An 8.9 percent weighted coupon and an 11 percent net target rarely line up without more disclosure

Question

Take a debt fund marketing a 10 to 11 percent net target with a book of 61 loans, weighted average coupon 8.9 percent, weighted average LTV 64 percent, all described as first mortgage. Run the arithmetic straight through: 8.9 percent minus a 1.25 percent management fee on NAV minus fund expenses lands around 7.3 percent before any incentive fee and before a single loss is realized. That leaves roughly a 300 basis point gap against an 11 percent net target. That gap generally means one of two things: the coupon disclosure in the marketing materials is incomplete, perhaps excluding fees, points, or yield maintenance that push the effective yield higher, or the fund is using leverage at the fund level that is not disclosed on the summary page. Confirming which one it is means going past the marketing deck into the offering documents, specifically the section on fund-level borrowing facilities and any language describing all-in yield versus stated coupon, and cross-checking the historical distribution history against the stated coupon to see whether the numbers have ever actually reconciled.

Rena Expert · Accepted Answer

Almost all of that gap is fund-level leverage, and the rest is fee income the coupon line doesn't capture. Look for a credit facility, a repurchase facility, or note-on-note financing in the liabilities section of the audited financials and in the borrowing limits in the investment guidelines. Typical structure is a bank or investment bank advancing 50% to 65% against the fund's loan portfolio at a floating spread over SOFR.

Rough model on your numbers. Say the fund runs 1.5 turns of assets to equity, so $100 of equity carries $150 of loans yielding 8.9%, that's $13.35 of income. The $50 borrowed at, say, 6.5% costs $3.25. Net $10.10 on $100 of equity, or 10.1% before fees. Add origination points and exit fees, which on a book with an 18-month average life can add 75 to 150 basis points of realized yield that never shows up in a coupon figure, and you're comfortably at their target before fees, and near it after. So the disclosure isn't necessarily wrong, it's just incomplete for your purpose.

The number you actually need is the advance rate and the mark-to-market provisions on that facility. A repo line with mark-to-market and a lender-side valuation right can margin call the fund in a soft quarter, forcing loan sales into a bad bid. Advance rates also reset at renewal. At those 1.5 turns, a 5% loss on the $150 loan book is $7.50 against $100 of equity, a 7.5% hit to LP equity, and the incentive fee gets computed on the way up either way.

Ask whether the origination points are retained by the fund or by the manager as a separate origination entity. That answer changes the alignment materially, and it belongs in writing.

nataliehsu · Answer

The origination entity point is the one I'd never have thought to ask. So the manager can earn 2 points on writing the loan, and then earn a fee again on managing it, and the LP sees only the coupon? Is that disclosed anywhere standard or do you have to go hunting in the related party note?

An 8.9 percent weighted coupon and an 11 percent net target rarely line up without more disclosure

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