PERE LA: Emerging manager graduation a “falsehood”

At the PERE Global Investor Forum, Stuart Bernstein of Texas Teachers decried emerging manager graduation programs while he and his peers discussed their approaches to investing in new talent.

During the emerging manager panel at PERE’s Global Investor Forum in Los Angeles yesterday, Stuart Bernstein, senior investment manager of the Teacher Retirement System (TRS) of Texas; Ed Garcia, senior portfolio manager at Russell Investments; and Brooks Blake, managing director of Verdis Investment Management discussed the challenges and opportunities facing new real estate managers today.

Among the panelists, there were differing opinions on what defines an “emerging manager.” TRS restricts the term to managers on their first, second or third vehicles with less than $2 billion of assets under management (AUM), while Russell looks at firms with less than $1 billion of AUM on their first or second funds.

“It’s a controversial topic to say the least,” said Garcia on defining the phrase. “In fact, in our own shop, we don’t agree on what an emerging manager is or how the term should be defined.”

When it comes to choosing a manager, all three panelists did agree that the best emerging managers are those with a successful track record, an effective business model and a strategy that will fit into the limited partner’s portfolio. Blake commented that Verdis takes notice of persistent managers with a “tight, focused story,” while Garcia noted that a firm’s first impression is essential to Russell.

Once a manager is chosen, the subsequent capital raise is difficult more often than not. For the emerging managers tracked by TRS, an average fundraise lasts approximately 22 months. ”Fundraising is a brutal endeavor,” said Bernstein. “It’s a heck of an uphill battle, even if you have the resources and the track record. Firms are held up by the reality of the market.”

While measuring the success of an emerging manager program can be complicated, Bernstein advised against participation in programs that offer a 'graduation' from emerging manager to regular manager in the LP’s portfolio. “Graduation programs are largely a falsehood, and I’d recommend that people not put too much weight in them,” he said. He noted that 'graduation' is often based on a certain amount of growth in the firm’s AUM, which may not be practical for managers pursuing niche strategies.

“Is the role of our program to help these guys get bigger? No, it’s about the returns and the performance in our portfolios,” Garcia agreed.

Blake added that an important factor in the success of the manager is not necessarily size, but speed and re-up percentage. “For us, graduation is more about raising a similar amount of capital for a similar strategy that you’ve used in the past, but your fundraise is 60 days instead of 22 months,” he said.