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Executives

Joan Solotar - Head of the External Relations and Strategy Group, Senior Managing Director, Senior Managing Director for External Relations and Strategy

Stephen Allen Schwarzman - Co-Founder, Chief Executive Officer, Chairman and Chairman of Executive Committee

Laurence A. Tosi - Chief Financial Officer and Senior Managing Director

Hamilton Evans James - President, Chief Operations Officer, Director, Member of Executive Committee and Director of Blackstone Group Management Llc

Analysts

Howard Chen - Crédit Suisse AG, Research Division

Michael S. Kim - Sandler O'Neill + Partners, L.P., Research Division

M. Patrick Davitt

Daniel Thomas Fannon - Jefferies & Company, Inc., Research Division

Matthew Kelley - Morgan Stanley, Research Division

Michael Carrier - BofA Merrill Lynch, Research Division

William R. Katz - Citigroup Inc, Research Division

Marc S. Irizarry - Goldman Sachs Group Inc., Research Division

J. Jeffrey Hopson - Stifel, Nicolaus & Co., Inc., Research Division

Robert Lee - Keefe, Bruyette, & Woods, Inc., Research Division

Roger A. Freeman - Barclays Capital, Research Division

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

The Blackstone Group (BX) Q4 2012 Earnings Call January 31, 2013 11:00 AM ET

Operator

Welcome to the Blackstone Fourth Quarter and Full Year 2012 Earnings Conference Call. I would now like to turn the call over to Joan Solotar, Senior Managing Director, Head of External Relations and Strategies. Please proceed.

Joan Solotar

Great. Thanks, Erica. Good morning, and welcome everyone to our fourth quarter and full year 2012 conference call. I'm here today with Steve Schwarzman, Chairman and CEO; Tony James, President and Chief Operating Officer; Laurence Tosi, Senior Vice President and Chief Financial Officer and Principal Accounting Officer.

Earlier this morning, we issued a press release slide presentation illustrating our results available on our website. We're going to file the 10-K at the end of next month.

So just to remind you, the call may include forward-looking statements which, by their nature, are uncertain and outside of the firm's control. Actual results may differ materially. For a discussion of some of the risks that could affect the firm's results, please see the Risk Factors section of the 10-K. And we don't undertake any duty to update forward-looking statements.

We will refer to non- GAAP measures on the call. For those reconciliations, you'll find them in the press release. And I also want to remind you that nothing on this call constitutes an offer to sell or a solicitation of an offer to purchase any interest in any Blackstone fund. This audiocast is copyrighted material of Blackstone and may not be duplicated, reproduced or rebroadcast without consent.

Moving on to the results, just a very quick recap, we reported economic net income or ENI of $0.59 per unit for the fourth quarter. That's up from $0.42 in the fourth quarter of last year. We reported a full year ENI of $1.77 per unit for 2012 and that's up sharply from $1.38 in 2011. The improvement was driven mostly by growth in fee-related earnings due to higher asset levels, as well as greater appreciation in the underlying portfolio assets really across the board.

For the fourth quarter of 2012, distributable earnings were $449 million or $0.39 per common unit. That's more than double last year's fourth quarter. And for the full year, we generated distributable earnings of $0.85 per common unit. That's up from $0.60 in 2011. You probably -- well, we'll be paying out $0.42 per unit distribution related to the fourth quarter to common unit holders of record as of February 11, and this includes the true-up from the first 3 quarters of 2012. So that payment date will be February 19, which hopefully you've noticed has moved up about 6 weeks from last year's payment date.

For 2013, we've made a change to the distribution. We've increased the base quarterly distribution by 20% to $0.12 from $0.10, and we're also going to pay out the excess net cash available on a current basis so that there won't be a fourth quarter true-up. Investors will just get the cash earlier.

And then one final note from me, we're going to host our third Blackstone Investor Day on Friday, May 3. That will be in New York at the Waldorf. We've sent out a save-the-date e-mail, but if you didn't receive it and you want to attend, just follow up with me or Weston Tucker after the call. And in addition, let us know if you have any questions and we'll hopefully speak to you later.

With that, I'll turn it over to Steve Schwarzman.

Stephen Allen Schwarzman

Good morning, and thanks a lot for joining our call. The fourth quarter capped a successful and eventful 2012 for Blackstone as we continued our trend of strong growth and performance against the backdrop of market volatility, political dysfunction and regulatory uncertainty.

We grew our earnings by 30% to $2 billion, our best performance since becoming a public company. And our distributable cash rose 48% over $1 billion. We ended the year with record total assets under management of $210 billion, up 26% year-over-year, marking yet another year of double-digit organic growth, despite the fact that several of our businesses were already the largest in the world.

We've grown assets in average of 28% per year over the last 20 years. Today, we remain the only alternative manager with leading scale and performance in all of the major asset categories. And as a result, I believe Blackstone remains the global leader in the alternative space.

As we continue to take share in all of our businesses, our scale and leadership helped drive a virtuous circle of better performance and further growth. We've had consistently strong investment performance across market cycles since our inception 28 years ago, and 2012 was no exception.

Our Private Equity funds rose 7% in the fourth quarter versus negative returns for the market. This shows the uncorrelated nature of some of these things, with strong gains in both of our private and public portfolios of 6% and 10%, respectively. The Private Equity funds rose 14% for the full year, also beating the markets, with basically all of the return coming in just the second half of the year.

Our BCP V global fund had a gain last year of $2 billion, almost entirely in the second half as well, although it did not drive carry because it is not -- it is currently below the preferred hurdle and is now being held at 1.2x cost.

Our current to BCP VI fund and our energy fund in Private Equity, however, are both above their respective hurdles and are marked at 1.2x and 1.7x respectively despite the fact that both funds are early in their investment periods. In addition, our BCP IV fund has $2.8 billion of capital still in the ground and that fund is marked at 2.7x cost, including realized proceeds for a net IRR of 37%. So when Private Equity works, it really works, much like it's doing for our 2 current investable funds.

Our Real Estate business saw a similarly strong performance in 2012, with our opportunistic funds appreciating 14% for the full year and our debt strategy drawdown funds up 13%. Our debt strategy hedge funds appreciated 18%. All of our global funds, as well as our current European Focus Funds in Real Estate are fully in carry. And as of year end, we had accrued $1.3 billion in carry net of compensation in our Real Estate business.

Our BCP VII global fund, the biggest in the world, which we've been investing for about 1.5 years has already achieved a net IRR of 31%, which is actually pretty amazing.

Moving on to our Hedge Fund Solution business, which had a composite return of 9% in 2012. This is roughly double the HFR benchmark, which is what's used in the hedge fund world. So we're earning double the benchmark, with only 1 quarter of the market's volatility, which again, is pretty unusual from a risk perspective. Our size and reputation continue to give us a competitive advantage, and we've generated consistent top quartile or, often, top decile returns over the last 1-, 3- and 5-year periods. And as Tony told you on the earlier call, is one reason why we're rapidly gaining share in this business.

And our Credit business had a truly standout year in many regards, but notably, in terms of fund performance across all of their strategies. Within our flagship funds, Mezzanine returned a net 26%. For those of you who really follow this stuff, Mezzanine is supposed to be earning a lot less than equity returns, and this is a 2007 Mezzanine fund earning 26%. Our rescue lending fund was up 16% and our credit hedge funds rose 13%, all of these dramatically beating benchmarks.

