KKR Real Estate Finance Trust Inc. Q2 FY2024 Earnings Call

Good morning, and welcome to the KKR Real Estate Finance Trust Incorporated Second Quarter 2024 Financial Results Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Jack Switala. Please go ahead.

Great. Thanks, operator, and welcome to the KKR Real Estate Finance Trust earnings call for the second quarter of 2024. As the operator mentioned, this is Jack Switala. Today, I'm joined on the call by our CEO, Matt Salem; our President and COO, Patrick Mattson; and our CFO, Kendra Decious. I'd like to remind everyone that we will refer to certain non-GAAP financial measures on the call, which are reconciled to GAAP figures in our earnings release and in the supplementary presentation, both of which are available on the Investor Relations portion of our website. This call will also contain certain forward-looking statements, which do not guarantee future events or performance. Please refer to our most recently filed 10-Q for cautionary factors related to these statements. Before I turn the call over to Matt, I'll provide a brief recap of our results. For the second quarter of 2024, we reported GAAP net income of $20.2 million or $0.29 per share. Distributable earnings this quarter were negative $108.7 million or negative $1.57 per share, including realized losses of $136 million or $1.97 per share. Distributable earnings prior to realized losses were $0.40 per share relative to our Q2 $0.25 per share dividend. Book value per share as of June 30, 2024, was $15.24, representing an increase of $0.06 quarter-over-quarter. Our CECL allowance decreased to $1.65 per share from $3.54 per share last quarter, primarily driven by realized losses. With that, I'd now like to turn the call over to Matt.

