What happens when property performance declines concerning higher leverage?

When property performance declines in a context of higher leverage, the most significant consequence is increased exposure to financial losses. Higher leverage means that a greater proportion of the property’s value is financed through debt, which, although it can amplify profits in a thriving market, also magnifies losses during downturns.

If the performance of the property deteriorates, such as through decreased rental income or increasing vacancy rates, the financial burden of the debt remains. This situation can lead to negative cash flows where the income generated is insufficient to cover the debt service obligations. As a result, the owner may face increased risk of default, which could lead to foreclosure or necessitate selling the property at a loss. The leverage amplifies the impacts of poor performance, making financial losses more pronounced than they would be if the property were financed with less debt.

In contrast to this outcome, increased liquidity, lower overall market risk, and guaranteed rental income do not accurately represent the realities of higher leverage combined with declining property performance. In fact, liquidity may decrease as the property value falls, market risk typically rises with increased leverage, and rental income is certainly not guaranteed when performance is declining. Thus, the heightened risk of losses due to increased leverage under poor property performance underscores the correct choice.