In co-investing (nearly) anything goes

Sidecars that invest alongside traditional private real estate funds are on the rise, but their terms vary greatly. This lack of uniformity is unhelpful and will not last.

Private real estate is still getting to grips with its understanding and execution of co-investment sidecars. As a supplement to investing in commingled real estate funds they are becoming more mainstream. But there is not much meaningful data on them yet. As PERE conducted research for a special report on the matter, published this week, we discovered that trade groups and associations have not been tracking this part of the sector’s capital markets.

Thankfully, PERE has. Our own data on co-investment vehicles raised alongside traditional closed-end funds is indicative of the momentum behind them. We found that the top 20 private real estate managers have been stepping up their use of sidecars, especially in the last three years: 13 percent of their five-year equity fundraising hauls in 2017 and 2018 came from sidecars, up from 10 percent in 2016. In dollar terms, this equates to the top 20 groups raising $29 billion for co-investment vehicles in the five years to 2018, versus $19 billion to 2016.

In addition to collecting this data for our report, we also interviewed 24 relevant practitioners about the phenomenon. What we learned from these interviews is there is little uniformity in how investors and managers approach private real estate sidecars. We were left with the view that the practice is more art than science.

Sure, there are common threads to be found: sidecar commitments typically costing investors 50 percent less in fees than fund investments is an obvious one. Investors typically receiving sidecar allocations pro-rata to their fund commitments is another. Large and early commitments to a new fund getting first dibs on sidecar allocations is a third.

But there are nuances galore, too. For example: sometimes discretion over the investment decision lies with the manager of the main fund, and sometimes with the investor. Some co-investment vehicles offer investors a right of approval, some a right of refusal. Some managers offer sidecars on the same terms to everybody, while others are happy to give their clients bespoke arrangements. In certain instances, sidecars have been structured for investors who were not even invested in the main fund.

For now, investors will have to judge for themselves whether this lack of a more standardized approach is enough for them to be put off. In any case, we think that will not be around for very much longer. Like any nascent financial instrument growing in popularity and becoming part of the mainstream, sidecars will attract greater scrutiny and become a more transparent part of fundraising as a result. When the market reaches a certain size and reach, regulators will play more of a role, too.

When those things happen, today’s skeptics will probably think again, and investors already fond of the practice might grow to like them even more.

Read PERE’s full report on co-investing here.

To contact the author, email