Thank you, Jack. Good morning, everyone, and thank you for joining us today. Before turning to KREF's second quarter results, I'd like to begin with a brief market update. In mid-July, US core CPI came in at the lowest level since 2021, signaling that inflation is subsiding. Fixed income and equity markets reacted positively. Within commercial real estate, values for most property types appear to have bottomed out at these lower levels. Transaction volume is slowly increasing, and investor demand is present, albeit largely for more value-add and opportunistic equity with most core pools of capital dormant. While rental increases have largely subsided, lower new construction starts may lead to supply-demand imbalances over the next few years. On the lending side, new originations benefit from lower LTVs, more cash flow per unit of debt, and a basis well-below replacement costs. Given these factors, our expectation is that this vintage of real estate lending will be a very strong credit. We continue to think that the market opportunity, while attractive today, will accelerate as transaction volumes normalize and bank activity remains muted. Banks historically represented 40% of the market, and we expect their participation to come down materially. Our best guess is that the bulk of the opportunity will occur over the next 18 to 24 months. This dynamic will present KREF with an opportunity to step in as we look to turn to offense and resume lending over the next few quarters. Notably, US banks are demonstrating a shift of preference from direct mortgage origination to originating loan on loan facilities. So senior financing for our investments is readily available as we return to the market. As a reminder, KREF sits within KKR's broader real estate business that manages over $70 billion of capital across both debt and equity globally. Within real estate credit, we have a number of different pockets of capital across our first mortgage origination and securities investing as well as our K-Star Asset management and special servicing platform. Our team of over 100 individuals is actively investing from our bank and insurance SMAs and private debt funds, which allows us to stay active in the market and service our strong client relationships. Our own real estate credit pipeline is robust, totaling over $20 billion, which is up over 40% compared to last year's weekly average. And we are converting the pipeline into investment activity. In the second quarter alone, we invested over $4.7 billion across our real estate credit complex. Now, turning to our second quarter results. KREF's distributable earnings prior to realized losses of $0.40 comfortably covered our $0.25 per share dividend. As we stated earlier this year, we set our dividend at a level which we believe we can cover with distributable earnings prior to realized losses with our performing loan portfolio under a number of different scenarios. In the near term, we expect DEX losses to continue to be significantly higher than our dividend. This was an important quarter for us as we completed the transition of two watch-list loans to REO. And while we realized losses, we were appropriately reserved. We have led with transparency, and KREF has remained disciplined in adjusting CECL reserves. Importantly, we did not have any negative watch-list migration this quarter. Book value per share grew by $0.06 quarter-over-quarter to $15.24 at the end of the second quarter. This quarter, we received $384 million in loan repayments, with full repayments across four loans, including hospitality, industrial, and multifamily property types, one of which was previously a four-rated loan. We funded $121 million in loan principal for a net reduction of $263 million. Repayments have now exceeded fundings in four of the last five quarters. Future funding obligations have declined to approximately 9% of the funded portfolio. Repayments have also allowed us to deleverage the balance sheet with current leverage of 3.9 times, in line with our target leverage. Within our current pipeline across the real estate credit business, we are focused on favored asset classes with strong fundamentals. Our current KREF portfolio is 60% multifamily and industrial, resilient property types with long-term tailwinds. To note, our multifamily portfolio has performed well with weighted average rent increases of 3.1% year-over-year. In terms of other property types, while there is currently decreased tenant demand in the life science sector, we remain positive given the innovations in science and technology, and our loan exposure is located in the deepest markets of Boston and San Francisco with around half of our loan portfolio in this sector comprised of new trophy real estate. KREF has robust liquidity with $644 million of availability, up sequentially from the prior quarter. With the assistance of KKR Capital Markets, we have built a diversified financing structure, with sources totaling $8.4 billion and $2.8 billion of undrawn capacity. 79% of our secured financing is completely not mark-to-market, and the remaining balance is marked to credit only. KREF has termed out its debt structure as well. No corporate debt or final facility maturities until 2026. Now I want to take a step back and discuss how the company is positioned. We've come a long way from the stress induced by the work-from-home dynamic and a significant Fed hiking cycle. We've approached our issues in the portfolio proactively and transparently, leveraging the full breadth of the KKR platform. We have taken various approaches to working at our watchlist loans, including DPOs, modifications, and foreclosures, always with the mindset of optimizing shareholder value over the long term, despite any near-term noise it may cause. We reduced the dividend in order to give us time to create value in our REO portfolio, and we've maintained ample liquidity throughout. With repayments exceeding funding as anticipated, we've been able to reduce our leverage ratio to within our target range. While I can't say we're out of the woods yet, I do think we're at the edge of the woods and we're starting to see the proverbial light. To that end, we've begun to discuss what a return to offense looks like in the second half of the year. We are evaluating all our options and thinking through relative value to maximize returns for our shareholders. With over 75 years of collective experience across our leadership and asset management team and our access at a broader KKR Real Estate platform, KREF has the tools to continue to navigate the challenges of today's market.

