CMFAS M8 REITs & Property Funds question: borrowing MAGNIFY the returns earned by unitholders

CMFAS M8REITs & Property Funds

When property values rise and rents are healthy, why does borrowing MAGNIFY the returns earned by unitholders?

A Because the regulator raises the leverage cap when property values rise
B Because lenders waive all interest on the debt whenever property values rise
C Because distributions become entirely tax-free once gearing goes above the cap
D Because gains accrue on assets partly funded by cheaper debt, lifting the return on equity

Show the answer and explanation

Answer: D. Because gains accrue on assets partly funded by cheaper debt, lifting the return on equity

Leverage lets a REIT hold more property than equity alone would allow; when values and rents rise, the gains accrue on assets partly financed by cheaper debt, magnifying the return to unitholders' equity.

Common mistake

Attributing the magnification to a rule change or waived interest rather than to gains on debt-funded assets.

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CMFAS M8 REITs & Property Funds question: borrowing MAGNIFY the returns earned by unitholders

Answer: D. Because gains accrue on assets partly funded by cheaper debt, lifting the return on equity

Common mistake

Related CMFAS M8 questions

CMFAS M8 REITs & Property Funds question: borrowing MAGNIFY the returns earned by unitholders

Answer: D. Because gains accrue on assets partly funded by cheaper debt, lifting the return on equity

Common mistake

Related CMFAS M8 questions