Wall Street has continued to rally following Donald Trump’s electoral victory, but the truth is that much of his economic plan is largely unknown at this point. In fact, the hope that the recent ‘profits recession’ may be coming to an end could be misplaced. We probably won’t know how profits will rebound until early next year as more information on the President-Elect’s economic plan and the Federal Reserve’s actions will become apparent to investors. All of this points to a clouded picture of the future. But as an investor, you can’t just sit on the sidelines – there is always uncertainty. Instead, you need to push the envelope and looking for the next frontier in the search for alpha. One such area is alternative lenders, these even include lenders who specialize in reverse mortgages.
One of the challenges of investing in public equities is that the market is stacked against individual investors. Even if you have a small fund and a few analysts to back you up, you are still trying to find the next big idea before anyone else. Then you need to be able to execute your trade in a world where nanoseconds can make or break a trade. Latency is a killer, so anyone who is targeting public equities needs to be able to account for this.
Then there are commodities. While there has been some light at the end of the oil slump, the market has been largely range-bound since its rally after bottoming out in the high-20’s earlier this year. OPEC has been almost powerless to move global oil prices and the likelihood of renewed interest in non-OPEC producers could deflate oil prices even more. Even though Bloomberg called an end to the commodities slump in June, prices have yet to move towards a bull market and some analysts have opined that we may continue to be range bound for some time to come.
Given that easy investments are drying up and many have decided that they need to increase their risk tolerance if they hope to see better than average returns. While this approach is generally true, it does not come without pitfalls – after all, we are talking about increasing risk.
However, there is another option and it is an asset class which is delivering solid growth at minimal risk. Even better, it is less cyclical than commodities and is not focused on an unknown emerging market half way around the world. This asset class is alternative finance, including reverse mortgages, and it is the fastest growing lending segment in the U.S.
According to https://reverse.mortgage, “In the next few years, many homeowners who have taken out a Home Equity Line of Credit (HELOC) will encounter a potential reset, which means their monthly payments could soar. One option that some homeowners could benefit from is switching to a reverse mortgage, or more specifically, a Home Equity Conversion Mortgage Line of Credit (HECM LOC) instead.
A potential HELOC reset is a real concern for many Americans. Of more than 800 homeowners who were surveyed between Aug. 29 and Sept. 5, 2016 by TD Bank, 43% will be affected by a reset in the coming years, according to the bank’s HELOC Reset Measure. Even more shocking is that 19% of those homeowners didn’t understand that a HELOC reset will increase their monthly payments. And 34% actually think that their monthly payment will be reduced with a reset.”
Not only does this mean that the loans are protected against loss, but it also means that the underwriting processes must conform to strict guidelines. This is the exact opposite what happened during the home mortgage runup 10-years-ago.”
Looking at the broader alternative finance segment, many analysts expect that it will grow to more than 20% of the all lending in the U.S. by 2020. This will disrupt the market, and it would appear there is little which commercial banks can do as they are not geared up to lend to customers in these segments.
This growth has started even to catch the attention of investors. Leading global law firm, White & Case, recently noted ‘investors take confidence from low default rates, and high yield and leveraged loan defaults are well below historic averages.’
How can a savvy investor take advantage of this opportunity? One way is to look some of the larger players in the space. But a more exciting opportunity is to co-invest in the funds which make these loans. For example, the boutique investment bank FBR Capital Markets recently helped to put together a $230 million private offering for a reverse mortgage fund. Another option is to look into REIT (Real Estate Investment Trust) who specialize in alternative lending.
Either way, the opportunities abound and this sector is a good way to diversify your portfolio without taking too much risk.
