It is a season of superlatives for opportunistic megafund managers. Phrases including biggest fundraise, most dry powder and largest transaction have figured prominently in this magazine's headlines over the last year.
Yet their success has come during a period of stagnation for opportunistic fundraising. It slowed to a crawl following the global financial crisis: 2008 saw 101 opportunistic funds close on a total of $73.6 billion, but by 2010, 57 funds closed on just $14.5 billion, according to PERE research.
Capital raising has since picked up, though the number of managers remains significantly lower, with only 51 funds closing on $53.5 billion last year.
The trend of more money being concentrated in fewer hands is attributed to a combination of a narrowing field of large real estate managers following the crisis and a desire among some investors to reduce portfolio complexity, culling their general partner list down in the process.
For instance, The Blackstone Group, the New York-based private equity firm, has raised €5.5 billion so far for its latest European fund, which it plans to close later this year, and last year it smashed capital raising records with the $15.8 billion 'one and done' close for its flagship global fund, Blackstone Real Estate Partners (BREP) VIII. Toronto-based Brookfield Asset Management also ranks among the largest opportunistic fund sponsors, with $9 billion raised for Brookfield Strategic Real Estate Partners (BSREP) II, which closed in April.
These megafund managers face a problem most fund sponsors envy. After raising large sums of capital, the investment teams must now find opportunities for these war chests.
Theoretically, with fewer competitors and more capital, megafund managers have their pick of deals and can afford to be choosy. But volatile markets and a seemingly small pool of high-yielding real estate assets have made 2016 far from an easy time to deploy capital – even for those writing the biggest checks in global markets.
Executives at the largest firms say they are not facing more pressure to deploy capital, despite markets that are, in many traditionally favored geographies, higher priced.
“We're in an environment right now where there are greater concerns about slowing global growth and geopolitical questions,” Ken Caplan, Blackstone's chief investment officer, says. “That tends to trigger additional volatility, which can also create opportunities to invest.”
“There's a little more uncertainty, a little more risk, but that doesn't necessarily translate into more pressure to deploy capital, because it's always hard and there are always reasons it might not feel like the right time,” Brian Kingston, Brookfield Property Group's chief executive, adds. “It's easy to look back on 2009 now and say 'it was a great time to buy; it's obvious.' But it was not an easy time then to put capital to work then, either. There are always good reasons to talk yourself out of a deal, but we've been doing this for 25 years and are comfortable with our ability to find the right ones.”
Size and scale
Brookfield investment team is evidently not talking itself out of many deals, with capital deployed in transactions ranging from privatizing a US mall operator to acquiring a Brazilian office portfolio. As high-yielding assets are tougher to find, Kingston says his team is also honing in on 'out-of-favor' sectors. In January, the firm made its first investment in self-storage through the acquisition of the Simply Self Storage platform, buying 90 assets totaling 6.8 million square feet of space in the US for $830 million using capital from BSREP II. Brookfield, now one of the largest self-storage operators, plans to continue purchasing assets in this sector for a total of 12 million square feet by mid-2016.
“We use our platforms to improve operating performance, today more than ever. I would contrast that with three to four years ago, where it was possible for investors to buy mispriced assets and just wait for the market to come back,” Kingston says. “It's much harder to find mispriced assets now. It's really about having an operating capability and being able to make changes in how the assets are being managed.”
Blackstone, for its part, has also continued relying on its historic advantages of size and scale. Caplan says the risks in opportunistic transactions now stem from shifting trends within various sectors, ranging from falling sales for department stores that affect retail portfolios, to lower real estate demand in markets hit by low energy prices. In the US, market volatility led Blackstone to do four public-to-private transactions in 2015, a strategy the firm intends to continue pursuing, and to investments including residential in the US, Indian office properties and logistics real estate globally.
“The competition for these larger, complex deals is pretty limited, and we believe that's one of our advantages. We have not only scale, but also a globally integrated real estate business,” Caplan says. “When you have these large portfolios, particularly when they span different sectors and geographies, there are a limited number of groups that can execute the deals.”
Last year, Blackstone significantly scaled its assets under management through the purchase of most of GE Capital's real estate portfolio in the biggest private property deal since the global financial crisis, one that only a firm of Blackstone's scope could execute. The firm sliced up the deal across different funds and platforms, buying GE's equity real estate assets in the US for $3.3 billion through BREP VIII and GE's European assets for €1.9 billion through BREP Europe IV. In addition to the equity purchases, Blackstone's debt fund business, Blackstone Real Estate Debt Strategies, purchased a $4.6 billion portfolio of first mortgage loans.
Other investors that are able to write such big checks are more likely to present an exit route for the megafund managers. Increased allocations to real estate from groups including sovereign wealth funds and Chinese investors tend to be more interested in assets that Blackstone and its peers have stabilized. This gives megafund managers an upper hand in negotiations now more than ever, the firms say.
One New York-based lawyer who represents many mid-level players in the opportunistic space notes that his clients are now having a more difficult time selling portfolios to megafund managers, which he characterizes as pickier in capital deployment than they were at earlier stages in this cycle.
“A year ago, it was seen as a grand slam [to sell] but now it's harder,” the lawyer says. “Maybe it's better to do single transactions. If you're a seller, you need multiple mega-managers to compete. When they're not bidding, you can't do much.”
Yet, there are some industry commentators who question whether too much capital has made its way in to too few hands. Caplan has heard all the usual complaints about too much money going to too few general partners.
“Our view is that if we keep performing well, our investors will continue to invest,” Caplan says. “Capital going to fewer managers is really money going to top performers.”
At least five institutional investors committed $300 million or more to BREP VIII, according to PERE research. Blackstone's BREP funds, which date back to the first vehicle in 1994, had a 16 percent net internal rate of return and a 1.8x multiple as of March 31, according to the firm's first-quarter earnings.
Brookfield's Kingston notes that megafund managers deploy capital in myriad strategies, avoiding the risk of investing too much in one area.
“From a real estate perspective, if they partner with the right manager who's in multiple geographies and sectors, they get all the diversification benefits in terms of the investment opportunities they're looking at,” he says.
Investor concerns about managers' ability to find enough deals to fully commit megafunds' capital and meet 20 percent IRR targets should be calmed by these firms' track records, industry insiders say.
“The fact that we survived the global financial crisis – and then thrived, capitalizing on deals immediately after – when so many firms shuttered their doors speaks volumes,” one executive tells PERE.
In comparison to enduring the post-2007 years, the problem of how to deploy billions of dollars may not seem like such an issue, after all.