Thank you, Matt. Good morning, everyone. I'll begin with updates to our CECL allowance and watch list. CECL reserves decreased by $131 million to $115 million, driven primarily by realized losses in the quarter. There were no additions to the watch list, and the risk ratings remain stable on the remaining loans in the portfolio. The weighted average risk-rating on the portfolio is now 3.1 compared to 3.2 last quarter, and over 90% of our portfolio is risk-rated 3 or better. We continue to proactively manage the remaining watch list loans and have begun discussions with the sponsor on the four-rated life science loan, and we'll update everyone as those proceed. For our Philadelphia assets that became REO in late 2023, this quarter, we succeeded in selling two of the four properties within the portfolio. As we have stated previously, we're comfortable holding the remaining office property and parking garage longer term, but are in discussions to sell those two assets as well. As projected last call, in June, we took title to a Class A office campus in Mountain View, California, and a Class A life science property in Seattle through deeds in lieu foreclosure and wrote off a mezzanine office loan in Boston that was deemed uncollectible, resulting in a combined realized loss of $136 million. This actual loss amount was less than the approximately $140 million CECL reserve we had previously recorded for these three loans. With the transfer of the Mountain View and Seattle properties complete, we're beginning to work to position these assets for long-term success using the full breadth of the KKR platform. We will manage our remaining REO portfolio to maximize shareholder value and believe upon future monetization of those assets, we can reinvest the capital to generate an additional $0.12 per share in distributable earnings per quarter. Details on our REO portfolio, which currently represents approximately $264 million of net equity in the aggregate or $3.80 per share, are reflected on Page 11 of our supplemental. On the financing side, over 75% of the portfolio continues to be fully non-mark-to-market. Our two outstanding CRE/CLOs continue to perform well with no loan delinquencies, providing KREF with attractive leverage and accretive cost of capital. Repayments are tracking above $1 billion for the full year. In addition to the $384 million received during the quarter, we have received an incremental $188 million of paydowns in July, bringing year-to-date repayments to over $900 million. With reduced future funding obligations, KREF was able to repay $242 million in financing during the quarter, reducing the debt-to-equity ratio and total leverage ratio to 1.9 times and 3.9 times, respectively, in the second quarter. Repayments are projected to outpace future funding obligations throughout the remainder of 2024. In summary, KREF has a substantial liquidity position that increased this quarter to over $644 million. We had no negative credit migration this quarter, and our book value per share increased by $0.06 to $15.24. Given the progress we have made on the portfolio and the constructive lending backdrop we are seeing within real estate credit, we feel confident that KREF is well-positioned going into the back half of the year. Thank you for joining us today. Now, we're happy to take your questions.

We will now begin the question-and-answer session. The first question is from Stephen Laws with Raymond James. Please go ahead.

Hi, good morning. Congratulations on a successful quarter; it seems like you've accomplished a lot in the second quarter. I want to start by discussing the new investments and the outlook for leverage. Matt mentioned a shift towards offense in your comments, and Patrick followed up by noting that repayments are outpacing new originations. Should we expect leverage to bottom out by year-end and then increase next year? How should we consider the size of the portfolio in the coming quarters? As you think about this offensive shift, are you focusing on more competitive assets with strong bids due to their CLO-eligible collateral, or are you looking into more opportunistic opportunities, like construction loans or heavier lifts that could offer higher returns?

Thanks for the question. I can take that. From a leverage perspective, we plan to maintain our target leverage range, which has been consistent over the past few years, landing in the high 3s. We do not intend to increase the overall leverage of the portfolio. However, as we receive additional repayments, we will have equity available for redeployment. We will continue to focus on the property types we prefer, primarily multifamily, industrial, and student housing. There's significant activity in the data center space as well, presenting us with opportunities to expand our presence. Over the past couple of years, we established a team in London dedicated to Western Europe, which is fully integrated with our real estate equity team in Europe, reinforcing our geographic expansion intentions. Concerning construction, there's potential there. The bank's pullback from lending is noticeable across the board but especially evident in construction lending, which is less capital efficient for them. As banks prioritize capital management, they are retreating even further from this segment of the market. We will keep exploring this area, but it requires careful balancing, as it demands substantial future funding, and we won't see immediate returns. Still, a portion of our portfolio could be directed towards that opportunity.

Great. And Patrick, a quick one. When you look at the CECL reserve, kind of what percentage of that do you allocate or roughly across the five watch list loans versus the other parts of the portfolio?

Yes, Stephen, thanks for the question. We think about it as you might expect that the watch list loans tend to make up the majority of the CECL. That's been true over the last several quarters and continues to be true today.

Great. And then lastly, if I can sneak one more in. When you look at the five watch list loans for REO assets, which of those do you think may have resolutions in the second half of this year and which of them assume then the remainder would be longer-term resolution paths?