In terms of fundraising and innovation, our consistently really strong performance across all asset classes and through all market cycles is a critical differentiating factor for us versus other asset managers. We seek to preserve and protect our investors' capital in down markets. That is a prime tenet of how we run the firm. We're here to preserve and protect our investors' capital. And we harvest our gains when the markets are more constructive, which is something we've told you about over a period, and now we're moving into this period. And this stability and consistency results in deeper relationships with our LPs and a greater share of wallet with them and strong long-term relationships.

We've raised at Blackstone $34 billion of capital in 2012, which is actually a pretty stunning number, and that excludes the assets we acquired by buying Harbourmaster and Capital Trust. During the fourth quarter, we had a first close on our new rescue lending fund in GSO, which has already reached the size of our first fund at $3.3 billion and we expect will reach the $4 billion to $5 billion this year for that fund. Also in our GSO area, we priced our third CLO of 2012. If you remember, that market was dead as a doornail 2 years ago, raising over $500 million, bringing our CLO and other customized credit strategy fundraising to $8.5 billion for the full year.

In both Credit and Hedge Fund Solutions, our ongoing diversification continues to drive strong asset growth. Our Hedge Fund Solutions segment reported $2.4 billion in net inflows in 2012 or $2.8 billion, including the January 1 subscriptions. This represents 8% of the aggregate inflows of all hedge funds. Sometimes these calls throw a lot of numbers at you, but imagine that we've raised 8% of the aggregate inflows of all hedge funds just at Blackstone. It's in sharp contrast to the continued outflows for the traditional fund of funds industry.

Through ongoing innovation of our customized solutions business for our clients, we've completely differentiated ourselves away from a traditional model. The result is that of the top 10 fund of funds managers 4 years ago, our Hedge Fund Solutions group is the only one that has grown AUM and we've doubled in that time frame. Every other manager has lost assets, so I think our team there, led by Tom Hill, has really been doing something very right.

In Real Estate, we began fundraising for our next Debt Strategies drawdown fund, and we also started raising our first dedicated pool of capital in Asia. It's a very important initiative for us to become the most active, opportunistic Real Estate investor in Asia, deploying $1.5 billion over the past few years, plus building a deal team of nearly 50 people in 6 offices. So this fund is a natural extension of our efforts there.

We're often asked, "What is Blackstone's asset mix going to look like in a few years and what are our fundraising targets?" The hallmark of our firm continued growth is innovation, targeting opportunities that are new in the market and launching new products to help our limited partners where we can take advantage of these opportunities to maintain our track record of strong performance and help our investors. Our culture is built upon this. Over $70 billion of our current AUM of 210 come from new product, strategies and regions where we didn't even have businesses 5 years ago. So this is a business that prospers with innovation and it's necessary.

Today, we have a total of $35 billion in dry powder to invest over the coming years and our product innovation should continue to create new and unique investment platforms for our investors who are our most valued relationships.

Now in terms of capital deployment, we've been very active in putting our capital to work. Our investment pace has been at record levels, which is a good thing, with over $18 billion in total capital deployed or committed in 2012 and over $8 billion in just the fourth quarter. Following a record year of issuance that we talked about earlier with Tony in both the investment-grade and leveraged finance markets, the financing environment for new deals in 2013 remains attractive. Credit spreads are trending at mid-cycle norms, and what that means in English is that spreads have come in or getting to a bit more traditional relationships. But with benchmark rates at historic lows, borrowers are able to lock in favorable rates. Credit issuance remains mix of funding for new LBOs, dividend recaps and opportunistic pricing, while asset prices have increased in certain sectors and regions, and that happens when credit comes in like that.

We are still seeing attractive opportunities in many places in the world, including energy, which has been a huge exposure for us; distressed and overleveraged real estate where we're the largest in the world; India, where it's a good time to buy because it looks like it's not as strong as it's been, that's usually when you want to make your bets; and consumer finance. In credit, the search for yield continues to drive demand for products. With the Fed driving rates down to less than 2% for treasuries, people are really starved for yield. The pullback by banks has resulted in a lot of opportunities for the firm.

Now in terms of realizations, if we think about the environment, our investors saw us preserve and grow their capital in the last down cycle. And we talked about that and we weren't as popular with you because we didn't sell things at low prices to make you happy. Well, now, we're making you happy. And now, I think it's becoming increasingly evident that we're reaching an inflection point in terms of realizations assuming markets remain constructive.

We've had $12.6 billion of realizations in 2012, with 1/2 of that in just the fourth quarter, so it shows what happens when things line up for us in terms of scale. This drove realized performance fee and Investment Income revenue of over $720 million for the year. Roughly 1/2 of our performance fee revenue in 2012 was from our annual incentive fee businesses within Hedge Fund Solutions and credit, which generally crystallized in the fourth quarter. So that's when you see it. As these businesses have grown and more assets move above high water marks in the case of Hedge Fund Solutions, the ability to generate annual incentive fees becomes much greater and much more predictable.

Fourth quarter realizations picked up for both Real Estate and Private Equity as well. We sold our Sunwest senior living business, a $220 million investment, at a multiple of invested capital of 2.4x after a 2-year hold period. When Real Estate works, it really works. 2.4x your money in 2 years, if we did that with every piece of Real Estate, we'd be managing most of the money in the world. But it does happen and it isn't just an odd outcome.

Real Estate. Given the maturity profile of our assets and the buy it, fix it, sell it approach, and the underlying bid in the market to stabilize assets, particularly with low yields that people are trying to run away from and get some more current income, we expect this year and next year to be substantially higher years for realizations than in the past few years.

In Private Equity, most of our fourth quarter realizations were in BCP V, including the sale of Alliant Insurance Services to a financial buyer at a nice profit and the public offering of PBF Energy, which is a refinery business which we brought public at 5x our original cost. I believe the price was $26 a share and now it's somewhere in the low $30s, I think it's around $32, so that's not bad performance for about 4 to 5 weeks.

We also completed another follow-on sale of a portion of our investment in TeamHealth, an investment in BCP IV, which generated a multiple of invested capital of 4x our investors' money, which, of course, generate significant carry over time for the firm.

We've taken 8 companies public in the last 2 years, which we will sell down opportunistically and we've had more pending, including filings for SeaWorld, Pinnacle Foods and Michaels. And by the way, at SeaWorld, we're opening a new penguin area. It's going to be absolutely fantastic and you should definitely go down there and take your family because I'm seeing what the thing looks like and it's fun. We actually had 2 penguins here at the firm a few weeks ago on our board room table. I don't know, I'm not sure exactly what that thing about is, but it was amusing.

In summary, it's now been over 5.5 years since we've launched Blackstone's initial public offering. During that time, and who could have imagined it, we've navigated the worst financial crisis in memory, a deep and long-lasting global recession and massive derisking and deleveraging across the globe. Despite these momentous in depths, we've grown assets every single year, with strong organic growth in every one of our investment businesses because of the loyalty of our limited partners and their sagacity and the fact that we've protected their capital when almost no one else did. And we're really focused on servicing our limited partners.

