PROPERTY REPORT
Real-Estate Funds Have a Problem: Too Much Cash
As deadlines approach for spending investor money, fund managers face challenges finding profitable buildings to buy
Private real-estate fund managers, sitting on record amounts of cash, are finding it increasingly difficult to spend all that money within the deadlines they promised investors.
Funds with fixed lifespans generally promise investors they will spend the money they commit within three to five years. But as of last June, closed-end real-estate vehicles launched in 2013 and 2014 still held $24.8 billion in dry powder, capital committed by investors that has yet to be spent, according to research and data firm Preqin Ltd.
The problem is likely to get worse. The total amount of dry powder held by closed-end private property funds increased to a record $333 billion this month, up from $134 billion at the end of 2012, according to Preqin.
In a 2018 survey, 68% of real-estate fund managers told Preqin that it was more difficult to find attractive investments than it had been a year before.
"A lot of firms have been sitting on their hands and not putting money to work, and that's dangerous," said Christian Dalzell, managing partner at real-estate investment firm Dalzell Capital Partners LLC and a former managing director at Starwood Capital Group.
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The delay is largely because it has become much harder for firms to hit their outsize return objectives one decade into a bull market. Finding profitable buildings to buy has become more challenging amid fierce competition, slowing rent growth, and fears that the real-estate market is heading for a downturn.
For private-equity firms, missing deadlines can mean either going back to investors and requesting an extension or being forced to return their money. For their investors—pension funds, endowments, sovereign-wealth funds and others—the delay can make it harder to meet their return goals.
Some private-equity firms are being forced to make course corrections in their investment strategy to meet their deadlines.
When Jamestown L.P. started raising capital from individual German investors for a U.S.-focused real-estate investment fund in 2016, it told them it would spend all their money by the end of 2018. But as late 2018 approached, the $570 million fund still had unspent capital and struggled to find properties that meet its investment criteria, according to people familiar with the matter.
Instead, in a bid to put its money to use before the deadline passed, Jamestown bought properties in all-cash and used far less debt than originally planned to finance the properties later on, these people said. The moves were unusual for the private fund manager, which tends to use debt to maximize returns
A person familiar with the fund said debt accounted for about 20% of the money it spent on acquisitions, significantly less than the 60% its terms allowed. Its acquisitions included the shopping centers Parkside Shops and the Exchange at Hammond in greater Atlanta.
“In an environment with increased interest rates, low cap rates and more questions about future growth, you need to be very disciplined,” a spokesman for Jamestown said in a written statement. “For our closed-end fund, the same discipline resulted in fewer acquisitions than originally intended, but substantially lower fund leverage which reduces risk for our German investors.”
The problem comes as private-equity firms are raising some of the biggest real-estate funds ever, thanks partly to their success in recent years in hitting return objectives. Earlier this year Brookfield Asset Management Inc. closed its largest-ever property fund at $15 billion. Blackstone Group LP is close to finishing raising a record $20 billion fund.
These larger firms argue they can meet their deadlines more easily than smaller peers because they invest globally and have so much capital available they can buy entire companies or portfolios. Brookfield’s new fund, for example, purchased the two-thirds stake in mall giant GGP Inc. that Brookfield didn’t already own.
Brookfield’s scale enables it to get returns “you simply can’t get if you’re an individual investor buying an individual mall,” said Brian Kingston, chief executive of Brookfield’s real-estate arm.
Blackstone’s global co-head of real estate, Kenneth Caplan, who declined to comment on the fundraising, said markets are fickle and whether or not there are opportunities to buy “can change pretty quickly.”
Some funds are setting less ambitious fundraising targets. Lone Star Funds recently disclosed in a public filing that it is raising $3 billion for its latest real-estate fund, which is about half the size of its previous one.
Others increasingly have been requesting extensions from their investors, according to Douglas Weill, a co-managing partner at advisory firm Hodes Weill & Associates. “When you start pushing beyond one year, investors start to ask what’s going on” and either refuse another extension or renegotiate fees, he said.