If we consider the existing watch list loans, the first that comes to mind is our four-rated life science loans. As Patrick mentioned, we are starting discussions with the sponsor regarding that. I anticipate we will reach some conclusion in the next quarter or two, although it's difficult to predict the exact timing. Additionally, for our independent Philadelphia office asset, we expect to sell the remaining two properties by year-end, but the timing for the remaining watch list loans is uncertain, and some could extend into 2025. As we noted in the last quarterly call, I categorize the remaining loans primarily by property type, with most being in the multifamily category. While there may be some fluctuations, loans can transition between four and five ratings. The critical question is whether there will be significant losses in that sector. Based on current observations, there is still considerable liquidity in multifamily, and overall performance remains strong. Thus, we do not expect any significant material losses in that property type at this time.

Great. Appreciate the time this morning. Thank you.

The next question is from Rick Shane with JPMorgan. Please go ahead.

Hey, guys, thanks for taking my questions this morning. And I clearly need to queue in before Steve Laws, because it's along the same vein. But look, as you shift to offense a little, I would describe shift as opposed to really move aggressively that way at this point. I'm guessing. I'm curious, when you look at your geographic exposure, concentration in California, concentration in Texas, lesser extent, Florida. I'm curious if with the way we see some costs associated with property ownership evolving in some of those regions, if you would expect to continue to keep the same distribution on the geographic side as well as on the property type side.

Yes. Thank you for the question, it’s Matt. I do think there's been a little bit of shift in terms of how we think about the geographic distribution of the portfolio and how we would invest going forward. I think the two things that I would highlight, one of which you mentioned is just costs, especially around insurance. So states like Florida have seen a pretty material increase in insurance cost there. So that's making us certainly evaluate that market a little bit more carefully. The second thing we're watching is supply. And there are a number of these sunbelt markets that have a lot of supply coming in. We've seen the highest levels of demand for multifamily that really we've ever seen. So a lot of that is being met with strong demand, but there are certainly some cities that we're a little bit more cautious on today. But at the same time, I just want to reiterate that we are an institutional lender. We are a large loan lender. We do focus on the major markets. So we're really a top 30 lender within that, our top 30 market lender. Within that, we'll have some preferences, but it will continue to be our focus is winding in the most populous areas where there's the most liquidity and transparency.

Got it. And you brought up something interesting, which is sort of resonate with me during your original comments. You talked about the fact that you continue to be constructive on multifamily and that you think the supply-demand is sort of reaching a new equilibrium. That's my word, not yours. I apologize. But you also just alluded to the fact demand seems strong. Supply is still coming online. When do you expect the supply to sort of crest given the slowdown in new construction? And so we can really start to see those trends sort of shift very favorably.

Yeah, I would say it's market-dependent. And I think what some people are missing, it's not only market-dependent, but it's very sub-market-dependent as well. I think it's hard to look at a market like Phoenix, where you do have a lot of new supply coming in, but it can be very concentrated in certain sub-markets. But the high-level answer to your question is over the next six to nine months, most of that will get delivered into the market. And there's a number of ways to look at new starts. But by most measures, we're at extremely low historical start levels. And so it will take time to digest past that six to nine month period as supply continues to come in. But even our equity investors in the market, and we're seeing that across our client base. We see that in our own business on the real estate equity investing side. People are looking through the current levels of supply in most markets and thinking about what the supply-demand looks like 24, 30 months out from now, and recognizing that the market will tighten up, the market will absorb, and it should be a very good intermediate investing opportunity.

Terrific. Thank you guys very much.

The next question is from Don Fandetti with Wells Fargo. Please go ahead.

Yes. If the Fed does begin cutting, can you sort of paint a picture of how you think this will play out in terms of separate spreads, capital coming in, borrower willingness to hang on to properties that are marginal or on the edge? Do you expect an impact there?