We've also paid out a cumulative $4.56 per common unit in cash distributions despite depressed realization levels. Our growth is indicative of the secular shift towards alternatives, that's underway it has been for quite some time. With increasing allocations driven by funding gaps at pension funds and endowments around the world and growth in the limited partner capital pools, of sovereign wealth funds for example, who haven't been in this asset class, who realize that the returns are much, much higher than conventional investments and the risk, in fact, is lower. And whenever you get high returns with low risk, money flows in that direction and that's our business.

More importantly, however, our scale and performance are increasingly driving economic and competitive advantages in every businesses we're in, resulting in very large share gains for the firm.

I'm excited, as you can tell, not always excitable, but I'm excited right now about our leadership positions we've built and reinforced for each of our businesses, including the remarkable people we have here at the firm. It's really a fantastic team of experienced people who are on a mission to do well for you and to do well for our limited partners. And I believe that as a combined firm, we're better positioned than ever to identify and make great investments, deliver a very solid outperformance and drive good returns for our public market unit holders.

And with that, I'll ask LT to take over with the review of our financial results.

Laurence A. Tosi

Thank you, Steve. Good morning, everyone, and thank you for joining our call. A few thoughts on AUM and growth. The fourth quarter of 2012 provided a strong finish to another solid year by Blackstone by almost any measure. All of our investment businesses generated double-digit growth in assets for the third straight year, propelling total AUM of 26 percentage points to a record $210 billion at the end of the year. 90% of those assets came from pure organic growth, with the remainder reflecting assets we strategically acquired to broaden our investment capabilities. Over the past 24 months, Blackstone has had $96 billion of gross inflows and $61 billion of net inflows with the difference coming from the $35 billion in capital we returned to our investors.

A few thoughts on earning drivers. Fund performance and sustained value creation are the primary drivers of Blackstone's business model and our financial performance. Our 2012 revenues grew 24% to a record $4 billion, on a 36% increase in performance fees to $1.6 billion and our continued fee revenue growth to a record $2.2 billion, which was also up 14% year-over-year. That continued strong revenue growth, combined with margin expansion, helped generate $2 billion in full year earnings, up 30% from the prior year.

An important sign of continued momentum can be seen in the components of our $2 billion in earnings as the net realizations and fee earnings increased almost 60% of the total earnings, reflecting record asset growth and an increasingly favorable environment for realizations. The combined net realization and fee-earning components of our earnings have more than doubled since 2009, with the sharpest increase coming over the last year, particularly in the fourth quarter. The depth of that increase is evidenced by the fact that the $724 million in realization revenue was generated by over 200 distinct transactions across more than 60 funds in the last year alone.

At the same time our earnings continued their fast pace of growth, we continued to make critical investments in capabilities across our platform, including expanded fund offerings, global opportunity origination, portfolio of operations, LP marketing and support and technology and risk management, all of which have helped generate sustained double-digit organic growth. We have made these disciplined investments in growth without sacrificing profitability, which resulted in 50% margins for the full year and reached 55% in the fourth quarter. In periods with healthy incentive fees, there's meaningful operating leverage to Blackstone's business model.

A few observations on the balance sheet. Blackstone finished the year with $6.7 billion, grew $5.95 per unit in total cash and investments, of which $2.3 billion is in cash and liquid investments. Another $2.2 billion is in highly diversified investments, primarily in Private Equity Real Estate, which grew as carrying values increased and are now being held at 1.3x cost across more than 250 distinct assets in over 95 different funds and structures.

Strong value creation drove our current performance fee receivable, net of compensation expense, to a record $2.2 billion or almost $2 per unit. The majority of that receivable is driven by more than $80 billion of assets under management in our mature funds, which currently paying performance fees as investments are realized. Newer funds, still in their investment period, are also growing performance fees that will set the stage for future cash realizations.

A couple more comments on distributions. As Blackstone's earnings have steadily grown and diversified over the last few years, it affords us the opportunity to increase our quarterly base distribution by 20% to $0.12 per unit. Additionally, to create better alignment and timing for our unit holders, we will distribute cash earnings above $0.12 per unit in the current quarter as earned. Finally, we will also accelerate the payment of our quarterly distribution by nearly 6 weeks. In this case, we'll be paying our fourth quarter distribution on February 19 for record holders as of February 11. We anticipate that investors will better value the higher quarterly base and the accelerated cash flow.

In closing, 2012 was an exciting year at Blackstone in which we have continued to see returns on the investments and decisions we have made over the last several years. With now almost 1,800 people strong in 25 offices globally, we have invested record levels of capital since the crisis and what we believe will prove to be attractive levels. Today, despite these activity levels, we still maintain an additional near-record level of available capital to invest in new strategies and ideas across the firm's businesses and an interesting time at global markets. All of us here at Blackstone have worked hard together to put the firm in this position and we are more focused than ever, not at what we've accomplished so far, but our outlook and what we have yet to achieve.

On behalf of everyone at Blackstone, thank you for joining the call, and we welcome any questions you may have.

Joan Solotar

And if I could just -- before we take questions, we have a very large number of folks on the call and we now have 17 analysts covering us, so if you can, at least for the first round, just limit it to 1 or 2 questions and then just put yourself back in the queue, that would be great. Okay, let's go.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from the line of Howard Chen with Credit Suisse.

Howard Chen - Crédit Suisse AG, Research Division

Steve, over the past few quarters, we've heard a tone of caution from you and Tony, given the low level of rates, the rallying equity markets, the fragility in recovery and this policy risk that we've all been talking about. And then today, we're hearing a markedly more positive tone or at least that's what I hear. So I'm just hoping you could add some color and maybe what you all see across the market in your portfolio companies that's maybe changing that mindset a bit.

Stephen Allen Schwarzman

Yes, I think, Howard, that you do detect a different tone, and maybe I had one more cup of coffee than I should have. But we're seeing strengths in the housing sector which is certainly something new in the last 5 years or so. And that's an asset that is typically the largest asset that most Americans own. And there's virtually no place where housing is going down and there are many, many places where housing is going up. So I think that's an area of real significant change. If you look at autos, you're also seeing almost a doubling from the bottom in terms of order production. So that's saying something about something. And third, from traveling abroad pretty extensively, the impact of potential energy independence on our country, here in the United States, is viewed, forget how we view it here in the United States, but from the perspective of people abroad as a really paradigm-changing type of change. And assuming that nothing goes wrong with approvals to do frac-ing, and we keep producing these very large amounts of natural gas, this is an engine that could really drive real future growth in ways that are really wholly unanticipated. On the other side, I mean, you see these mediocre results from the fourth quarter in terms of GDP, not every area that we're involved with is showing that kind of growth. Some of that softness comes out of government spending and some other things. And so we don't have a free pass. But what we are seeing with our business is that the spread between illiquid securities and the returns we can make and what people typically can get, not necessarily from last year and the last half on the stock market but on fixed income instruments, is so huge that it's driving our business in terms of flows. And that compression will also increase the value of assets, may make it a little harder to set up some things, but it takes this huge amount of assets that we have in the ground where we've been improving these things. And it will create, in all probability, a pop in all of those asset values that you'll see washing through sort of our financial statements. And so that's the reason why you're hearing more enthusiasm from me. I'm sure Tony will give you something a bit more sober, but -- to the nature of our personalities.

