YieldStreet Investors Are Learning the Meaning of High Risk

(Bloomberg Businessweek) -- The online investment platform YieldStreet came on the scene in 2015 with a bold proposition: It would allow individual investors to make the kind of unusual, potentially high-yielding investments normally reserved for institutions and the very rich. These alternative assets include pieces of investments in real estate, art, and even ships. Although the company caters only to accredited investors—those who earn more than $200,000 annually or have a net worth of at least $1 million—that’s a bar many affluent professionals can clear. Investors have plowed around $1 billion into deals through YieldStreet.

The company warns on its site that its investments carry higher risk than normal stocks or bonds. But recently some YieldStreet investors have found out how wild those risks can be.

A handful of the site’s investments in old oceangoing vessels have fared particularly badly. In such a deal, investors might lend money to an entity that buys ships near the end of their useful life. The borrowers sail the vessels to deconstruction yards in places such as India and Pakistan, where they sell them to a demolition company, presumably at a profit, for the scrap value. The deals often are structured so investors receive upfront interest payments soon after closing, with principal repaid in full six months later.

From June 2018 to September 2019, YieldStreet units arranged six marine loans worth $89.2 million to finance the purchase of ships. The borrowers were related companies whose unnamed parent corporation, based in Dubai, was described in a deal memo as “one of the premier buyers of recycling tonnage worldwide,” owned by a family with over 40 years’ experience in the deconstruction industry.

In an example of one of those deals, YieldStreet clients could participate in a $12.65 million loan with a projected 10.25% interest rate over a six-month term, after YieldStreet’s 1.25% management fee and a 0.5% origination fee. Prospective investors received a 16-page memo explaining marine finance, the deal’s structure, and the risks, such as an economic downturn, terrorist attacks, piracy, or an oversupply of ships, which could hurt scrap values. Investors also had some protections, according to the memo. Three ships would be collateral, and with a scrap value of $15.8 million, there was an extra safety cushion above the loan amount. The ships also were insured.

The Dubai company had given a corporate guarantee and the family members their personal guarantees. The family, the offering said, had a net worth of $28 million. A note in the appendix warned that YieldStreet wasn’t able to fully verify that sum.

YieldStreet’s memo expressed confidence in the due diligence efforts of the outside company that originated the deal—an Athens subsidiary of a New York asset manager, Four Wood Capital Partners, that YieldStreet said had worked with the unnamed borrower since 2015. Four Wood would act as the loan servicer and monitor of the marine deals.

Interest payments on that deal arrived on schedule. But the principal payment didn’t. At first, investors were told that the borrowers needed a one-month extension, and then another. Several more months passed, and the payment never came. YieldStreet provided “six months of excuses and extensions from reasons ranging from ‘bad weather’ to ‘new banking regulations in India,’ before informing investors that they suspected fraud,” a group of YieldStreet investors wrote last month in a letter, seen by Bloomberg News, to YieldStreet Chief Executive Officer Milind Mehere and President Michael Weisz. Investors received some principal back from some of the other deals.

YieldStreet Investors Are Learning the Meaning of High Risk

YieldStreet in turn says it, too, was a victim. It filed a lawsuit against Four Wood on April 28 in federal district court in Manhattan, alleging that the company “literally lost track of many vessels, some larger than three football fields.” A spokesman for Four Wood says it intends to defend itself against YieldStreet’s “patently false” claims.

A YieldStreet spokeswoman says: “Defaults happen and when they do we are laser focused on recovery. A default is not a loss, it’s a setback. That is why we’ve marshalled legal and investigative resources across six time zones, and despite the challenges presented by a global pandemic, we have made significant progress in the last six weeks alone.”

The tale, as laid out in court documents and in legal actions in multiple countries, has the makings of an international potboiler. The loans were taken out by a unit of North Star Maritime Holdings Ltd., incorporated in the Caribbean island of Nevis. That company, one court filing says, is owned by brothers Muhammad Ali Lakhani and Muhammad Hasan Lakhani, the sons of Muhammad Tahir Lakhani, a former top official of the United Arab Emirates Shipping Association.

YieldStreet alleges in its lawsuit that the Lakhani family faked company filings to conceal that the ships were mortgaged to YieldStreet investors. That allowed it to sell 13 of the vessels to shipbreakers in Pakistan and Bangladesh and then pocket the money instead of paying it back to YieldStreet investors, the complaint says. Four ships were seized by different lenders “who may have their own interests in the vessels,” says the YieldStreet suit against Four Wood.

Only one ship has been located, and by going through a court in Malaysia, YieldStreet was able to have it seized before it was broken up for scrap. YieldStreet has obtained an injunction in the U.K. High Court that freezes $76.7 million in Lakhani family assets. In an email, the elder Lakhani wrote that he and his sons “vehemently deny” YieldStreet’s allegations and will contest them. He said they had previously been negotiating with YieldStreet “to resolve difficulties that our business was having in common with most of the ship recycling industry around the world which has been made worse by the Covid-19 Pandemic.”

Some other YieldStreet investments have soured, according to documents seen by Bloomberg. Around $120 million of deals on the platform aren’t paying as expected—that’s about 12% of the total invested through YieldStreet.

The company is suing one partner, Arena Investors, over an oil and gas deal, alleging that Arena failed to disclose that the borrower’s wells weren’t meeting production targets. YieldStreet also says the firm misrepresented the assets securing the loan, meaning YieldStreet couldn’t sell land and equipment pledged as collateral to reimburse investors. A spokesman for Arena says that YieldStreet’s claims are false and that it intends to “defeat this frivolous action while continuing to seek the best possible outcome” on behalf of the lenders.

“We are gratified by the confidence placed in us by the majority of our investors, who keep returning to our platform,” says the YieldStreet spokeswoman. Wealth manager Jeff Nauta encountered YieldStreet when sizing it up for his clients. He invested his own money in six deals, including an art portfolio that’s in default. He says the company’s communications were choppy at first, but he isn’t concerned about YieldStreet’s vetting and would consider investing in future offerings. “There’s a reason that you’re earning a 10% to 12% interest rate,” Nauta says. “It’s probably underappreciated by retail investors that there will be defaults.” YieldStreet told investors in April that it would start providing monthly updates on all defaulted deals.

Among the group of investors who wrote to YieldStreet about deals gone bad are an anesthesiologist, a human-rights lawyer, and a personal trainer. Some financial experts say investments like the ones YieldStreet offers don’t make sense for most individuals. “In the private markets, you don’t have that benefit of a transparent marketplace to make sure that the price is reasonable,” says Barbara Roper, director of investor protection at the Consumer Federation of America. “The percentage of investors who have the sophistication to make that assessment is just vanishingly small.”
 
Read more: Populism Comes to Wall Street

©2020 Bloomberg L.P.

BQ Install

Bloomberg Quint

Add BloombergQuint App to Home screen.