The appeal of direct exposure and selectivity in private real estate have made sidecar investments so popular that all types of investors have begun haggling for favorable co-investment rights – even those that cannot use them.
Investors big and small have sought dollar-for-dollar guarantees and fee discounts for co-investments before committing to commingled funds, PERE understands. But many are not set up to take advantage of those opportunities when they arise. Such deals require a quick trigger and considerable cash on hand – something many investors, particularly state pensions and family offices, do not have.
However, as co-investments become more attractive and, critically, more available, many investors are increasing their staffs, adding the knowledge necessary to evaluate deals quickly. They are crafting new policies to streamline approval processes. And, when internal resources are too scarce, they are hiring consultants to focus specifically on co-investments allocations. Simply put: co-invest-hungry investors are becoming bigger, faster and smarter.
“We’ve been adding support staff and I think the biggest thing we’ve done is organize our team to have more processes and procedures to make sure we’re reacting to these opportunities in a more cohesive and uniform way,” says Jennifer Wenzel, head of the Texas Teachers Retirement System’s Principal Investment program.
Many institutional investors began emphasizing direct investment in their real estate strategies after the global financial crisis as a way of exercising more influence over their holdings. In recent years, that shift has zeroed in on co-investment.
Typically, the small windows for co-investment decision-making and capital deployment have favored sovereign wealth funds, insurance companies, certain endowments and highly sophisticated pension funds. Recently, however, other types of investors have hired analysts and support staff who have fund management experience to evaluate and execute co-invest opportunities. “Some LPs have built teams [of people] that come from a real estate background that can not only underwrite a fund and the manager, but also the underlying real estate and, in our eyes, that’s the only way to do it,” says Cherine Aboulzelof, New York-based Metropolitan Real Estate’s head of Europe. “People have been building up that real estate capability in order to [co-invest] more and do it more systematically.”
Texas TRS launched its Principal Investment program roughly a decade ago to focus on traditional and prearranged co-investments, as well as separate accounts and direct investments. Aboulzel tells PERE that the pension aims to funnel between 40 and 50 percent of its real estate capital into these vehicles.
Similar initiatives have sprouted elsewhere. The California State Teachers’ Retirement System also began seeking more direct exposure to assets in the early 2010s through what it calls its Collaborative Model, which focuses on a variety of investment structures, including co-investments.
Last year, CalSTRS’ investment committee evaluated this multi-faceted approach, holding a series of work sessions and consulting experts from Canadian pensions, the investment management firm BlackRock and Stanford University. It concluded that co-investments helped CalSTRS diversify its portfolio and meet its environmental, social and governance goals. It credited a robust and knowledgeable staff with being able to participate in these types of opportunities.
Along with staffing, the other feature that determines if an investor is suited for co-investing is its internal approval structure. Often, investors have a few weeks or, in some cases, days to opt in or out of a co-invest deal. For institutions that answer to boards that only convene a few times a year, that timing is difficult to square. To counteract that, some investors are writing new rules for when and how co-investments are approved. Texas TRS, for example, gets the go-ahead on co-investments at the same time it gets the OK to commit to the underlying funds. Allianz Real Estate has crafted a similar streamlined approach to co-investment.
“It’s all about speed,” Annette Kroeger, CEO of Allianz Real Estate in North and Central Europe, says. “We’ve set up our approval processes internally that we only work with a veto right and not [the] full approval that we’d usually have when we do the main fund investment itself. That has allowed us to execute on these co-investments.”
Investors that are unable to overhaul their internal infrastructures have other options for accessing the growing co-investment market. Some are hiring consultant groups to serve as discretionary managers and allocating capital specifically for co-investments. Others are committing to co-invest funds managed by groups such as Metropolitan Real Estate.
Acquired by the Carlyle Group in 2013, the New York-based platform concentrates on three increasingly popular styles of private real estate investment: co-investing, separate accounts and secondaries. With a dedicated co-investment team and pooled funds from investors, Metropolitan and other multi-managers are ready-made co-investment partners for investors.
Nonetheless, for every trend there are the have-nots. “Not all LPs are set up to systematically do co-investments because, to do that, you effectively need a platform,” Aboulzelof says. “You need the resources, the local network to source, a team that’s real estate-driven that can evaluate, execute, and that’s not always the case depending on the LP’s sophistication or size or program. It’s easier said than done.”