Qualitas' disciplined approach to real estate private credit continues to deliver for investors

Private credit has been gaining significant traction in recent years, with investors drawn to its attractive returns with typically less volatility than other investments. 

Qualitas, a specialist real estate investment firm, has been at the forefront of this asset class, offering investors access to real estate private credit through its ASX-listed Qualitas Real Estate Income Fund (ASX: QRI). 

In a recent conversation, Mark Power, Head of Income Credit at Qualitas, provided insights into the broader dynamics shaping the private credit landscape and explained how QRI is taking advantage of these to provide an attractive risk-adjusted return to investors.

Established in 2018, the Qualitas Real Estate Income Fund was designed to open up private real estate credit to retail and wholesale investors. Historically, this asset class was primarily accessible to large institutional investors. 

The fund provides exposure to a diversified portfolio of loans extended to commercial borrowers for real estate development and investment purposes. Importantly, QRI is listed on the ASX and forms part of both the ASX300 and the ASX300 A-REIT indices which provides investors with greater liquidity. 

Watch the video for more on the benefits of QRI in the current environment and what's driving the opportunity. 

Edited transcript

Hans Lee: Hello and welcome to Fund in Focus, brought to you by Livewire Markets. I'm Hans Lee, and joining me today is Mark Power, the Head of Income Credit at Qualitas. We're going to be discussing the Qualitas Real Estate Income Fund, which is available on the ASX under the ticker code QRI. Welcome sir, nice to have you with us.

Mark Power: Delighted to be here, Hans.

Hans Lee: So in case, for anybody who doesn't know, tell us a little bit about the Qualitas Real Estate Income Fund and some of the key benefits that you offer.

Mark Power: The Qualitas Real Estate Income Fund was set up back in 2018, and it was set up to essentially what I like to describe as democratising private real estate credit for retail and wholesale investors. Prior to the establishment of the fund, that particular asset class was really the domain of large institutional investors. So what the fund's actually doing is it houses a portfolio of loans to commercial borrowers, essentially for the purpose of real estate development and investment. Importantly, it's listed on the ASX. It's comprised within the ASX300 and ASX300 A-REIT indices. And it was set up really with two key objectives in mind.

The first objective is all about providing regular monthly distributions through to its investors, which I'm pleased to report it has done ever since inception. To give you an idea on the returns that the fund has actually generated, so over last 12 months, the net distribution through to investors has been at 8.69% for the year and once again, those distributions have been payable monthly. The second key objective is around the strong capital preservation characteristics that private real estate credit can actually have.

If you look at QRI in terms of its unit price that the NAV (net asset value), has remained at or above $1.60 the whole way through – so there's been no impairment of capital or impairment of income over that period. Part of the reason why it does have strong characteristics around capital preservation is that you've always got this equity buffer ahead of you because you're investing in the debt stack so you need a very, very significant pullback in asset values before it actually starts impacting upon that debt part of the capital stack because that actually gets first claims on cash flow and first claims on value in a realisation scenario.

Hans Lee: Okay, excellent. So whenever I hear private credit, I always ask this question, there's been this huge rush of flows and interest into private credit over the last couple of years, especially. What has been driving that? And I guess I'm asking this to you as somebody who sits at the coalface, what drives that? And is it all just the rise in interest rates?

Mark Power: It's partly a rise in interest rates, but it's certainly not all that. There are other factors at play. I mean, if you look at it from a very high level it's essentially the returns that are able to be generated in private credit are really attractive, and that's resulted in a very significant amount of capital coming into the space.

And the reason those returns are attractive, I'd say it's twofold. One, it's the whole higher for longer interest rate environment because essentially the fund and what it's designed to do it's providing loans to borrowers and those loans are priced off a margin, a risk margin, over and above the 90-day bank bill swap rate, which is essentially a floating rate.

As rates have remained higher, that's meant that the returns through to investors have been able to be passed through at that high level. But it's not just an interest rate story because those returns are actually the function of a really strong macro structural tailwind essentially in terms of the way real estate is actually funded in this country. If you go back 10 years, and the banks actually dominated this sector, their market share was circa 88% or thereabouts. Now due primarily to regulatory reasons there'd been a seeding market share on a year-by-year basis in a market that's actually growing so their market share is now back to about 72, 73% which has created a real capital gap in the market.

What we do as a private lender we're looking for those opportunities that fall just outside that risk framework that the banks are able to operate in these days. And as soon as you fall out of that, what I describe as a fairly constrained risk framework, the returns that you can get are exponentially greater for just taking on board a marginal increase in overall risk. And the reason for that is that you've actually got a bit of a capital gap in that part of the market once it falls outside the banking market. There's just insufficient liquidity in the sector relative to the amount of demand for that credit, which essentially means attractive returns to investors.

