Category: personal_noteS

While the market is volatile and uncertainty is ahead, I went back to read Buffet’s 2019 annual shareholder letter, issued in February 2020.

[More letter could be found here]

Some ket takeaways:

• Berkshire’s earnings has 3 components (operating earnings, realized capital gains, unrealized capital gains) and indeed becomes more volatile under the new accounting rule
• The 3 criteria for purchases/investments:
  1. First, they must earn good returns on the net tangible capital required in their operation.
  2. Second, they must be run by able and honest managers.
  3. Finally, they must be available at a sensible price.
• Per the accounting rules, earnings from controlled companies fully flow into “operating earnings”; but for noncontrolled companies, only the dividend portion of their earnings is reflected in Berkshire’s operating earnings.
• There is a large part of companies’ value that is embedded in their retained earnings
  • some may argue the changes in stock prices (thus the unrealized gains) capture it; but it’s a poor reflection I think.
  • “Overall, the retained earnings of our investees are certain to be of major importance in the growth of Berkshire’s value.”
• “What we see in our holdings, rather, is an assembly of companies that we partly own and that, on a weighted basis, are earning more than 20% on the net tangible equity capital required to run their businesses. These companies, also, earn their profits without employing excessive levels of debt.”
• “In all, I estimate that it will take 12 to 15 years for the entirety of the Berkshire shares I hold at my death to move into the market.”
• “It would be an interesting exercise for a company to hire two “expert” acquisition advisors, one pro and one con, to deliver his or her views on a proposed deal to the board – with the winning advisor to receive, say, ten times a token sum paid to the loser. Don’t hold your breath awaiting this reform: The current system, whatever its shortcomings for shareholders, works magnificently for CEOs and the many advisors and other professionals who feast on deals. A venerable caution will forever be true when advice from Wall Street is contemplated: Don’t ask the barber whether you need a haircut.”
• Board independence is unlikely to be real for many companies.
• Berkshire is going to repurchase shares when price-to-value discount is meaningful and Berkshire is left with ample cash; but, value is somewhat subjective.

Live stream for the annual meeting on May 2nd: https://finance.yahoo.com/brklivestream

Two of Mr. Barrack’s recent posts:

March 22 – Preventing Covid-19 From Infecting the Commercial Mortgage Market

March 28 – Unpacking the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) to Support Small and Medium Sized Real Estate Tenants and Owners

