You were at PREA last week. What big issues were investors talking about?
That's an interesting question. Everybody is talking about capital flows. That's been out there for a while, but the reselling of assets in the EOP portfolio at ever lower cap rates has people concerned because they think that cap rates have to stabilize at some point or even go back up. Balancing that, however, is the understanding that the fundamentals of real estate are really going to take over from the financial engineering that we've enjoyed over the past few years. That's not a new thing, but it gives me comfort in hearing the LPs—and this is also coming from the fund managers—recognize that people are really going to have to work the real estate going forward.
Speaking of EOP, what's your take on the Blackstone IPO filing, particularly as you're an investor?
As an LP, I don't like the fact that they're going public. I understand why. But I don't like it, simply because when you go public you do have to open up your books, you do have to make public your business. In my opinion, that has been one of the advantages that Blackstone has had: to move quickly and quietly to structure some of these very, very lucrative transactions that we've all benefited from. I may be wrong—they may still be able to do that—but it certainly opens up the question.
Like many LPs, you're increasing your allocations to private equity real estate. What are the biggest challenges there?
This movement of capital up the risk curve is going to have a big impact. There are a large number of funds out there that normally would have taken ten years to raise $1 billion; [they're now] doing it within a matter of two or three years. If you're putting money with fund managers who may not be quite ready to invest those dollars—it's not just real estate acumen that they have to have; they're building an organization, in many cases, from scratch—there are a number of risk factors that come into play.
Is that the challenge, getting comfortable with those risks?
Yeah. When you think about it, we're all emulating our private equity brethren. We all want top quartile managers. Well, if there are 400 managers out there, by definition, 300 will be below top quartile. If you look at private equity, the spread between [top quartile] and the median is huge; it's the same in real estate. And that's the biggest challenge: putting money to work in such a way that you continue to get good returns.
I know you're trying to beef up your own team. How difficult is that given the current market for talent?
That's a huge concern of mine, not only for our team here, but as an industry concern. If you go back and take a look at the musical chairs that has transpired among the LP base, it's pretty significant. There are a lot of good real estate people out there, but when you're looking at fund investing, it's like looking for a needle in a haystack. The fund sector is not that old. So if you're looking for someone senior, you're not going to find them. And when you do, it's going to be very expensive.
Well that makes you a hot commodity, at least.
I hope so (laughs). I got to tell you that the people here have been extremely supportive. I don't have any complaints.
What's the biggest piece of advice you could give to fund managers who want to raise capital from you?
Stick to what you're good at. And just because it looks like the grass is greener, be very careful. It's a different world when you're dealing with institutional investors. Don't be so quick to look at the money and say: “Let's become a fund manager.” I think that's going to be a model that only a few are going to be successful at over a long period of time.
The same question for your fellow LPs.
The biggest mistake we're making: We don't talk enough to each other. We've made some progress. Here in Chicago, we put together an informal group of LPs. This past year, we've met four times. I know New York has a similar group. But these are ad hoc groups of people that, out of necessity, are saying: “Let's talk.” I think our larger organizations could probably take a much more proactive approach. PREA, actually, is heading in that direction, which I was very pleased to see. They were providing more time for the LPs to interact. But as an LP community, that is a big mistake we're making. We're not talking enough to each other.