Corporate Diversification and the Cost of Debt
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This paper investigates whether corporate diversification by property type and by geography reduces the costs of debt capital. It employs asset-level information on the portfolios of U.S. REITs to measure diversification and looks at two of their main sources of debt capital: 1,173 commercial mortgages and 952 bank loans. The paper finds that diversification across different property types does indeed dependably reduce the cost of these different types of debt. The effect is about 7 basis points for bank loans if a firm’s property Herfindahl Index is lowered by one standard deviation and this effect gets stronger for REITs with worse financial health – as measured by the interest coverage ratio. The corresponding effect for commercial mortgages is around 22 basis points for collateral diversification by property type. After the crisis, the salience of the collateral asset increases. For diversification across regions, we do not find a consistent relationship between real asset diversification and loan pricing.
KeywordsREIT Diversification Cost of debt
JEL CodesG31 L25 R33
We are grateful to the Real Estate Research Institute (RERI) for financial support and thank David C. Ling, Eva Steiner, Andy Naranjo, the participants of the 2016 Real Estate Finance and Investment Symposium at the University of Cambridge and the 2017 AREUEA Annual Conference for their valuable comments.
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