Highlighting our Alternative Income and Growth Funds
This month’s market commentary focuses on the real estate investments managed by Trez Capital (Trez). Trez has been managing assets for WealthCo investors since 2014. We sat down with Dave Makarchuk, Chief Investment Officer for WealthCo, and Sandra Ferenz, Managing Director, Portfolio Manager & Product Strategy with Trez, to discuss their strategies and insights.
Q: Dave, can you describe the mandates Trez manages with WealthCo?
Dave: Trez manages a variety of mandates within the WealthCo Alternative Income Fund and the Alternative Growth Fund. Our holdings within the Alternative Income Fund are primarily commercial and residential mortgage investments, providing regular distributions to unitholders. The holdings within the Alternative Growth Fund are primarily real estate equity investments across the US. Distributions from these holdings are less frequent and typically reflect proceeds from the sale of specific projects.
Q: Dave, why is Trez a good fit for WealthCo and its investors?
Dave: Trez has a solid track record of managing and extracting value from real estate investments, both in short-term mortgage investments and growth investments through joint-venture partnerships with developers. They focus on sectors and regions with growth potential. The ‘floating rate’ nature of most of their mortgage portfolio is particularly attractive during periods of higher interest rates.
Q: Sandra, how would you describe Trez’s overall investment strategy?
Sandra: Trez focuses on growth markets in both Canada and the US Sunbelt, following the migration of people and job creation. Today, Trez manages $5.5 billion, with $5 billion in debt investments and $0.5 billion in equity investments.
We concentrate on residential and industrial asset classes due to favorable long-term undersupply fundamentals. On the residential side, we focus on affordability, preferring rental products as the rising cost of home ownership increases demand for renting. We also develop pre-sold lots for home builders focusing on affordable, entry-level housing.
The same themes of population and job growth and housing undersupply underpin both our debt and equity strategies—on the debt side through short-term mortgages for real estate developers, and on the equity side through partnerships with top-tier developers.
Q: From your perspective, how does Trez differ from other real estate managers?
Sandra: Three aspects differentiate Trez:
1. Boots-on-the-Ground Approach: We have offices and talent across Canada and the US, with 20 originators on the ground. This provides in-depth local insights and allows us to leverage local networks and build long-term relationships—more than 50% of our loans since 2009 have been with repeat borrowers.
2. Strong Risk Management Culture: We have institutional-grade risk processes and rigorous underwriting, overseen by an independent board of governors. Our robust risk management has resulted in historical loan losses totaling only 35 basis points.
3. Customized Financing Solutions: We offer quick approvals on flexible, customized terms. Our 25-year track record allows us to engineer financing solutions that are effective for our borrowers and partners while mitigating risk and providing attractive returns to our investors.
Q: Sandra, what’s driving Canadian real estate markets? How does the US differ?
Sandra: In Canada, strong immigration policy drives population growth in major cities like Toronto, Vancouver, Calgary, Edmonton, and Montreal. In the US, there is significant internal migration as people move from higher-tax to lower-tax, business-friendly states with higher job creation. Texas, for example, saw the largest annual population gain in 2022, with people relocating from other parts of the country.
Q: Interest rates rose significantly on both sides of the border in 2022. How has that impacted your overall business and outlook?
Sandra: The impact is twofold. The majority of our debt portfolio is floating rate, so our yields have consistently increased, benefiting our investors. We have raised distribution rates in our debt funds multiple times in 2022 and again in January 2023.
However, higher rates also pressure asset values and borrowers' ability to refinance. In the latter half of 2022, we saw a cooldown in real estate markets as buyers and sellers disagreed on pricing, and borrowers faced stricter underwriting and higher financing costs. Nonetheless, we believe the fundamentals of internal migration and housing undersupply still create opportunities, particularly in the US Sunbelt.
Q: Assuming we’re closer to the end of this rate-hike cycle, what is your outlook for the funds going forward?
Sandra: If borrowing costs stabilize, we should see higher activity in refinancings and sales. Already in 2023, we’re seeing signs of this happening. For example, US mortgage rates have declined from their peak in November 2022, leading to a jump in new home sales. Increased transactional activity should strengthen repayment and sales across our fund mandates and create more opportunities for new investments.
Q: If rates continue to rise through 2023, will that pose challenges for the funds? Or opportunities?
Sandra: If rates continue to rise, it presents both challenges and opportunities. Short-term challenges include market participants exercising caution, causing delays in loan repayments and new investments. However, our focus on growth markets with strong supply-demand fundamentals positions us well. On the opportunity side, higher rates imply higher yields for our debt funds and potential for opportunistic acquisitions as some prices come under pressure.
Q: What has been the impact of rising rates on the WealthCo portfolios?
Sandra: On the debt side, the funds have benefited from primarily floating rate loans, leading to multiple distribution rate increases. For instance, the Trez Capital Yield Trust increased from an annualized rate of 5.16% at the start of 2022 to 7.20% today. The Trez Capital Yield Trust US increased from 6.48% to 7.80%. We expect further increases in 2023. Our portfolio remains strong, and borrowers continue to refinance and exit our loans.
On the equity side, our build-to-sell equity strategies, known as the Opportunity Funds (TOFs), have seen strong results from robust sales activity despite the rising rate environment. Notable sales include a 10-acre parcel to Andretti Indoor Karting & Games and a 12.5-acre tract to Bass Pro Shops. Additionally, two Class-A garden-style multi-family projects in Austin were sold at a significant premium over the underwritten exit value.
Q: Do you have any closing thoughts to share with WealthCo investors?
Sandra: It's essential to look beyond the headlines and understand that not all real estate asset classes and geographic markets are the same. Selecting a manager with the talent, experience, and track record to invest in the right areas is critical for attaining strong risk-adjusted returns.
About the Author | Dave Makarchuk
This Market Commentary is written by WealthCo Asset Management's Chief Investment Officer, Dave Makarchuk. Dave brings over 20 years of institutional investment experience to the WealthCo team, along with several credentials including CFA, FCIA, and FSA designations. When he’s not enhancing WealthCo’s investment portfolios, you’ll find Coach Dave on the ice, training the next generation of Canadian hockey players.
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