Managers take aim at rivals' client lists

It's become a dog-eat-dog world for real estate investment firms hungry for new business.

Managers are looking to increase their assets under management by taking over investment mandates from other managers, rather than finding new allocations from institutional investors.

It's a matter of survival. U.S. institutional tax-exempt real estate assets under management for the top 50 managers fell 26% to $316.3 billion in the year ended June 30, according to Pensions & Investments' annual survey of the largest real estate managers (P&I, Oct. 19). At the same time, returns have remained negative, with NCREIF returning -3.32% in the third quarter, a slight improvement from -5.2% in the previous quarter.

Individually, real estate managers have been showing negative returns nearly across the board with single digit negative earnings the new positive return, industry insiders say.

While good times might roll again for real estate money managers — two to three years from now — not all firms will remain standing. With fundraising down and few investors making new real estate commitments, managers are trying to pick off assignments from seemingly weaker competitors.

“As 2010 turns to 2011, we will be looking at the best investment opportunity that we've seen in my lifetime,” said Gary Koster, Americas leader-real estate fund services at Ernst & Young LLP, New York. “The key is to get from here to there ... to survive through 2011 with your firm intact.”

As the recession and downturn in real estate weakens some managers, other, healthier managers are picking up business from real estate investment firms embedded in troubled parent companies, such as banks and insurance companies that are shifting out of the investment management business.

“Clearly, some of the management firms that are part of larger organizations are reviewing their overall business, deciding which businesses to keep and which businesses not to keep,” said Maury Tognarelli, president and CEO of Heitman LLC, Chicago.

Managers picking off new business from other managers started with a trickle at the very end of last year, but gained momentum recently now that investors are reassessing their string of managers and have become more open to changes.

“We are in difficult times, and the ownership interest of real estate has changed,” said Rob Noeldechen, principal, Ahern & Partners, a Greenwich, Conn., professional services and asset management firm specializing in underperforming businesses and distressed situations. “During the downturn in the cycle, investors are reassessing their positions.”

And even those investors sticking with their managers — either because they don't want to disrupt the portfolio management or because contracts signed at the peak of the market have become nearly impossible to restructure — are making backup plans. Recently, some have resorted to so-called “shadow managers” to closely monitor underperforming real estate investment firms or firms they don't expect to rehire while they wind down their mandates, industry insiders say.

Investors are seeking out these shadow managers because many managers are struggling with portfolios containing properties that are no longer worth the mortgages held on them. These managers either do not have the capital or are unwilling to invest the capital necessary to keep the properties afloat until they can sell them, explained David Lazarus, senior managing director, EdgeRock Realty Advisors LLC., New York.

These “shadow managers” are not necessarily winning investment assignments right away, Mr. Lazarus said. They are coming in to give second opinions for free in hopes that they would be in the best position to win a new mandate should the manager be terminated.

Elsewhere, executives of some real estate investment firms are traveling the country to convince clients why their strategies are better, industry insiders said. Still others are benefiting from new manager searches launched by institutional investors displeased with an existing real estate manager's performance or concerned with problems at the manager's parent company.

Some shifts have been from managers that changed their business models.

Earlier this year, Invesco Real Estate, Heitman and L&B Realty Advisors won 85% of the $111.1 billion Florida State Board of Administration's $2.7 billion real estate separate account from Morgan Stanley Real Estate, which left the separate account business. In February, the Tigard-based Oregon Investment Council, which oversees the $47 billion Oregon Public Employees Retirement Fund, Salem, shifted a $70 million REIT portfolio benchmarked to the Wilshire Real Estate Securities index to existing manager LaSalle Investment Management, Chicago, which already manages $180 million in REITs for the council, from Cliffwood Partners LP, Los Angeles.

Cliffwood, a hedge fund manager, is getting out of the REIT management business.

Heitman picked up another mandate in February, a $1.2 billion core real estate separate account from Commonwealth Realty Advisors for the $28.5 billion Teachers' Retirement System of Illinois, Springfield. Overall this year, Heitman has won four accounts amounting to more than $2 billion, Mr. Tognarelli said. The firm won these assignments both by participating in searches and clients reaching out to them asking for help, he said.

Cornerstone Realty Advisors snapped up the investment management of two hotel properties remaining in a $216 million separate account that had been managed by Stone/Levy LLC.

ING Clarion Partners, New York, has taken over $2.1 billion from other managers for six clients this year, said Jeffrey A. Barclay, a managing director. Of the six, one is a new client; several were from Morgan Stanley.

One deal involved taking over the $772 million New City Asia Opportunity Fund from New City Asia Fund Management Pte. Ltd., said Bill Krauch, another ING Clarion managing director. In that case, ING Real Estate assumed the management of the fund because New City Corp., the former parent, had financial problems.

ING Clarion Partners started seeing pension funds shifting real estate portfolios in the fourth quarter of 2008, Mr. Krauch said.

Invesco Real Estate, Atlanta, has received portfolios that were managed by other firms, such as the real estate investment management business it won from Morgan Stanley Real Estate at the Florida State Board of Administration, said Max Swango, managing director.

He added that Invesco has been hiring real estate professionals and plans to continuing hiring additional staff through this year and next so the firm is prepared to take on extra work.