Hamilton Evans James

Yes, I didn't have any coffee this morning.

Howard Chen - Crédit Suisse AG, Research Division

Okay, great. And then for my follow-up, just circling back to Europe, Steve in there, you spent a significant amount of time, you noted in the past the irony that the assets haven't really -- the distressed assets haven't really moved because the marks have been too onerous for the institutions that hold them. So given the rallying that we've seen in the asset prices and the seemingly improved Basel III readiness that some of these management teams talk -- at least talk about, are you detecting any kind of change in that bid-ask in the region?

Stephen Allen Schwarzman

The asset class that will trade the most is in Real Estate, not corporate stuff in terms of loans, and Real Estate still has some of the issues that you mentioned. On the other hand, what happens is different countries decide at different times that, in some cases, when those assets have gone into operations, which are no longer just private sector, when banks collapse and things get sold, some of those are starting to move. For example, we just bought a good-sized hotel in Dublin where we think we can go quite -- do quite well but we have to fix it all up and so forth. And so we're seeing a steady flow of those, but Basel III makes it somewhat hard for financial institutions across the board to just blow things out. I think in a funny way that as those assets increase in value will make it easier for some of those assets to move because they'll result in less write-offs and then we have to make sure that if we are the buyer of those, we can improve them enough to make our returns.

Operator

The next question comes from the line of Michael Kim with Sandler O'Neill.

Michael S. Kim - Sandler O'Neill + Partners, L.P., Research Division

First, Steve, you touched on this earlier, but just on the realization front, things obviously stepped up towards the end of the year, so just curious to get your take on sort of the trajectory going forward as you kind of look across the Private Equity, Real Estate and Credit businesses and then just some of the drivers behind the continued step-up.

Stephen Allen Schwarzman

I mean, I'd like to throw that over to Tony because -- I mean, I can give you that answer, but nobody knows that answer, right? That's really the problem. It should be an acceleration just given where the Real Estate markets are moving. And if the stock market stays up, we'll see more and more of this in the Private Equity area. But I think Tony, you want to?

Hamilton Evans James

Well, I think Steve answered the question basically. Just to separate those 3 into categories, I don't see a lot of realizations near term in credit. We've had some pretty good realizations and the challenge, of course, for a lot of our credit businesses, our refinancings, now we're getting money back that we'd like to keep out there earning high returns because these companies were able to refinance cheaper. With respect to Private Equity, we had 3 big realizations, sizable realizations, at the end of the year. We've got 2 IPOs on file. We've got a number of other public companies that we're discussing, accessing the equity markets. So I would say that Private Equity will be driven heavily by the stock market as things now look at. We don't have a lot of strategic discussions going on, but we do have a lot of our companies looking at equity financings and equity -- and the distributions that will flow from that. Real Estate is where I think you'll see the big activity in terms of dollar scale because those assets are lumpy and there's a very good -- we've had them a long time. We've had a lot of assets that we've held since 2007 and there's a very good bid for those assets because cap rates are low and a lot of people want the security of hard assets. And the -- even though the economy isn't all that strong, the lack of building in commercial real estate means that commercial real estate results are very strong. Commercial real estate results are much stronger than the economy, if you will. So we're seeing stronger operating results in Real Estate than we are in our companies, which means that we're going to push those along further there. In other words, the [indiscernible] have matured quicker and then we've got a very good bid for them. So I think that's where you'll see the activity and I think you can expect 2013 to be bigger than 2012 and I don't really want to be much more specific than that.

Joan Solotar

I just want to add one more thing. We're now of the size where both BAAM and GSO have contributed pretty good incentive fees, and those crystallized in the fourth quarter, so there's a bit of seasonality to it. And assuming regular performance, that should continue.

Michael S. Kim - Sandler O'Neill + Partners, L.P., Research Division

Understood. And then maybe one for LT. It looks like both base and performance fee compensation stepped down in the quarter. Was that just a function of maybe lower fund-raising activities on the base side and then maybe more of a shift in the mix of funds generating carry this quarter?

Laurence A. Tosi

It was a shift in the mix of funds, particularly with respect to where you see most of that occurring was in the BAAM and GSO, where they had very strong incentive fees. And typically, when you have a very strong incentive fee quarter, the base compensation number will be slightly lower.

Operator

The next question comes from the line of Patrick Davitt with Autonomous Research.

M. Patrick Davitt

There's an increasing concern about a 1994-like scenario in the credit markets, and given how big you've gotten in that business, could you speak a little bit how you prepare for a risk like that in terms of managing the risk in your portfolio of credit assets?

Stephen Allen Schwarzman

I think our people in our credit area are reasonably wary of sort of the level of interest rates. I mean, the Fed has been very aggressive, as we all know, in terms of buying government debt and keeping interest rates low until they like, where the level of unemployment is, which is lower than where it is. And at some point, that's going to reverse and that's going to be one unhappy day for people who are very long, and that's going to happen. The only problem is, nobody knows exactly when it's going to happen, but you know it's going to happen. And so given how low interest rates are, there's a reasonable chance that you can get hurt if you're really not in floating rate, if you maintain a current position, you don't structure yourself well. So we've been significant sellers of some of that exposure and that's the way we're dealing with it, I'd say, with caution.

Hamilton Evans James

So just to flesh that out a bit, you can -- our guys have moved their portfolios shorter in duration. They've moved from fixed to floating. They've moved up the balance sheet. And they're sitting on a lot of cash and so -- on the portfolios where you can move. With respect to the drawdown funds which are illiquid -- long-term illiquid securities, their securities are much higher rate, 400 to 500 basis points above the rate that bonds in the high-yield market trade, because the spreads for illiquidity have widened out. So if the market backs up, you'd actually expect the spreads to contract a little, maybe somewhat protected, number one. Number two, they're typically -- their debt to cash flow is 3x to 5x cash flow versus 5x to 7x in the public markets, so they tend to be less levered and have bigger equity cushions. So we've taken approach that's, I would say, at this market, reasonably defensive and have still been able to earn some pretty good returns.

M. Patrick Davitt

Just finally, in BCP V, it looks like the realized net IRR fell 1% from 31%. Can you talk about the dynamics driving that?

Laurence A. Tosi

I think you might be, on BCP V, mixing a couple of numbers. So if you look where -- okay, Patrick, if I can for a sec, BCP V is now at 1.2x total MOIC, but I do think maybe you're just transposing numbers.

M. Patrick Davitt

I'm looking at the 3Q press release that shows a 31% net realized IRR for BCP V.

Laurence A. Tosi

Yes, that's just the realized piece, it's relative. That's on -- and that's on VI.

M. Patrick Davitt

Okay. It says V, I'm looking at it right now but -- we can talk about it offline.

Joan Solotar

I think you're just looking at -- you're comparing total fund to realization.

Operator

Our next question comes from the line of Dan Fannon with Jefferies.

Daniel Thomas Fannon - Jefferies & Company, Inc., Research Division

I guess just thinking about investment opportunities, it sounds, based on a lot of your commentary, you're pretty optimistic about what's out there, as well as looking at 4Q pace of activity accelerated. So the $12 billion of AUM not earning fees today, kind of flow-through into the management fees over time, any ballpark at how we should think about that?