• Depressed revenues will increasingly depress, and when combined with hiccups in the credit markets, borrowing costs will continue to skyrocket, further compounding the inability of businesses to support jobs.
• Without jobs, Americans will be unable to make payments on their mortgages, rent, credit cards, and automobiles; to acquire goods and services; and, to spend money at restaurants and coffee shops and in support of the gig economy
• … loan repayment demands are likely to escalate on a systemic level, triggering a domino effect of borrower defaults that will swiftly and severely impact the broad range of stakeholders in the entire real estate market, including property and home owners, landlords, developers, hotel operators and their respective tenants and employees.
• At a moment when liquidity is essential to avert public panic and to facilitate investments that respond to rapidly-changing and unprecedented economic conditions, the real estate financing market is in danger of inciting a liquidity freeze.
• In particular, the banks, mortgage REITs and debt funds must agree on a collaborative solution — implemented with the reinforcement and support of federal government policy — to ensure stability moving forward.
• Among other measures that may be taken, a key element will be averting rushed and widespread margin calls and other “mark-to-market” measures for a period of time under the real estate whole loan and commercial mortgage-backed securities (CMBS) repurchase agreements that lenders rely on to provide liquidity in the market.
• In recent years, publicly-traded mortgage REITs and debt funds have taken on an increasing role in providing commercial real estate financing. This increase is due in part to federal regulatory measures taken in response to the 2008 financial crisis, as financial regulations taken at that time were designed to reduce exposure of banks to certain categories of commercial mortgages, such as construction or bridge loans, by making these loans more expensive from a capital perspective and imposing more stringent and burdensome underwriting standards.
• Repurchase financing arrangements, through which banks purchase a portfolio of commercial mortgage loans from mortgage REITs or debt funds who agree to buy back the loans at a future date, have enabled banks to provide liquidity for commercial real estate borrowers while complying with the new regulations. Repurchase facilities also offer banks protection through the cross-collateralization of a diverse loan pool that spans multiple asset classes, mitigating exposure in the event of a downturn in a particular segment of the commercial real estate market.
• Central to the fundamental credit structure of repurchase arrangements is each bank’s ability to “mark-to-market” the loans or CMBS the bank is financing and require the mortgage REIT or debt fund to satisfy any resulting “margin call” by partially paying down the advances on the affected loans
• it is imperative that real estate lenders are not forced by their financing sources to meet their borrowers with rigidity during this time of heightened need. Under most repurchase arrangements, bank consent is required for mortgage REITs and debt funds to grant material waivers, concessions and modifications requested by their borrowers in order to adapt to the changing economic landscape, ultimately enabling a return to pre-pandemic operations.
• From January 2008 to January 2009, hotel occupancy dropped to less than 60%. Currently, in the dawning hours of the COVID-19 crisis, hotel occupancy rates are approaching 0% and are likely to remain at those levels for the foreseeable future. Even assuming an optimistic estimate of 25% hotel room occupancy in the coming months, job losses are projected to total between 2.8 and 3.5 million — a roughly eight-fold increase compared to the 2008 financial crisis.
• If unchecked, margin calls will take hold of the repurchase financing market and the liquidity constraints of lenders will force borrowers and their tenants to divert scarce capital resources towards loan and rent payments — a particularly grave concern in a pandemic context when capital must be allocated towards ensuring that businesses stay solvent and that health-related needs are met.
• Faced with an unimaginable economic catastrophe, the White House, Congress, Federal Reserve, FDIC and supporting regulatory institutions can work to mitigate this crisis by bringing the banks, public REITs and private debt funds together to reach a solution that provides the liquidity necessary to sustain the commercial real estate market and broader economy.

• the first week of April will be America’s first payment cycle since the implementation of our ambitious Health response and the first time the vast majority of interest, rental, and other payment obligations will be unmet by Americans and American businesses alike.
• The Federal Reserve has many roles in the economy, but none of them is to take on credit risk.
• Here’s how: The Federal Reserve will insist that Treasury contribute money from its new pot of $454 billion to a joint Fed-Treasury lending fund. The Treasury’s contribution you can think of as “equity” — that is, Treasury will stand in a “first loss” position on every loan made to corporate America. The Fed will contribute the “leverage” — the money that will help make loans but which is never put at actual risk. The loan fund will then make loans to businesses.
• The overall size of the Fed-Treasury loan fund depends on how much risk-averse Fed money will be supplied for every dollar Treasury contributes.
• Liquidity is how easily a business can convert a thing of value into cash. A liquidity problem is when that conversion process encounters friction.
• This non-bank capital is critical to the support of consumer lending (installment, credit card, student, and auto loans), business lending, and real estate financing (i.e., commercial real estate (CRE) not guaranteed by Fannie and Freddie).
• The lender either directly or indirectly bundles, or securitizes, the book of loans and sells different slices of the overall revenue stream from the bundled loans. These slices are called ABS — asset- backed securities — because they are securities that are backed by assets (which are the loan revenue streams).
• Investors in these ABS are insurance companies, banks, asset managers, pension funds, and other large institutional investors. Their investments — especially investments by regulated entities like insurance companies — are in the investment grade tranches of these ABS (BBB and higher).
• How do investors in ABS get the money to buy the ABS? Often by entering into liquidity transactions called repurchase agreements (or “repos”) with banks, who advance the cash to the investors and hold the ABS as collateral. The investor promises to repay the repo loan upon maturity (technically this is a sale-and-repurchase but it is viewed as a loan), which is usually short term (but is often rolled over into a new repo loan).
• Imagine what happens to the value of ABS collateral (including commercial mortgage-backed securities, or CMBS) when: (i) students stop paying back loans; (ii) consumers stop paying down credit card or installment debt; (iii) mall tenants stop paying rent; (iv) nobody is paying to stay in hotels; etc. Two things happen: one, the ABS loses actual value (but on a big scale, not much value as it is only one month of payment missed); but two, and much bigger, nobody wants to buy those securities when the underlying contracts are not performing.
• The market asks “who knows how long people will continue to not pay?” Values plummet, not because the underlying assets are not healthy (they are) but because there is a complete loss of confidence in these securities by the market.
• Plummeting ABS values means plummeting repo collateral values, which means margin calls and repo foreclosures.
• What is desperately needed is two actions: (i) for the Fed to step in and create a market for investment grade ABS and CMBS at pre-COVID advance rates to restore confidence and pricing in the market; and (ii) a margin call holiday or forbearance period (described below).
• America needs the immediate cooperation and support from our banking sector from JP Morgan to Wells Fargo, who need corresponding regulatory relief, in order to successfully combat COVID-19.
• In order for lenders to grant American businesses a “time-out” by forbearing rent payments, they need to be able to get forbearances from their lenders, the banks and other forms of credit such as commercial mortgage backed securities. Furthermore, these banks need to grant real estate lenders in the non-bank sector a “mortarium” on repo margin calls.