Hey, Don, it's Matt. I'll start, and maybe Patrick can add anything I miss. Although it's been indicated through various statements and economic data, I believe there will be a shift in sentiment once the cuts begin. I think this will result in increased transaction volumes as people become more confident. The cost of capital is expected to decrease as well. Ultimately, the opportunities will be determined by the level of transaction volume in the market. In a scenario where the Fed is cutting rates due to controlled inflation rather than GDP or employment concerns, I anticipate that while transaction volumes rise, spreads will remain fairly stable. It's possible that spreads could widen since we haven't fully felt the impact of the banks yet. Considering transaction volumes have decreased by over 60 percent and banks comprise about 40 percent of the lending market, a return to normal transaction levels will involve banks' assets being felt. While the exact situation is uncertain, one could envision a scenario where spreads might widen due to insufficient capital to satisfy the demand. Even if spreads do not widen, I strongly believe there will be significant relative value in real estate credit because of the banks' presence in our sector. Hence, we should see a favorable investment environment in the coming years as we revert to more normalized levels. That's our perspective on the market opportunity.

Got it. The provision appears to be the lowest in recent years. How do you feel about the transition from threes to fours? At this stage, do you feel confident that you are where you need to be and that the likelihood is lower?

As I mentioned earlier, we are not completely in the clear yet. It's challenging to predict what will happen in the coming quarters since much depends on the economic environment. However, it seems we have identified and accounted for most of the issues, many of which have now transitioned to real estate owned or have been liquidated. While I don't want to suggest that there won't be challenges ahead, we have navigated through the majority of them. We may still encounter isolated issues, particularly in the multifamily sector, but we expect those to be relatively manageable in terms of losses. These factors do not cause us significant concern, and while we will remain vigilant and responsive, there doesn't appear to be any major obstacles regarding losses at this time.

Okay. Thank you.

Thank you.

The next question is from Jade Rahmani with KBW. Please go ahead.

Thank you very much. In the comment about DEX losses will exceed the dividend. Are you expecting upcoming losses as you proceed through the watch list loans?

Well, we could have some, Jade. I mean, we're obviously still in negotiations on a number of these. So, yes, I don't think we have to see what kind of happens with these individual negotiations and how we get to the end of those. So there is a watch list portfolio. And again, I think most of our focus is on the life science asset. But it certainly could result in increased reserves or realized losses on that component of the portfolio.

On the REO side, can you talk to any parameters around the amount of capital you expect to contribute to those assets if those assets will be generating losses from an earnings standpoint in terms of just carrying the expenses? And specifically on the Seattle life science, what the outlook is for attracting some tenants?

Hey Jade, it's Patrick. I'll take that. So, nothing specific at this moment. We are going through a lot of the business plans, working through what that capital outlay might be over the next several quarters. So, I would anticipate that we'll have further guidance around that in the coming quarters, but nothing specific at the moment. I think with regard to Seattle, I guess, similar to the Mountain View deal, we've got high-quality real estate in a market that is experiencing some leasing challenges at the moment. But we're starting with really good real estate and so we don't have a definitive view on sort of the timing of that lease-up, but we're active in those markets. Our teams across our asset management are sort of in these markets and sort of coordinating with our broader real estate equity team. And we'll obviously look to have further updates in the coming quarters, but nothing specific to report right now.

In terms of loan modifications, has the rate slowed down beyond just the rate of CECL reserves and of watch list assets? Has the rate of modification slowed as well?

Yes, certainly.

And then just lastly, I was wondering if you could provide some color, Matt, on the $4-plus billion of KKR credit deals so far. Are these refis of existing deals from other lenders? Are they new acquisitions opportunistically? How would you characterize the deal flow?

Sure. I'm glad to share, Jade. Currently, our pipeline stands at $20 billion across our business. We're lending based on bank capital, insurance capital, and debt fund capital, resulting in a broad risk/reward profile. In terms of our pipeline context, much of our investment activity still leans towards refinancing. However, we've observed a steady increase in acquisition requests over the past six months, now representing just under 25% of our overall pipeline, compared to about half historically. Last year, it dipped to low double digits. This illustrates the trend we're observing. Additionally, we've seen a growing number of requests for floating rate loans compared to fixed rates. Over the last six to nine months, requests for floating rates now make up about half of our pipeline. We're most active in our insurance capital, which is our largest source of funding, but we've also engaged in several opportunistic deals that KREF will also take part in.