Hans Lee: Okay, understood. So listen, last time you sat down with Livewire you were discussing a lot about migration and this massive tailwind that Australia was experiencing. We saw how that impacted the residential real estate market, less than 1% vacancy rates in many parts of the country among them. Now that this tailwind is coming off, how do you expect housing supply to evolve over the next few years?

Mark Power: Yeah, I think when you say that tailwind is coming off, it's important to understand the magnitude of that – it’s coming off an incredibly high base. If we look at the year to June '23, net overseas migration peaked at 547,000 people. If you look at what it then did in the subsequent year to June '24 it came back to 446,000 – that’s still a massive number. If you compare that to the level of net overseas migration in the 10 years prior to the pandemic that was averaging 217,000. So even in the last year just gone, it's still double the historical average. Whilst it's come off an incredibly strong run rate, it's still running at a very, very solid level, which is continuing to create really strong demand for housing and will continue to do so in the foreseeable future.

Hans Lee: Okay. So that's the feasibility side, but I want to draw a little bit of what you were saying about southeast Queensland particularly a little bit ago. We have seen elevated builder insolvencies in the market. It certainly occupied a few front pages as well. With that particular backdrop in terms of less firms and less people on the ground to actually build the projects, are you doing anything differently to manage the fund and manage those risks?

Mark Power: Firstly, QRI isn't really a construction fund.

Hans Lee: Sure, of course.

Mark Power: We fund on the pre-construction, we fund at the back end on completed product as well and more investment style assets. But having said that, there's certainly been an elevated level of construction risk in the system over the course of the past three years. Within our business, we've always been heavily focused on construction risk, builder risk.

We're hyper focused on that and have been for the past few years to make sure that the builders that are on the projects that we're actually funding, and we don't lend to builders, we lend to the developers, and the relationship is in between the developer and the builder but it's still important, obviously, for the delivery of the project. We've got a hyper focus in terms of our due diligence in making sure that the builder, not just from a historical point of view, but looking forward on their order book and how they're structured and they've got the capability and the experience and the financial strength to actually see the project through. We are doing that on the construction side. More broadly on the income credit side it's pretty much business as usual for us in terms of our whole risk underwriting process and asset management process which is incredibly rigorous. It's placed us in really good stead. It's one of the reasons why notwithstanding there's a bit of noise out there in the market, we're really comfortable with the current health of our book.

We've got no impairments, we've got no arrears. In fact, within QRI we've never had an impairment of capital or an impairment of income across the entire journey from 2018. And if you actually wind back further you go back 16 years to the creation of Qualitas across our credit strategies we haven't had any impairments of capital or income.

Hans Lee: Okay. Well, it's all good to know. It's all important to know this climate too. So just to wrap things up, for investors out there who haven't added private credit to their portfolio, why should they consider the Qualitas Real Estate Income Fund specifically?

Mark Power: Firstly, it's about providing that regular monthly distribution through to investors in a portfolio which is fairly moderately positioned from a risk perspective. I think that's the first point I'd raise. Also, it's really important if investors are thinking about coming into private real estate credit or private credit more broadly, make sure they're investing with a manager with the deep level of experience in the industry. We've been around for 16 years, we specialise purely in real estate. Some other private lenders will do real estate, they'll do corporate lending, they'll be a bit of jack of all trades.

For us, that's not the way we want to go. For us, we specialise purely in real estate. That's what we know and that's where we think we can get the optimal returns for investors relative to the risk that we're being asked to absorb. And that's not to say there isn't any sort of risk in private real estate lending. There is, obviously in terms of the nature of what you're doing, but it's really important that you're with a manager that knows how to properly manage those risks.

And the last point I'd raise is that one of the key benefits of QRI is that it's listed and it's got strong levels of liquidity. If an investor wants to get in and out of their investment they can do that with relative ease as compared to an unlisted closed end fund which hasn't got the same liquidity characteristics associated with it.

Hans Lee: Okay. That's all good stuff to know. Mark Power of Qualitas, thanks very much for joining us.

Mark Power: It's been a pleasure, Hans. Thank you.

Hans Lee: And thank you for joining us. If you enjoyed that interview you can subscribe to the Livewire Market's website as well as our YouTube channel where you can find more funds in focus. Until I see you next, take care, and thank you for watching.

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Qualitas Real Estate Income Fund (QRI)

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