fund reports its own LTV, and the seller's teaser usually averages them. But leverage does not average by NAV: a highly geared fund carries far more property and far more debt per euro of NAV than a lightly geared one. The buyer's exposure to a fall in property values, and to refinancing at the fund level, depends on the debt it actually controls through the interests, which only the look-through figure measures.
| Interest | NAV of interest | Fund LTV |
|---|---|---|
| Fund 1, core | 30.0 | 25% |
| Fund 2, value-add | 20.0 | 50% |
| Fund 3, opportunistic | 10.0 | 65% |
| Fund 4, logistics | 15.0 | 40% |
| Total | 75.0 |
NAV is taken as gross asset value less debt, with other balance sheet items set aside for clarity; in practice you would rebuild each fund from GAV to NAV first. All figures are fictional.
1. Gross up each interest: share of GAV = NAV / (1 − LTV). Fund 3: 10.0 / (1 − 65%) = 28.57.
2. Share of debt = share of GAV × LTV. Fund 3: 28.57 × 65% = 18.57.
3. Sum: GAV 133.57, debt 58.57, NAV 75.0.
4. Look-through LTV = 58.57 / 133.57 = 43.85 per cent.
In Excel, with NAV in B and LTV in C: =SUMPRODUCT(B2:B5,C2:C5/(1-C2:C5))/SUMPRODUCT(B2:B5,1/(1-C2:C5)).
| Interest | Share of GAV | Share of debt | Gearing, GAV/NAV | % of NAV | % of debt |
|---|---|---|---|---|---|
| Fund 1, core | 40.00 | 10.00 | 1.33x | 40.0% | 17.1% |
| Fund 2, value-add | 40.00 | 20.00 | 2.00x | 26.7% | 34.1% |
| Fund 3, opportunistic | 28.57 | 18.57 | 2.86x | 13.3% | 31.7% |
| Fund 4, logistics | 25.00 | 10.00 | 1.67x | 20.0% | 17.1% |
| Portfolio | 133.57 | 58.57 | 1.781x | 100% | 100% |
Fund 3 is 13.3 per cent of what you are buying but 31.7 per cent of the debt you are standing behind. The simple average of the four LTVs is 45.0 per cent and the NAV-weighted average 40.0; only weighting by GAV, which is what the look-through does, gives the right answer.
The portfolio's gearing is 133.57 / 75.0 = 1.781x, so each 1 per cent fall in property values takes 1.781 per cent off portfolio NAV. A NAV-weighted LTV of 40.0 per cent implies 1 / (1 − 40%) = 1.67x and understates the hit.
| GAV fall | Fund 1 | Fund 2 | Fund 3 | Fund 4 | Portfolio | NAV-weighted LTV predicts |
|---|---|---|---|---|---|---|
| 5% | −6.7% | −10.0% | −14.3% | −8.3% | −8.90% | −8.33% |
| 10% | −13.3% | −20.0% | −28.6% | −16.7% | −17.81% | −16.67% |
| 20% | −26.7% | −40.0% | −57.1% | −33.3% | −35.62% | −33.33% |
At a 20 per cent fall the portfolio NAV drops from 75.0 to 48.29. Fund 3 loses more than half its value and is wiped out entirely at a 35 per cent fall, where its lenders take the rest. The equity is not lost evenly: it is lost first where the gearing is highest.
Bid 85 per cent of NAV, 63.75, and you are buying 58.57 of debt-financed property for 63.75 of equity. The implied GAV is 122.32, 8.42 per cent below the reported 133.57, and the LTV on your purchase price is 47.88 per cent. The 15 per cent discount to NAV is only an 8.42 per cent discount to the buildings: the rest is the gearing, which is why a secondary discount absorbs less cap rate expansion than it looks.
The portfolio bid, with each line priced on its own adjusted value, is in the free workbook for this case. For the step from gross assets to NAV inside each fund, see how to get from GAV to NAV in a real estate fund.
Because a highly geared fund controls more property and more debt per euro of NAV, and NAV weighting gives it too little weight. In the illustration the opportunistic fund is 13.3 per cent of NAV but 31.7 per cent of the debt. The NAV-weighted average is 40.0 per cent; the look-through LTV, which weights by gross assets, is 43.85.
By the property fall times the portfolio's gearing, gross assets over NAV. With 133.57m of look-through assets behind 75.0m of NAV, gearing is 1.781x, so a 10 per cent fall in values takes 17.81 per cent off NAV and a 20 per cent fall takes 35.62 per cent, with the most geared fund losing 57.1 per cent.
Look-through debt divided by the price plus that debt. Buying the illustrative portfolio at 85 per cent of NAV, 63.75m, alongside 58.57m of debt gives an implied gross value of 122.32m and an LTV of 47.88 per cent on the price. The 15 per cent NAV discount is only 8.42 per cent off the buildings.
This article is one calculation from The Real Estate Secondaries Investor. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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