Stephen Allen Schwarzman

Well, for some of the reasons we've mentioned, that is to say, that general M&A activity is not all that high right now. And similarly, equity markets have come up and yields are low. It's been a better -- it's not an easy environment to put a lot of money out. I would think that in our credit business, for the reasons I mentioned, we're being cautious. In our Private Equity business, the general level of deal activity is lower, and again, the debt has pushed up prices, we're a bit cautious. And the Real Estate, we've had just been on a massive investment program with over $9 billion last year. That level is some kind of historic record and is clearly not sustainable. There's still plenty of stuff to do, particularly in Europe, which is lagging the U.S., and increasingly in Asia. But I wouldn't be counting on continuing to put out $9 billion a year. I think we've -- the wheels would come off this place.

Daniel Thomas Fannon - Jefferies & Company, Inc., Research Division

Okay. And then I guess just clarifying the change in the distribution policy with regards to the whole back, is it that just a timing thing or as you think, it decides your balance sheet and the need. The investment opportunities you see from a corporate perspective, have they changed at all?

Hamilton Evans James

No, they haven't. I mean, all we've done is change it. We've raised the base level of dividends because our business has grown and we feel like we can basically give investors confidence that they'll get at least $0.12 a quarter regardless of what all else happens in the world. And then we've just taken that true-up we had in the fourth quarter and just spread that over the course of the year, so people got their money earlier and we didn't have such a one big payment that some of us worry might distort trading patterns or what not of the stocks. So investors will get what they earn quarterly instead of having to wait towards the end of the year.

Operator

Our next question comes from the line of Matt Kelly with Morgan Stanley.

Matthew Kelley - Morgan Stanley, Research Division

Specifically on real estate, it looks like you invested about $2.1 billion, $2 billion BREP VII in the fourth quarter and maybe $3 billion to $3.5 billion over the second half of the year. So there was a little over $8 billion left there, are you guys close to or thinking about at this point raising BREP VIII? I know that's kind of a leading question but just curious how far out we may be based on the pace of investments you're making now?

Hamilton Evans James

Well, we still that's still a ways out there. And as I say, we don't expect this level of investment to be sustained. We do have, as you know, we have some other Real Estate products in the market and some of that will also affect the pace of investment of BREP VII. So for example, right now, if we do an Asian deal, 100% of it is funded by BREP VII. Once we have the -- we're in the market with an Asia fund, once we have the Asian fund, the Asian fund and BREP VII will share the deal, so I think it's a ways off still.

Matthew Kelley - Morgan Stanley, Research Division

Okay. And then the follow-up from me would be just in terms of BAAM, you mentioned that you raised 8% of funds for Hedge Funds last year. So going forward, I know that you guys have been able to take a lot of share in that space. You've been growing, industry has been shrinking. You think that accelerates from here or are we kind of status quo, and you take a little bit of more share? How are you thinking about that going forward?

Laurence A. Tosi

I think the Hedge Fund Solutions business, as far as BAAM, is a business that particularly thrives on innovation. And if you're just doing the exact same thing that you were doing before, won't be so happy for you. And so we have a lot of really interesting things going on in that area. We've got a terrific team. We've got a number of new products that will be in the market this year that we think are going to be very well received, that will keep that business growing. About 60% of our growth in a given year typically comes from our existing investors, who are looking for different approaches, different solutions and when we bringing products to the market, to the extent we've done a good job historically, we get a pretty good hearing. So I think it's really about introducing new things and managing what you got really well.

Operator

The next question comes from the line of Michael Carrier with Bank of America.

Michael Carrier - BofA Merrill Lynch, Research Division

First question, you mentioned a few things on the seasonal side just in terms of the crystallization of some of the performance fees and credit and BAAM. The 2 other items I just wanted to get some color on is in BAAM just as it flows this quarter. Usually, it's relatively weak and then it starts to ramp up, so any color around that in terms of what you're seeing. And then just on the fee-related earnings, obviously, a strong quarter, some of that was driven by advisory in transaction in revenues. So just what you saw in the fourth quarter, any like lumpy items in the outlook kind of going into the 2013?

Joan Solotar

On BAAM, they are lumpy, as you noted, and we actually have a good pipeline going into 2013, not surprisingly because 2012 was one of our best relative performance years. And so I think that was the issue there.

Stephen Allen Schwarzman

So I'll take a whack at some of that and LT, maybe you can fill in around me here. And just in terms of -- there were good couple of questions in there. In terms of the -- BAAM has got a couple of very interesting products in the market and we think that they'll continue to gather assets. I'm personally hopeful we'll do as well next year as we do this year. I do see any reason why we wouldn't. We think there's a long runway ahead, and I know the BAAM guys are talking about and they shut it up. Well now they have significantly greater AUM, let's put it that way, I don't want to put a number on that, as a long-term goal. I mean very significantly greater. With respect to the seasonality of the business, all of our businesses are seasonal actually, and one of the things that happened this year with the whole fiscal cliff negotiations and the tax rates going up, there's a lot of companies raced around and tried to do things to beat the end of the year. That might be selling assets, it might be paying dividends, it might be one thing or another. It also might just be companies wanting to refinance to take advantage of the low interest rates not knowing what would happen with the fiscal cliff and not wanting to have the risk of that happening. So our M&A, for example, business had the best fourth quarter in the history this quarter, and so -- and there were a lot of closing. So it was a rather frenetic fourth quarter and it was pretty much frenetic across the board, I would say. BAAM and GSO got the performance fees they talked about. M&A and the Advisory businesses had a bunch of closings, although they have those business still have pretty good backlog. Private Equity had 3, I think, significant realizations, 2 equity financings in a sale of a company. And Real Estate's both realizations and closings ramped way up. So all businesses really, they sort of got hot in the quarter.

Michael Carrier - BofA Merrill Lynch, Research Division

Okay. That's helpful. And then just as a follow-up, just on BCP V, when you look at -- you've obviously seen some improvement in some of the performance. When you look at some of the key, like industries, the investments that you made, is there anything that's changing or anything that's improving to a level that you feel like it's worth bringing up, just in terms of the outlook of some of those areas because obviously, it's hidden in terms of exactly what's going on, but yes, the environment is improving and just any color on that is always helpful.

Hamilton Evans James

Well, Michael, it's pretty much -- it's the whole portfolio. It's a big portfolio. It's got 30 companies or something. It was up 7% for the quarter. The whole portfolio is doing well. It's not one thing and it's a combination of steady growth and the paydown of debt which created those 2 -- with the way LBOs work, those 2 things create equity value. Our public -- interestingly, I mean LT can probably tell you, but our public portfolio, we have a bunch of public holdings there, so of course that goes up with the market, but I think our private portfolio was up more than the public portfolio.

Laurence A. Tosi

In the fourth quarter, actually, the public was up more than the private.

