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PERE 100: The biggest grow bigger still

Stellar post-crisis performances have seen mega-fund managers dominate PERE’s signature ranking. But are they at their biggest at the worst time?

When discussing the capital clout of private real estate’s top managers, the overarching takeaway is resounding: the big are simply getting bigger. At $182 billion, the top 10 managers included in the inaugural PERE 100 ranking account for well over one third of the $442.3 billion aggregate raised by its constituents; the top five account for well over a quarter at $130.5 billion.

These masters of fundraising for private real estate’s higher risk and return strategies are maintaining their momentum, too, even as investment markets around the world moderate. This year’s top 10 raised 5.2 percent more equity than last year, topping up a growth story that has already seen them increase their aggregate corral 61 percent since the ranking started in 2008. Moreover, this year’s total number reflects an even bigger 96 percent since 2014, the nadir of the cycle that ensued shortly after with the crash of Lehman Brothers and the global financial crisis.

The top 10 firms raised 42% of the PERE 100’s total capital (Click the image to view full size)

Like previous years, New York-headquartered manager and ranking topper Blackstone is leaps ahead of its peers, thanks this time around to fundraising for its sixth European opportunistic vehicle, Blackstone Real Estate Partners VI Europe, for which it is targeting a $10 billion raise, and its sector record-smashing Blackstone Real Estate Partners IX opportunistic fund, which had already corralled $17.3 billion of its $20 billion hard-cap target as of February.

While Blackstone’s stampede continues, giants have emerged alongside the New York-based titan. Each of the top five firms in the PERE 100 have raised larger funds than their predecessors in the past 12 months alone. This February, Brookfield Asset Management joined Blackstone in double-digit billion-dollar territory with its $15 billion final close of Brookfield Strategic Real Estate Partners III, materially larger than its $9 billion predecessor fund. The same is true for the two other North American firms of the top five: Starwood Capital raised $7.56 billion for Starwood Global Opportunity Fund XI last April, the largest capital raise in the Connecticut-based firm’s history; and Washington DC-based Carlyle closed its eighth US opportunity fund Carlyle Realty Partners VIII at $5.5 billion in September, versus $4.16 billion for its 2015-vintage seventh fund. And for Singapore-based logistics specialist GLP, the first-ever and only Asian manager to break into the top five, successful fundraises in 2018 included a $2.25 billion capital haul for GLP Japan Development Partners III.

The continuing surge in investor demand for some of these mega-funds comes on the back of their sustained performance. According to Blackstone’s investment records as of December 31, 2018, for instance, the 2015-vintage, $16.4 billion BREP VIII, predecessor to BREP IX, was generating net realized IRRs of 27 percent, the same percentage generated by the 2011-vintage $13.4 billion BREP VII.

Meanwhile, according to Brookfield’s Q4 2018 letter to shareholders, the firm last year returned 100 percent of invested capital and a preferred return of 9 percent on capital to all investors in the firm’s first global flagship real estate fund, Brookfield Strategic Real Estate Partners.

Overall, the performance of non-core funds has continued to outperform core funds, at least as of the fourth quarter of 2018. According to the Global Real Estate Fund Index for Q4 2018, published by industry bodies ANREV, INREV and NCREIF, non-core funds generated total returns of 2.3 percent in Q4 2018, and 10.1 percent in the whole year, versus 1.81 percent and 8.08 percent respectively generated by core funds.

Endorsing higher risk

Beyond loyalty to organizations that have consistently demonstrated strong investment performances, these mega-fundraises are a sign that institutional investors are still choosing to endorse higher risk and return strategies, even with looming market corrections and a fragile global economic outlook.

They come even as they share risk-averse sentiments in industry surveys. In the 2019 Investor Intentions Survey by ANREV, INREV and PREA, investors are showing a notable shift in preference. In Asia-Pacific, core takes the lead, with 54.1 percent of investors planning to invest in the lower-risk strategy, compared with 44.3 percent for value-add. And only 9.8 percent of the investors surveyed listed opportunistic as their preferred investment style for Europe for this year, down from 18.8 percent in 2018.

The outlook for opportunistic investments in US real estate is not bullish either. According to Urban Land Institute and PwC’s Emerging Trends in Real Estate report, which surveyed more than 1,600 individuals, on a scale of one – abysmal – to nine – excellent – the prospects of US opportunistic investments have dropped to 3.10 this year from 3.74 in 2018.

Explaining the rationale behind big-ticket investments by institutional investors in mega-funds, Anthony Biddulph, chief executive at London-based real estate advisory firm Capra Global Partners, says most investors now have little appetite for large bond exposure and are less confident about a strong upside in equities as well, resulting in their CIOs allocating more capital to real assets.

“If you have a massive increase in the amount of capital you are trying to deploy in real assets, but you do not have a massive increase in the team who are responsible for deploying that capital, what do you do? You may not have the resource to spend a lot of time finding the ten best funds in Asia, Europe and US, underwriting all these funds and then making many different investments. So, one obvious solution is to write a very big ticket to one or two fund managers that can offer that global exposure,” he explains.

Still, the biggest getting bigger has its risks. Growing check sizes is one point of concern. The minimum ticket for some of the mega-funds is now in the range of $200 million to $300 million, but the number of corresponding opportunities for these funds are limited globally. As one advisor points out, style drift could be one unintended consequence. Managers might be prompted to look at previously unfamiliar sectors, geographies and deals beyond the conventional buying and selling of hard assets.

Beyond the deployment challenge, there are other consequences from this trend of consolidation of capital within the hands of a few. The inability of the more boutique managers to compete with mega-fund managers for the same pools of institutional capital is creating strain on their organizations. Global advisory firm Hodes Weill believes this is pushing boutique firms to make strategic decisions like M&A transactions, entering new product lines beyond their flagship products and offering more co-investment capital. In its annual market commentary for 2019, it goes as far as saying that if the “industry wants to see the formation and entry of new managers during this cycle,” some fee structures like carried interest waterfalls would need to be revisited as well.

Preliminary data for 2019 indicate the consolidation trend is not going anywhere. Even though the first quarter of 2019 saw the strongest Q1 fundraising since the global financial crisis with $39 billion in capital raised across strategies, according to PERE’s quarterly fundraising report, the number of funds raising this capital has dropped dramatically. Only 17 funds held a final close in the quarter, compared with as many as 40 in Q1 2018, 56 in Q1 2017 and 86 in Q1 2016, the peak fundraising year in recent times. As they have repeatedly in recent quarters, mega-fundraising is skewing the big picture.

Those managers that were around during the financial crisis will recall how some of the biggest real estate funds at the time suffered a disproportionate amount of pain when the music stopped and Lehman Brothers crashed. With another looming downturn, today’s mega-fund managers will spend valuable time and resources to ensure mistakes are not repeated so they can stay at the top of PERE’s top-heavy signature ranking.

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