Manager landscape changes as new firms tip status quo

The real estate investment world is in flux as a newer group of managers — some with private equity roots — are gobbling up market share.

Winners and losers among managers are being defined largely based on performance during the Great Recession.

But the change is a boon for institutional investors, which are gaining fee breaks and other concessions as the managers fight for assets.

Some of the biggest real estate managers that have had the easiest time raising new funds this year, including Blackstone Group LP, Brookfield Asset Management and Starwood Capital Group, were little known in institutional circles a decade ago.

Indeed, in less than half that time, the ranks of the largest real estate managers of U.S. institutional tax-exempt assets have begun to shift, with these relatively new entrants taking their place among the real estate investment firms that have been managing institutional assets for decades.

For example, Starwood Capital's assets managed for U.S. tax-exempt institutions have nearly doubled since June 30, 2009, to $10.5 billion, according to data collected for this year's Pensions & Investments' survey of largest real estate money managers. Blackstone managed $63.9 billion in total worldwide real estate assets as of June 30, with an estimated $21.3 billion for U.S. tax-exempt institutions, according to data provided to P&I by Blackstone. By comparison, Blackstone managed a total of $7.95 billion as of June 30, 2009, according to Securities and Exchange Commission filings.

“Consolidation has happened already. From my point of view, I see a fair number of new funds being raised and launched, and there are the haves and have-nots,” said Peter Rogers, investment consultant, real estate, at Towers Watson Investment Services Inc. in New York. “Fundraising is as hard as it has ever been. More consolidation is to come, but time will tell.”

One example of that consolidation occurred in September when Carlyle Group, Washington, bought New York-based real estate funds-of-funds manager Metropolitan Real Estate Equity Management.

That is not to say the household names are being edged out completely. Prudential Real Estate, TIAA-CREF, J.P. Morgan Asset Management, Clarion Partners LLC, Heitman LLC, Invesco Ltd. and RREEF, which was purchased by Deutsche Bank AG in 2002, have consistently been in P&I's top 10 list of U.S. institutional tax-exempt real estate managers since 2009 and have experienced respectable asset increases. But not all of the traditional managers have been as fortunate. Although still in the top 10, Principal Real Estate Investors' U.S. institutional tax-exempt assets dropped 30% to $13.9 billion as of June 30, from June 30, 2009.

The capital-raising scenario looks something like a barbell, with large and megacap firms raising plenty of capital and smaller, niche-oriented specialists firms also having success.

“Investors are generally favoring either the global large-cap investment strategies or small operator-sponsored sharpshooter-focused investment programs,” said Tyler Jones, San Francisco-based vice president, private real estate, Partners Group AG, which manages funds of funds, secondary market funds and direct portfolios. “If you're a midcap sponsor with a generic pan-U.S. value-added strategy, it's going to be tough to raise capital.”

This is all to the investors' benefit, Towers Watson's Mr. Rogers said. The balance of power has shifted to investors' favor in negotiating contract terms.

“We are seeing some managers offering a fee reduction for first-close investors,” Mr. Rogers said.

Managers are making these types of concessions to remain “competitive in a very competitive fundraising environment,” he said.

As a group, the top money managers on P&I's ranking are not necessarily gaining major market share. The market share of the top 10 real estate investment managers of U.S. tax-exempt assets stayed relatively flat at 52.4% for the year ended June 30. That is only three percentage points higher than four years ago, when 49% of the assets in P&I's universe were managed by the top 10.

“We're seeing a new lead crop of large managers,” said Nancy Lashine, New York-based co-founder and managing partner, Park Madison Partners.

Adding to the pressure on managers is that institutional investors are continuing to reduce their number of manager relationships, said Nan Leake, partner in the New York office of Partners Group.

“Limited partners themselves are tougher, more demanding and less relationship driven and more performance driven,” said Robert Bellinger, Bethesda, Md.-based president and CEO of ASB Real Estate Investors.

Because of this change, assets are beginning to flow between managers of open-end funds at a higher rate than he has seen in his 30-year career, Mr. Bellinger said.

A significant amount of assets have been flowing from poorly performing open-end fund managers to top performers, Mr. Bellinger said.

Net cash flows to the funds in the NCREIF Open End Diversified Core fund index were negative in the second quarter for the first time since 2010, but it is possible that was an anomaly, said Jeffrey Havsy, director of research at the National Council of Real Estate Investment Fiduciaries, Chicago. In the year ended June 30, net inflows dropped 31% to $3.7 billion from $5.4 billion in the year-before period. NCREIF will not be releasing the net flow information for the third quarter until Oct. 30.

But people haven't noticed the flows yet because it is tough to track. Information on which firms are raising money and which are getting redemption requests is not public, Mr. Bellinger said.

To be sure, some of the familiar names in real estate money management — including the granddaddy of them all, Prudential Real Estate, which practically invented the institutional real estate business four decades ago — remain on top.

“The big guys with good performance, performance that is above average ... are raising money,” Mr. Bellinger said. “It's hard to get in trouble for investing with them because of their names.”

Fundraising of closed-end funds has not been pretty. It took closed-end real estate managers an average of 18.7 months to close a fund in the first half of this year, a slight improvement of the 19.2 months it took in 2012, which was a five-year high.

There were 446 closed-end real estate funds attempting to raise a combined $168 billion in the third quarter, up from 434 funds aiming to raise a combined $156 billion in the prior quarter and 457 funds in the market to raise a total of $162 billion in the third quarter of 2012.

The biggest funds to close in the third quarter are managed by relative institutional upstarts, Blackstone Group and Brookfield Asset Management.

“There's been a big backlash from the financial crisis,” especially against closed-end and highly leveraged funds, said Peter Hobbs, London-based managing director and head of research for real estate research and index sponsor IPD, a subsidiary of MSCI Inc. “There's been a move (by investors) to take more control.”

There has also been a widespread move among investors toward separate accounts or strategic separate accounts, in which investors partner with managers to invest directly in properties.

“It's not in-house but it's close to in-house. It gives investors more control without the need to build up an internal team, which can be expensive,” Mr. Hobbs said.

Some investors, such as sovereign wealth funds, are skipping real estate managers altogether and are building in-house teams to invest directly in properties. And they are “hiring aggressively to do that,” Mr. Hobbs said.