European debt valuation FAQs

Why mark debt to market? Why fair value?

Regulatory and reporting requirements drive a need for valuation for most institutional investors who need to report fair value. Revaluing debt is a component of the fair value calculations. Fair value also facilitates confidence and trust in the capital markets. Two key principles that enable this are: fair value needs to be aligned and supported with market participant behavior and fair value needs to reflect appropriate and supported volatility.

Does marking these loans to market rather than just reporting an amortized cost offer a benefit to investors?

Marking debt to par (amortized cost) implies all debt impacts equity returns the same way, regardless of contractual interest rates. Marking debt to market benefits investors by clarifying the attributable impact of above/below market interest payments on performance returns.

Do market moves affect buy and hold investors?

Even if you are holding debt to maturity, it is important to quantify the difference between contract and market debt service. Margins might drastically change, as we saw during the COVID-19 pandemic, and this will have an impact on your overall income returns.

How do you evidence “market participant” behavior for benchmarking market rates given that loan pricing is typically private information?

Chatham is regularly engaging with the debt and capital markets teams from our clients (global real estate investors). This gives us insight into current market participant behavior. Our valuations team hosts quarterly calls where we present refreshed market information. Chatham also has access to more than 18,000 loans in our internal database. We see many new originations every month through our advisory business and have access to the supporting facility documents for these real estate transactions.

Has Chatham’s approach led to questions from auditors? How does this methodology address auditor’s questions and concerns?

We encourage active dialogue with auditors regarding methodology, market support, and questions that may arise during the audit process. These discussions start with alignment to the relevant accounting standards such as IFRS and the different NAV calculations. We also proactively work with our clients to answer any audit related queries. Additionally, we provide dynamic tools, such as a live model, where auditors can see the calculations used to arrive at our conclusions.

Do you approach valuation of fixed-rate debt the same way as floating-rate debt which is then fixed with a swap?

Practice differs when it comes to valuing swapped floating-rate debt. INREV and EPRA only require that fixed-rate debt be marked to market. However, it is important to consider how fixed-rate debt is defined (e.g., a strong argument can be made that a swapped floater is effectively fixed-rate debt). There needs to be more consistency around valuations for floating-rate debt that is swapped to avoid having inconsistent NAV calculations.

How do you measure the creditworthiness of the tenant occupying the underlying collateral? What specific measures do you consider and what do you generally consider to be the threshold for each measure? If there is a guarantor, do you also take that into consideration?

The credit profile of tenants or the borrower is part of the risk profile that was underwritten during the loan origination process. Similarly, guarantees and recourse provisions are considered in the original pricing of the loan. By anchoring to the origination rate, we are accepting the risk that the lender analyzed as a part of the deal at origination. Subsequent to origination, deriving an appropriate discount rate becomes an exercise in understanding how the capital markets and how the risk profile of the investment has changed since origination.

How do lenders and borrowers work with valuers to ensure the valuations of properties that are the subject of ESG loans are as accurate as can be?

We focus on the risk profile of the investment, so we assume ESG components were incorporated when the loan was originated. Only if the risk profile changes, or the ESG criteria is not met during the life of the loan, will the loan valuation differ.

As more regulatory and reporting entities such as INREV, EPRA, IFRS, and AIFMD require funds to fair value their debt, the need for a debt valuation approach that is reflective of market conditions rises.