Almost all economists we track are suggesting Australia and the world will see the most significant economic slowdown since the Great Depression of the 1930s. In contrast, almost all capital markets are now seeing buyers choose to look through this slowdown as they believe the slowing trend of COVID19, the US$7trn of committed central bank asset purchases and $6trn of announced fiscal stimulus justify rebounding asset prices. In particular, the S&P500 in the US has recaptured levels seen only last October. Non-listed real estate, which underpins our loans, is largely just not trading and has not seen the aggressive dip nor subsequent bounce in values. Market dislocation has all happened so quickly that participants are trying to determine market clearing price levels. This sentiment is true of many of our potential borrowers; only those who need immediate liquidity are accepting the higher rates we are now asking and we are working to close several loans. The remaining potential borrowers are delaying their decision – hoping for better sentiment to re-emerge or until they simply have no choice but to get on with business.
Our view is that it simply makes no sense for listed or private assets to trade at similar prices to where they were in recent times, as earnings and balance sheets needed to support these values will be lower. All of the stimulus and government support is necessary to avert a major economic crisis but we simply cannot wish away the dramatic damage that a sustained period of lower economic activity, profitability and employment will inflict on balance sheets of governments, companies and consumers. As a result, we think senior debt will be well protected but equity in general now offers no upside.
With this backdrop our current intention is to:
- Continue lending against assets at conservative LVRs, as we feel the stimulus has averted 30-40% declines in real estate prices but there is not upside to values
- Maintain higher interest rates to take advantage of the limited competition in private markets
- Use the bounce in markets to increase our hedge book which will protect against an economic crash, accepting it may have a short term negative impact on Fund performance
- Maintain very healthy cash balances to work our way through any potential delayed or defaulting repayments
- Maintain a preference for financing existing buildings/assets versus construction loans
The Merricks Capital Partners Fund continues to perform as expected and our investment strategy remains unchanged.
Enquiry rates from new borrowers remains strong and we are working our way through a number of new opportunities, albeit cautiously in this market. No new loans have yet been written this month. We are still maintaining our cash balance of 15%-20% across the Fund and expect some negative impact on our April performance as the value of our portfolio insurance declines with more buoyant markets.