When a risk-free government bond yields more than it did two years ago, every real asset has to justify itself against a higher bar. The spread between a real asset’s income yield and the risk-free rate is the single number that tells you whether you are being paid for the risk you are taking. This note sets out how we read that spread, why the headline yield alone is misleading, and where the number quietly breaks.
The spread, not the yield, is the signal
An income yield in isolation says little. A 6% yield looks generous when the risk-free rate is 1% and thin when it is 4%. What matters is the gap: the compensation an investor earns for taking illiquidity, operating risk, and credit risk instead of holding a government bond. When that gap compresses, the asset is not necessarily better — the cushion protecting you from a repricing is simply smaller.
We treat the spread as a margin of safety expressed in basis points. A wider spread means more room for the income to disappoint, for exit yields to drift out, or for the risk-free rate to rise again before the position is underwater. A narrow spread means the reverse: little tolerance for error, and a return that depends heavily on everything going right.
Three ways a headline spread misleads
First, the income figure is often gross. Real-asset yields quoted at acquisition rarely net out capital expenditure, leasing costs, management, and the reserve a durable asset actually needs. A spread built on gross income can vanish once the asset is run honestly. We underwrite to a maintainable net figure, not the brochure number.
Second, the risk-free leg is a moving target. Comparing a yield struck today against a bond yield from the underwriting date flatters the spread. The relevant comparison is against the current curve and a defensible view of where it may sit over the hold, not the rate that happened to prevail when the deal was sourced.
Third, spread says nothing about the durability of the income beneath it. Two assets can show the same spread while one rests on a single tenant on a short lease and the other on diversified, contracted cash flow. The number is identical; the risk is not. Spread is a starting screen, never the conclusion.
How we use it in practice
We use the spread as a discipline, not a target. It sets the question — am I being paid enough, net and maintainable, to take this specific risk over a government bond? — and forces the answer to survive a stress on both legs: income down, risk-free rate up. An asset that only clears the bar in today’s rate environment, on today’s gross income, is not one we would underwrite as if the cushion were real. The context for the risk-free leg and the broader repricing of yields across asset classes is set out in the European Central Bank’s Financial Stability Review.
This reading of yield spreads is one input into the wider approach described in our investment strategy, applied through our investment process and carried into how assets are run day to day under asset management.
The bottom line
A yield tells you what an asset pays. A spread — net, maintainable, measured against the current risk-free rate — tells you whether that payment is worth making. We size positions to the spread that survives stress, not the one that appears at the closing table.
This article is for general information only. It is not investment, financial, legal, or tax advice, and it is not an offer or solicitation to buy or sell any security or investment. Capital is at risk; past performance and yield spreads are not reliable indicators of future results. Prepared by the BlackStar Capital Investment Team.