Thank you very much.

Thanks, Jade.

The next question is from Steve Delaney with Citizens JMP. Please go ahead.

Thank you. Good morning, Matt and Patrick. Congratulations on the progress you've made this quarter and the positive market response, which has certainly caught some people's attention. Matt, you mentioned the KKR's perspective on the equity side regarding the property dollars you manage. I believe you indicated that the potential buyers for some of your REO properties are more opportunistic investors, while you're not seeing much activity from core real estate equity investors. What needs to change in that situation? Do we need to see cap rates decrease and property values significantly improve moving forward? Thank you.

Yes. Thanks for the question. Yes, I think what we've seen in the market broadly is a higher cost of capital, whether that's from the debt side. I would say when the banks are largely on the sidelines, they have the lowest cost of capital. I mean if that's being replaced by lenders like KREF or other alternative lenders, there's clearly a cost associated with that. On the equity side, as we discussed in the opening remarks, almost all the capital available is value-add or opportunistic drawdown funds, and you've seen a lot of the Odyssey funds or some of the core plus non-traded REITs just really on the sidelines right now. That being said, it's still in my mind, a little bit of a question of who the sellers are than who the buyers are. Yes, the buyers have a slightly higher cost of capital, but cap rates are not unreasonable in today's market, you have multifamily properties trading at very low 5s. We've seen four handles in some cases. And so in my mind, versus the treasury complex, those are not unreasonable returns. But there’s certainly can be a fair amount of compression in the market and increased values if we start to get some of this core capital back online. I think that what changes that is sentiment and relative value. Real estate is living in a world with a lot of negative sentiment and largely due to the rate environment. And clearly, office is creating losses in portfolios and issues in portfolios that is making people pull back from the market. That heals with time and relative value. And you look at where some of these other markets are trading, you look at what's going on in the corporate credit world. And I think real estate equity and real estate debt are going to start looking very attractive versus some of the alternatives and money and capital is very efficient. It will find its way to opportunities, but it's going to take a little bit of time to get through some of the negative sentiment out there right now.

That's helpful. And you also mentioned that banks have really pulled back. And I assume you're referring to transitional real estate lending broadly, but certainly on transitional as they were 40% of the market. Is it possible as we come out of this thing. Let me ask well, I'll first say it's possible then I can ask you whether you think you can get there. If that's the environment, and we've got a broadly improving real estate equity market, the banks are not going to play for regulatory reasons or whatever. Is it possible that on your bridge loans going forward that your levered ROE on your loan pricing, the terms of your bank financing, do you think your ROE will it be as good as it was before? Or is it on your bridge portfolio? Or is it possible it could improve somewhat? That's my final question. Thank you very much.

Thank you. Currently, in a lower volume market, we are experiencing slightly improved returns compared to our historical performance, though it's challenging to make direct comparisons due to today's low lending basis. When considering the first part of our opportunity, it primarily revolves around credit, as most real estate is trading or valued at or below replacement costs. With our lending set at 65% of that, we are effectively looking at a basis of 50% to 55% of replacement cost, suggesting that this should be a very safe cohort of loans. My main focus is on safety. Regarding yield and incremental returns, the market today shows yields that are approximately 100 to 200 basis points better than our return on equity in 2021. I believe there is significant relative value available in the market. As conditions stabilize, I anticipate we will have many opportunities to achieve similar returns, even as we enter a phase with rate cuts and lower base rates.

The next question is from Tom Catherwood with BTIG. Please go ahead.

Thanks, and good morning, everyone. Matt, maybe taking the flip side to your response to Don's question from before, if we don't get rate cuts, what else could break the dam on transactions and bring sellers to the table? And do you need this pickup in transaction activity before KREF looks to go on offense?

