by Zoe Hughes
July 4, 2016

The Funds That Could Drive RE Secondaries Growth

Real estate secondaries deals hit new highs in 2015, with more than $8.2B of transactions taking place across closed-ended funds alone.

While 2016 year-end volume might be more static, Jamie Sunday, a partner at Landmark Partners, and Phil Barker, senior managing director at CBRE Capital Advisors, argue that the opportunities on offer could be even more compelling thanks to the sheer weight of capital sitting in value-add and opportunistic funds already at the end of their lives, and the watershed sale of $3B of secondaries interests by CalPERS in November 2015.

In the first of a two-part interview on the real estate secondaries market, Sunday and Barker talk about their outlook for 2016 deal flow, the evolution of the sell-side market, and what’s driving future deals.

PrivcapRE: How does your outlook for 2016 transaction volume differ from 2015 deal flow?

James Sunday, Landmark Partners
James Sunday, Landmark Partners

Jamie Sunday, Landmark Partners: The industry saw $8.2B of volume [in global closed-ended funds] in 2015, and Landmark alone closed on over $1B worth of real estate secondary transactions last year. Real estate secondary transaction volume in 2015 represents a 70 percent increase from 2014 and overall, transaction volumes have been growing approximately 40 percent per year, for the past six years. It’s created a lot of very interesting opportunities for buyers.

When it comes to 2016, you could plausibly see growth from what we saw last year based on current market trends. That said we’ve taken a more conservative approach in our current forecast and project $15B to $25B of transaction volume over the next three years in the aggregate by applying historical NAV turnover rates to the current base of NAV outstanding across the industry. So at the high end of the range, we would see volume similar to what we saw last year, around $8.2B. If volumes fell below this, say $6.5B or $7B, transaction activity would still be very substantial.

Phil Barker, CBRE Capital Advisors: We’ve seen a rapid expansion of business in the last few years, somewhere between 25 and 35 percent year-on-year growth. Our volumes for 2015 are a little larger [than Landmark’s] as we capture a lot of the open-ended business that takes place as well as on the core side and so we think the market, globally, in 2015 was around $10B to $11B [of deal flow].

We think that it’s going to be reasonably static going into 2016, and there are a number of reasons behind that, not least that the market has cleared out some larger legacy portfolios that have been some of the drivers of volume in recent years.

What’s driving transaction volume? Did the California Public Employees Retirement System [CalPERS] sale of $3B of secondaries interests in November 2015 change the landscape for pension plans wanting to sell their positions?

Sunday: I would classify the two large public pension fund transactions in 2015 as watershed transactions. The notable one being the CalPERS transaction which can be viewed as a catalyst in signaling confidence and also encouraging other public pension funds to use the secondary market as a portfolio management tool. If this continues to play out the way it very well could, we could see a decent amount of growth from the levels achieved in 2015.

Barker: What’s going on in Europe [uncertainty over Brexit and market volatility] has been a significant deterrent to volumes. People have been sitting on their hands trying to figure out what to do next and where to price.

On the flipside of that, the change in the FIRPTA [Foreign Investment in Real Property Tax Act] rules for international pension funds investing in U.S. real assets is creating more opportunity as well and we’re seeing overseas buy interests looking to the U.S. We’re also seeing the denominator effect causing sellers to materialize out of core real estate.

But the strongest interest that we’re seeing is coming from overseas, in terms of wholesale large positions in the $25M, $50M, $100M clips that are significant.

Are you seeing more portfolio sales or single-position sales? 

Phillip Barker, CBRE
Phillip Barker, CBRE

Barker: Historically, the U.S. market has focused on portfolio dispositions with a wholesale change and rebalancing of predominantly legacy funds, rather than picking and choosing individual positions where investors see opportunistic value. And I see that time and time again when I talk to some of the larger pension funds and endowments—they’re either going to do something significant, or they’re going to do nothing at all.

Whereas in the U.K. we’ve seen a lot more opportunistic decision-making process, based upon pricing that’s prevalent in the marketplace and look at individual potential deals.

Our expectations are we’re going to see more of that happening in the U.S. as it becomes better understood, as the LPs who are in the marketplace realize that it doesn’t have to be all or nothing.

Sunday: It’s been all across the board. You’ll have groups looking to prune a single fund interest, or a certain GP. But the larger part of our marketplace—what really drove the larger component of volume in 2015—was a number of midscale to very large portfolio transactions where the seller’s motivation was to materially reduce the number of managers or reduce exposure to peak vintage funds.

We’ve also transacted with groups that have been impacted by denominator issues given stock market volatility. In addition, we have bought from a few corporate pension funds looking to de-risk their portfolio by converting fund holdings into more income-oriented and safer assets.

Are you seeing new sellers come to the secondaries market?

Sunday: The banks have been active sellers of their real estate and private equity fund positions over the last few years but I would say that the biggest trend we’re keeping our eyes on is what happens with public pension funds. U.S. pensions accounted for 63 percent of volume in 2015. That was driven by two large public pension fund transactions but that’s up from an average of 23 percent, from 2012 to 2014.

What we think is going to drive a lot of flow is the catalyst created by the CalPERS deal. We anticipate seeing a lot more public pension funds managing their portfolios, and if they do, that could significantly drive volumes.

But when you talk about the actual number of investors trading positions, it’s still low isn’t it?

Yes, by our tracking, only six U.S. public pensions sold real estate fund interests between 2012 and 2015. I would expect that number to increase sizably over the next few years.

How has the buy-side evolved over the years?

Sunday: The number of dedicated real estate secondary buyers that have the capital, expertise and resources to execute broad portfolio transactions is rather limited—approximately five or six groups right now. However, you have seen an increasing number of fund of funds and LPs throwing their hat into the ring for select fund positions, as they try to mitigate the J-curve and acquire interests in funds managed by GPs they have existing relationships with, or have previously underwritten from a primary perspective.

At the end of the day it is a significant amount of work to underwrite a portfolio of 10 to 20 or more funds with each fund owning 20 to 30 assets. That’s why the number of dedicated buyers has remained somewhat limited. However, over time, we expect the number of dedicated buyers to increase.

Barker: We’re seeing something very interesting in that people are using the secondaries market within the open-ended fund world to get in and out of positions faster. Because some of the more popular funds have entry queues in excess of 12 months, there’s an unknown quantum as to when your entry point will be exactly and what the price might be. So [by using secondaries] you can get in within a month or two.

Part of the reason the buy-side market remains limited is because it’s driven by the sell side. If you don’t have the inventory, there’s a limit to how much you can do. It’s about having a selling interest that is able and willing to mobilize and understand the value proposition. I believe that’s changing over time, especially as CalPERS and other larger players adopt this strategy. Investors recognize that a lot can happen during the life of a closed-end fund and you need to be a little bit more nimble and flexible as the world changes.

Sunday: That raises a very good point. There’s $177B of NAV across real estate funds, predominantly value-added and opportunistic, that have reached or have exceeded their legal lives. The extension requests are causing increasing levels of administrative fatigue and frustration across the LP community. This is starting to drive interesting opportunities in regards to fund recapitalizations and GP-led liquidity solutions.

Landmark Partners and CBRE expect 2016 deal flow for real estate secondaries to be less than 2015 volume, but the type of deals could get even more interesting thanks to peak vintage funds reaching the end of their lives.

Register now to read this article and access all content.

It's FREE!

  • Hidden
  • I agree to the Privcap terms of use and privacy policy
  • Already a subscriber? Sign In

  • This field is for validation purposes and should be left unchanged.