Park Hotels & Resorts (PK)

• • March 9 – Withdraws 2020 Outlook
  • March 16 – Business Update
    • Withdraw guidance
    • Suspend and scale down operations
    • Draw $350 million from revolving credit facility
    • Pay one consistent dividend ($0.45/share), suspend all other dividends until year-end
    • Cancel / defer $130 million of $200 million CapEx
  • March 26 – Additional Update
    • Draw $650 million revolving credit facility
    • Alternative sources of revenue from applicable government authorities and hospitals such as providing temporary lodging for first responders, other medical personnel, military personnel, displaced guests and residents of communities where Park’s hotels are located
  • 2019 Q4 Presentation

Starwood Property Trust (STWD)

• • March 13 – Update
    • withdrawn its full year 2020 outlook
  • March 20 – Actions to Mitigate Impact of COVID-19
    • Currently all of Apple Hospitality’s hotels remain open and operational; implemented cost elimination and efficiency initiatives at each of the Company’s hotels by reducing labor costs and tempering certain services and amenities.
    • Postpone all non-essential capital improvement projects planned for 2020; a reduction of approximately $50 million in capital improvements
    • Suspend monthly distributions
    • Has recently drawn on its credit facility and currently has approximately $300 million of cash on hand. Current availability on the Company’s revolving credit facility is $145 million. The Company has no scheduled debt maturities for the remainder of the year and approximately $34 million in scheduled maturities in 2021.
    • Executive pay cut
  • 2020 Feb Presentation

Apollo Commercial Real Estate Finance (ARI)

• • March 25 – Open letter to stockholders & Investor Presentation
    • Pay one consistent dividend ($0.4/share)
    • ARI has secured borrowing facilities with six counter-parties with remaining terms ranging from six months to over three years, assuming the exercise of our extension options
    • ARI holds only two positions in commercial real estate securities totaling $68 million, neither of which are financed
  • 2019 Q4 Presentation

TPG Real Estate Finance Trust (TRTX)

• • March 18 – Declare Cash Dividend and Company Update
    • Consistent dividend ($0.43/share)
    • More than half of liabilities are comprised of term financings, including CLO’s
    • Less exposure to hotel (13%) and retail (0.6%), less than the 22% average of mREIT peers
  • March 23 – Update
    • Postpone previously announced Q1 dividend for one quarter, payable on July 14, 2020 to stockholders of record as of June 15, 2020
    • CRE debt securities portfolio – as of March 22, 2020, has an aggregate face amount of approximately $960 million, pledged as collateral under daily mark-to-market secured revolving repurchase facilities in the amount of approximately $760 million. Fluctuations in the value of CRE debt securities portfolio, including as a result of changes in credit spreads, have resulted in the Company being required to post cash collateral with its lenders under such facilities
    • If the requirements to post additional cash collateral continue to be material, there is no certainty that the Company will be in a position to continue to fund such payments.
  • 2019 Q4 Presentation

KKR Real Estate Finance Trust (KREF)

• • March 16 – Declare Cash Dividend
    • Consistent dividend ($0.43/share)
  • 2019 Q4 Presentation