Stephen Allen Schwarzman

I think as you look at that, it's really about growth and it's really about valuation level. To the extent that you have a robust stock market, over the next 1 or 2 years, I don't know whether you will or you won't, but to the extent that you do, we share in that in effect disproportionately. And we do that because we have our companies on leverage, so it's, really, it's leveraged equity and so that's very helpful. To the extent that the U.S. economy or foreign economies where we have those type of assets, and I'm talking more in the Private Equity area now than some of our other ones, then we benefit from that kind of recovery as well. So those are 2 macro drivers that really affect us.

Operator

Our next question comes from the line of Bill Katz with Citigroup.

William R. Katz - Citigroup Inc, Research Division

Just I'd like to talk a little bit about the potential for realizations. I was wondering if you could comment on, in prior cycles, I think since you've been a public company, it's probably a little more lumpy, but in private cycles, maybe the relationship between the yield of ENIs sort of with fee-related earnings and realizations relative to ENI in prior cycles. And then within that, I don't know if you could even talk to that in particular business lines like Real Estate and or Private Equity at this point?

Joan Solotar

So generally, if you assume a 2x MOIC and a 4-year going in investment period in 4 years coming out, it will be a relationship of 2:1 over the life of the fund, net earned carry to management fees. Historically, we've actually done better than 2x. We've been close to 2.5x, so the ratio was even greater.

William R. Katz - Citigroup Inc, Research Division

Okay, that's very helpful actually.

Hamilton Evans James

And let me just make a note, too. So there's marks which are in ENI of course, and then there's realizations which are when those are crystallized and then ultimately paid out. Usually, when we actually realize investment, there's a markup even though we carry our investments at fair market value but conservative accounting is what it is and we try to be consistent on that. So when there's a lot of realizations, you also will have a tendency to have mark ups in ENI. And in both Real Estate and in Private Equity, our realized events are usually at a pretty significant premium to our carrying values as of the prior period.

Stephen Allen Schwarzman

Yes. Typically, over a cycle that's run historically in the 20% to 30% area over the mark, and some of that's just the timing that we're selling into a particularly good time, and so that would sort of affect that sales. So as we look at our own business, and everybody looks at these things differently, but we assume that when we're selling, we will have a better outcome than the mark. And then in almost every example, that really is the case. So that is the way it tends to work in the vast, vast majority of cases. It's not an equal distribution in terms of above and below historically.

Laurence A. Tosi

And so Bill, as I mentioned in my comments, we went back and we looked at exactly that through all the cycles back a long time, and what Steve and Tony just pointed out is absolutely true that you do have an uptick in the mark at the time of exit. But what we looked at was over the last few years, you've seen a strengthening of the component of our total earnings related to realizations and cash earnings. So as I mentioned in my speech, it's about 60% for the full year 2012, up from the high 40s in the last 2 years. So that's just -- it's an indicator of basically we call the different components of earnings.

William R. Katz - Citigroup Inc, Research Division

Right, I appreciate that. Okay. The follow-up question is just the realization cycle picks up a little bit, I think you saw this dynamic in the fourth quarter, fee-pay AUM relatively flat, notwithstanding the strong year-on-year growth. It's still hard to put the money to work and you're returning a fair amount, what's the outlook for fee-paying AUM? Can we expect that to flatten out a little bit in the short term here as we move to more of a harvesting period? Or you think you'd still grow that simultaneous with the pickup of exits?

Laurence A. Tosi

Well, it's a couple of things. You're right, obviously, when we have realizations, that it's net. I mean, I gave some stats in my speech that you're looking at $96 billion of gross inflows, net of $35 billion of returned capital and realizations gives you the $61 billion in growth. I think the third to the fourth quarter had 2 factors, is that if you look at the -- on the press release, on Page 21, it goes through the earning well for it. I mean you had very strong inflows, frankly, in the fourth quarter, $7.3 billion. The issue was you really had realizations and returns of capital of 8 and those really canceled each other out. So over -- looking forward, there's a lot of, as Tony went through, and Steve went through, there's a lot of things that we're working on, there's a lot of new products, a lot of innovation across the firm, and so I wouldn't -- we wouldn't describe it as a flattening at all.

Operator

The next question comes from the line of Marc Irizarry with Goldman Sachs.

Marc S. Irizarry - Goldman Sachs Group Inc., Research Division

Just staying on the theme of the fee-related earnings, LT, can you talk about the $12 billion not yet earning base management fees? It's obviously spread across a few different buckets. But how should we think about the pace of either the drawdown of that capital or just how it's going to -- the fee rates on that and what that means to your fee-related earnings?

Laurence A. Tosi

So if you look at that, Marc, the way to look at it is, the majority of that, let's say the 1/2, more than 1/2, $7 billion of the $12 billion is related to our credit funds, that's capital that's been raised, committed and will begin paying fees when it's deployed. So you'd expect that to kind of steadily work its way in over time. The same is true of the Hedge Fund Solutions piece, which is one of the -- they have drawdown structures within Hedge Fund Solutions that we'll also draw down over time. Real Estate and Private Equity is more transaction driven where, over time, they have reserve capital and other capital that they will deploy that will come in. So if that full fees in all those cases and the pacing, we think, will be relatively steady.

Joan Solotar

Just want to add one more thing just to the prior question on the trend. If you looked across estimates, generally speaking, realizations were underestimated. And therefore, fee-paying AUM was overestimated. So there's, of course, a relationship there because it's gross inflows, less paying back capital and if there were any outflows, which obviously in draw down funds you wouldn't have. So it is something to keep in mind as you're -- that as we're expecting accelerated realizations, particularly in Real Estate, and fundraising and some of those businesses as a step function, there's going to be quarterly periods where you'll have differences. And if you're selling a ton, you absolutely will see a flattening, if not the slightly declining trend in periods. Over time, we think industry is going to have greater flows, we're going to continue to gain market share and so we still see a positive trend, but there absolutely could be periods with flattening to decline.

Marc S. Irizarry - Goldman Sachs Group Inc., Research Division

And then Steve, just a question on scale, in areas maybe where -- if we could take this route to places where you're subscale right now. And also, can you talk about some areas maybe where you don't see adequate capacity to grow. So I mean, maybe some areas where there's a lot of growth geographically, strategically, and areas maybe where there's the capacity somewhat constrained at this point?