That's a good question. To start, we don't need an increase in transaction activity. Currently, there are sufficient opportunities for us to lend at what we consider effective levels, and our pipeline has increased by 40% compared to last year. We're experiencing this across all our operations. If we find ourselves in a market without sustained rate cuts, ongoing inflation, and a robust economy, we might not progress much, similar to the state of the real estate sector right now. People will likely continue to postpone sales and extend timelines in hopes of reaching a point where capital costs have decreased. This situation may exert additional pressure on multifamily properties, for instance, which are already facing low cap rates. Even with strong cash flow and gradual increases in a higher rate environment, this is creating more tension. However, there is still significant liquidity in that market with many buyers eager to participate, so my overall perspective on potential losses wouldn’t change significantly, although we may see more transitions to watchlist loans in that scenario.

I appreciate those thoughts. And then maybe last for me. On the Philadelphia office sale and origination, what is the sponsor's new plan for the assets? And what is the expected timing of funding the remaining $53 million or so that's committed under the new loan?

Good morning, Tom, it's Patrick. Welcome to the call. I appreciate the question. So on Philadelphia, what the $30 million that's reflected is our initial funding. As you said, we've got future funding here. The sponsor is going to take this asset. It's going to be a mixed-use development. So presently it's 100% office, and in the future, it will be sort of a mix of a couple of different property types. So office will be not a majority of the use going forward. In terms of timing, because it's a redevelopment, we expect that funding to happen over the course of about 24 months is what we're projecting. And then just one thing that I would note, because it wasn't maybe clear from our initial funding and the proceeds that we received back on this asset, this loan is struck at 70% loan to cost.

Thank you.

The next question is a follow-up from Jade Rahmani with KBW. Please go ahead.

Thanks very much. Just two quick ones. One, if the banks are pulling back, do you think that's just a short-term opportunity over 12 months to 18 months, or do you see that as permanent? Because that would clearly have implications for the takeout financing of transitional loans. And then number two, just any thoughts on M&A, if you see that as the best opportunity for KREF to be able to grow its scale and size?

Thanks, Jade. Yeah, I guess a little bit deeper dive on the banking dynamic. If we're talking about a $4.5 trillion market size and banks are 40% of that, we don't think they're going to zero. They're a fraction of that 40% today, but we do think they're going to come back online more than they are right now. And as you well know better than I do, I think there's 4,000 banks in the United States to take a broad brush and say they're all out, I think is too extreme. But I think you could see that 40% come down to 30%. And you could see $0.5 trillion of commercial mortgages come out of the banking system into alternative lenders like KREF. I think that's very plausible. At the same time, keep in mind, in the opening comments we made, they're shifting what they do. They are moving from more of a direct origination model, again, not 100%, but on the margin, from a direct origination model to lending to folks like us on loan-on-loan facilities. It's more capital efficient to do that, and they're becoming much more capital focused. It's safer. Their loss content in those books over the last few years has been minimal versus the CECL reserves that they're taking and losses that they're taking on the balance sheet. And it's more efficient to manage and survey on an ongoing basis. So there's a lot of, like, really good reasons why they're going to shift that profile. So I don't think it's going to create distress in the market. I do think the cost of capital will increase a little bit more, like we mentioned. And these alternative fund complexes, whether that's KREF or debt funds, have to get a lot bigger to be able to take on that additional capacity that's coming out of the banks. On the M&A side, I think it's the same answer we always give. I think there will be consolidation through this period of time, and it's certainly something that we'll look at. There's a number of benefits to being larger from a liquidity perspective, access to different capital sources. So it's certainly something that we'll continue to evaluate as the market evolves.

Thank you very much.

This concludes our question-and-answer session. I would like to turn the conference back over to Jack Switala for any closing remarks.

Great. Thanks, Operator, and thanks, everyone, for joining today. Please reach out to me or the team here if you have any questions. Take care.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.