Abstract: We develop a new approach to understand the joint dynamics of transaction prices and trading volume in the market for commercial real estate. We start from a micro-founded model in which buyers and sellers differ in their private valuation of building characteristics, such as size, location, and quality. Consistent with the decentralized nature of the commercial real estate market, we model the probability that a seller meets a particular buyer, where the meeting probability depends on the characteristics of the buyer, the seller, and the building. In equilibrium, the mapping from building characteristics to observed transaction prices depends on the identity of the buyer and the seller, an important property missed by traditional hedonic valuation models. We estimate the model using granular data on commercial real estate transactions, which contain detailed information on the identity of buyers and sellers. Our central finding is that the identity of buyers and sellers has a first-order effect on both property valuation and the likelihood of trade. The importance of investor characteristics for valuations remains true, in fact is amplified, in a rich machine learning model that allows for non-linearities and interactions. We show how the model can be used for out-of-sample predictability and for counterfactual analyses on investment flows and prices. As a concrete example, we find that the Manhattan office market would have seen 7% lower valuations if it had not been for a large inflow of foreign buyers in 2013–2021. Our methodology extends to other private markets, including private equity, private credit, and infrastructure.
Discussant: Christophe Spaenjers, University of Colorado-Boulder
Abstract: We show that business development companies (BDCs), a significant source of private credit, are very well capitalized according to bank capital frameworks. These types of private credit funds have median risk-based capital ratios of about 36%, which is 26 percentage points more than the Federal Reserve’s stress testing framework would require. Our evidence thus cuts against the view that private credit has grown because nonbank financial intermediaries have less capital than banks.
Instead, we argue that, for plausible parameters, banks find lending to private credit funds more attractive than direct middle-market lending. This is, in part, because over-collateralized loans to private credit funds get favorable capital treatment, enabling banks to exploit their low-cost funding.
We also present a model explaining banks’ observed preference for making middle-market loans via affiliated private credit funds rather than on the bank’s balance sheet. For plausible parameters, banks choose to forgo less expensive balance sheet funding to avoid the extra regulatory and supervisory costs of managing a risky loan portfolio on the bank’s balance sheet.
Finally, we examine the financial stability risks of private credit. While there is little risk to the solvency of private credit funds, they may deleverage during periods of stress. Our baseline estimates suggest that over eight quarters, the median BDC would reduce outstanding loan balances by 9.5%, about half by selling assets and half by using free cash flows to pay down debt rather than to make new loans.
Christophe Spaenjers, University of Colorado-Boulder
Eva Steiner, Pennsylvania State University
Abstract: We study asset-level investments by non-profit and for-profit investors in the U.S. housing market. Non-profit investors favor affordable, lower-quality properties located in less affluent neighborhoods, consistent with a social impact orientation. These investors exhibit lower investment performance by traditional metrics. First, rental income grows more slowly after a non-profit acquisition, even for conventional properties. Second, non-profits realize lower capital gains upon resale, implying that impact-driven investors leave money on the table in the transactions they bargain over. Their under-performance is concentrated in organizations with weaker governance, suggesting that these non-profits are not the most efficient stewards of impact investment capital.
Discussant: Adair Morse, University of California-Berkeley