Stephen Allen Schwarzman

The way we think about it is, in each of our businesses, and in Private Equity, there's currently a lot of room to grow in the energy complex and we've got a fund that we've started that is absolutely shooting the lights out. I mean, it's like an IRR of 100% and it's 40%, 50% invested in 1 year. And the opportunity to grow that business very substantially is just right in front of you because with that kind of investment record and we've been doing this for, I guess, about 13, 14 years, we've never had a loss, it's a pretty remarkable performance. And I would expect that to be significantly increased as we go ahead in the future. And that's sort of like a pioneering step out, if you will. And I think, over time, we'll find other areas that are natural areas of concentration where we do things like that. We've got our Tac Ops business that came, started with some of the staffing, led by David Blitzer from Private Equity, where there's a very large capability to expand that kind of business. That's the only place in the firm where we mix Private Equity, Real Estate, Credit and Hedge Funds in one product. In Real Estate, there's just so many different areas to grow given the record that we have. I think Tony talked about the geographic expansion in Asia, which can develop a lot of different ways. We're already in Europe and the U.S. We have other opportunities of managing -- and we've got Mezzanine, which is principally a U.S. business. And so that can expand geographically. We also have managing the prospect, if we choose to do it, lower-type return real estate. At the moment, we're focused on the highest types of returns. And there's a massive market of sort of -- people who are actually seeking lower returns with less leverage. So the prospects there are really very, very substantial. In the hedge fund area, I think we've answered your question on that. It wasn't your question, it was someone else's question. In credit, we're actually quite geographically constrained to the United States, which is quite curious. And part of that is because of the rule of law and the ability to perfect security in other places. But we've moved Trip Smith, 1 of the 3 founding partners of GSO, was nice enough to go over to London, which is most people would not think as hardship duty, that's a fun place to live actually, London. And we're going to be developing a bunch of products for that market. And there are people who do lend a higher return money in Asia. We happen not to be part of that group. And longer term, that's a terrific opportunity given the growth there. So each of our investment businesses has a lot of white space, if you will, to be growing and expanding business, which is important, not just for the reasons of this phone call, but it's important to provide opportunities for our younger people as they grow up because the best thing we can do is take people who are trained in our core businesses and put them in these other businesses because they know how the firm looks at risk and reward, and you're just not dealing with people that you hire who don't have the same culture and the same focus on capital preservation.

Operator

The next question comes from the line of Jeff Hopson with Stifel, Nicolaus.

J. Jeffrey Hopson - Stifel, Nicolaus & Co., Inc., Research Division

On the housing comments, I guess a recovery is good for your existing investments, but curious if you can tell us if you still see values there. And then in terms of your interest rates and credit, et cetera, I hear you saying you're still defensive, but I'm curious why you wouldn't want to, I guess, extend your own credit and perhaps even add leverage at the company level at this point.

Hamilton Evans James

Okay. Well, let me talk -- take housing first. As Steve mentioned, housing is getting a lot better but it's still way off the peak and we still have a huge number of foreclosed homes that have not worked through the system. And we still have a lot of stressed buyers, stressed people trying to -- barely able to buy a home and need to rent or not able to pay their mortgages. So, in my view, we're a ways away from anything where you'd sort of feel like things have fully normalized. I think what Steve was just saying, we're coming off like the body didn't even have a pulse and now it's gotten a pulse and that should be sort of tailwinds for the economy. And we agree with that, but there's still plenty of opportunity in the housing area and we -- our housing businesses in 12 cities, there are a lot of more cities to go to and not all as far along as the cities we picked, which is why we picked the cities we picked. So lots of opportunity there bottom line. In terms of the firm's open balance sheet, we issued -- we did a debt issuance a couple of months back, we thought were pretty great rates and pretty good maturity. Retrospectively, we were wrong. We should have waited and done it now, and -- but at the time, we were looking at near historic low rates and somehow they've gotten even lower. We're not intending to leverage up this balance sheet. We're in a business that doesn't need a lot of capital. I actually think we're entering a phase where these realizations and divestitures that Steve was talking about, where were going to actually throw off more capital than we need because the only place we use capital is when we co-invest with the LPs and as we put those funds out, the capital goes out. And when we harvest the investments, the capital comes back. So I think we're going to be in the phase where we're getting more capital back than is going out, and I don't think we need -- we're sitting on cash, we have a strong balance sheet, we want to keep a strong balance sheet. So I don't see the need or the desire to lever up.

J. Jeffrey Hopson - Stifel, Nicolaus & Co., Inc., Research Division

And what about at the investment level, into your individual company investments, would they want to extend those maturities?

Hamilton Evans James

Well, they're actually doing that daily. I mean, I think we have 4 or 5 refinances on the debt side going on as we speak. And in some cases, they are, of course, paying -- using some of that added capital to pay dividends. In other case, they're just lowering their cost of capital by refinancing existing debt. And some of the realizations that are -- some of the numbers that are in those realization numbers are dividends from re-levering the companies.

Operator

The next question comes from the line of Robert Lee with KBW.

Robert Lee - Keefe, Bruyette, & Woods, Inc., Research Division

I had a question, you've raised, as LT has pointed out and you've all pointed out, you've raised a lot of capital last several years, it greatly expand a number of strategies, but as you kind of look at pools of capital, are there specific -- whether it's institutional asset pools in Asia or high net worth pools here in the U.S. or Europe that you think for you guys are particularly untapped and may be kind of refresh us on some of your initiatives on trying to tap those pools of capital?

Stephen Allen Schwarzman

I'd say we're a lot of places. And the greatest opportunities for us is cross selling our products to pools of capital. And since we're the only firm that really has this kind of scope, that we have a lot of opportunities to do that further. And in that regard, the easiest marketing you have are with people who you're already invested with who like you. They trust you, they know the firm. And as we come up with continual number of new products, this is a natural way to go. There are also new entrants who are not in some of our products who will be doing it and we have a pretty good competitive position to be able to be sort of first-in just because the investment performance record has been so strong over a long period of time that we also have a really good brand name that makes these people comfortable. So I think there's another trend that is also helpful for us, that almost all of people who put money into the alternative area are looking to simplify their lives, not make them more complex. They're looking to reduce the number of managers and move to the high-performing ones. And we qualify in that bucket in basically every business that -- line that we're in, so that also gives us a natural ability to pick up share. So we're taking advantage of all these trends that are going our way. Sometimes we open up a whole continent. In other words, we were the first people basically, other than domestics, taking money in Private Equity from South America. And that's going to be a growing area. It's not the biggest GDP area in the world, but as different parts of the world move to alternatives because of the performance characteristics, we know that people, there are a whole variety of accounts that we visit that we don't have money from yet. But we're going to get it because they're going to want to put it out and some of them are early.

Hamilton Evans James

Yes, let me just jump in there too, Robert. Just to the -- the obvious parts of the world, which have big positive cash flows are accumulating lots and lots of resources and when they -- and sovereign wealth funds, all over the world, it's just not necessary that China, once you think there's all kinds of smaller countries would vary with their resource, heavy with -- and much of energy are revenues driven that have lots of capital. And for the most part, I would, in my own view, they are underrepresented in our kind of products and we'll be shifting more towards that and we're seeing that happening. And it comes in fits and starts, but that's one area where we think you'd see -- you can expect to see foreign investors in general but the big piece are wealth funds take more and more share from us, of our products. Secondly, it's high net worth individuals. If you look at high net worth individuals, across the board, they're 3% -- 2% to 3% invested in alternatives, where as institutions are 20%, 25% invested. So there's obviously a long way to go there before we or any of our industry is really fully represented in the high net worth channel. And so I think that's another big target of opportunity for us.

Operator

Your next question comes from the line of Roger Freeman with Barclays.

Roger A. Freeman - Barclays Capital, Research Division

Just 2 questions. The probably missing thing here in your comments before you -- you're talking about the markups on investments when you sell them and I think you said most of that in Private Equity was concentrated in BCP V in the quarter and I'm just wondering why they -- their threshold perhaps didn't improve more? I think it was 13% last quarter and then 12%, and probably a 3% return, and I'm just -- maybe the math's wrong, but wondering why it wouldn't been up more.

Laurence A. Tosi

I think, Roger, I think you're -- there's 2 concepts that you're mixing. The first one was Steve made a comment about that traditionally, and we've done research going back almost 20 years, that traditionally, the market we have before we go into an exit event is typically 20% to 30% below. The reason for that is under the mark-to-market rules, you can't take into consideration things like option premiums, et cetera. So there's inherent conservatism, if you will, built in marks. That's true in Real Estate and Private Equity. And Real Estate transactions take longer to get done, so typically, you have an earlier price indication. But separate and apart from that, well I think it was Tony's comment about that in the fourth quarter of 2012, BCP V had very strong returns, about 7%, and that actually pushed the total change in enterprise value necessary to cross the threshold down from 13% last quarter to 12% this quarter. So we're making progress against that. So they were 2 totally separate things, and I apologize if they got confused.

Robert Lee - Keefe, Bruyette, & Woods, Inc., Research Division

All right, that's helpful. Then with respect to sort of the general M&A environment, you obviously had a strong quarter in advisory. I'm wondering, one, if that was more restructurings versus maybe more traditional M&A-type advisory? And then, two, do you think that the release for corporate, for strategics, the environment, the clarity has improved enough to kind of get the impasse, start to fall, with strategics not wanting to sell because of the political and other uncertainty, or is debt ceiling pushed off to May is still a big overhang?

Hamilton Evans James

Okay, well, so on the fourth quarter, it was M&A that had the big quarter, and it is a lumpy business. We had a couple of very big transaction close with big fees. But their backlog builds too, and their backlogs are not only the biggest it's been in a long time but the best quality in terms of likelihood of the deals closing. So that business is doing pretty well. But it doesn't -- I don't think you should read too much into that as to whether it's an indicator of the overall M&A market, because we're a small player in that market. Restructuring actually had a decent quarter and frankly, for us, it was probably a bigger pleasant surprise because we expected in this part of the cycle when troubled companies can finance out of their problems, it's that business to be much slower than it actually has been, and they had a great year and it's a credit to those guys to get a near-record year in an environment when I think that the whole restructuring industry is very slow. Sorry, Roger, what's your other questions?

Roger A. Freeman - Barclays Capital, Research Division

No, just I guess, extrapolating your kind of view going forward.

Hamilton Evans James

Well, I'd be curious as to what Steve thinks about that. I noticed that we have some people saying, "Oh, it's going to be a big M&A year." And some people think it's not going to be. I'll let Steve comment on that.

Stephen Allen Schwarzman

I think there's still a bit of an overhang from this political stuff and it's very hard making decisions when you don't know what's going to happen with the sequester, you don't know what's going to happen with overall GDP. You don't know whether the government's going to get shut down on a continuing resolution. And these are not confidence-inspiring uncertainties. And when you think the economy is going up and you pick up your newspaper and you find out that in the fourth quarter, it's actually declined GDP, it doesn't make you run out to your board and say, "Let's expand into this." So I think there's -- as Tony has said, there's a wall of cash in the corporate community and if there's something that's cheap, you'll do it. Is there enormous optimism that would make you want to buy extra capacity when there's still a lot of slack in the economy? I don't think so. There are some interesting things that you've got, value investors or whatever they're called today. They used to be called raiders, they have a more elegant name. Oh, yes, they're activists. We can actually learn something from these guys in terms of renaming themselves since Private Equity doesn't apparently have as much attractive marketing name as activists, not that we want to be activists, which we're not, but just the name change makes these guys better. But there are some discontinuities that create some flow in that business. I think on balance, we're in a better position for M&A activity, but I don't see us until the governmental stuff gets straightened out. And people know what the rules of the road really are going to be that will go into a really accelerated period. I would guess, since you put it to me, that, that sort of M&A activity will be up somewhere between 10% and 20% this year. I don't think it will be at the same level. But I don't see us as part of a V here on M&A activity. I'm not talking Blackstone. I'm talking on a broader basis. I don't know, Tony, you disagree or no?

Operator

And our last question comes from the line of Chris Kotowski with Oppenheimer.

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

Just had a question about the credit business and how the incentive and carry are structured there and how one should think about it in a rising rate environment that Steve talked about earlier. Are they benchmarked against the performance of high yield? Are they benchmarked in terms of absolute returns? And if it's the latter, then during a rising rate environment, could one anticipate a nuclear winter for performance in carry in the credit business, if that happens?

Stephen Allen Schwarzman

Actually I don't think so because if you look at the composition in their business, they've got a giant CLO business. Basically, we're the largest owner leverage bank loans in the world, okay? This is like a big deal. And those loans flowed up, so they're not going to get hurt with that. In fact, it's a great place to hide and we've got some products if you'd like to put some of your own money in it. That's a good thing. On our drawdown funds, we don't make Mezzanine loans and rescue loans that are meant to be out long enough that basically you get crushed when things go up. Usually what happens, usually, is that when interest rates go up, it's often in response to an increasing economy. When you're economy is increasing, people will finance us out of those positions with higher stock markets and companies that get in better financial shape because their credit has improved, which enables them to flee us because we're basically custom manufacturers of credit extension and go to more normal types of areas. And the rates on the money we put out when it's fixed are pretty high. And so we don't have to force ourselves out at a bad time. So we actually don't have as much risk. We have more risk in our hedge fund, which is, I guess, about $3.5 billion. And we try and keep that hedged actually. That's why we call them a hedge fund. So but we take -- we try not to have that kind of exposure. So it's not like we're a long junk bond manager as principal who is about to get buried. That's not the construction of our business.

Hamilton Evans James

So let me comment a couple of other things there. First of all, the hedge fund doesn't have any hurdle at all, but it does have high water mark. The drawdown funds have set hurdles, they're not tied to benchmarks, but they're fairly low in relation to the spread that they earn. And the environment where interest rates go up, I think, will be a relatively strong economy, and the Fed will -- that's when the Fed will allow rates to come up. And in that economy, the drawdown funds have substantial equity interest, usually in the form of warrants on their investments. They're not usually just buying a fixed income security without an equity kicker. So what's tended to happen is, it's not a bad thing when rates go up for them so much because the duration of their holdings goes out. Right now, they're being refinanced and having to put that money to work out there. The duration of their holding goes up, they lock, they get higher interest rates longer and their equity interest become more a very substantial amount of money. A high proportion of the return is sort of the equity options they get for free when they put in money into a distressed company or a privates subordinated debt company. So a strong economy has an offset there. With respect to the senior debt business, of which a lot of what Steve mentioned is floating-rate -- was CLOs, but a lot of it also separate accounts and things, when rates goes up, those rates flowed up and they actually earn more money. And those are not -- and so they're protected from the marks. And if you look at the rate increase periods in the last 6 rate increase periods, you'll see that the best performing fixed income asset class, which had positive -- significant positive performance was floating-rate senior secured debt and investment grade debt actually had negative performance. High-yield debt, because of the high interest rates, had small positive performance. But floating rate senior secured debt had like 6% or 7%. My recollection is positive returns in rising interest rate environments. So I think we're -- and I don't think, as Steve started off as saying, I don't think it's going to be a problem.

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

And just as a follow-up, if you think back to your experiences in 1994 when you had the big increase, any other major pitfalls or opportunities that we should be thinking about in terms of your experience back then?

Hamilton Evans James

Well, I can say this, speaking for me, and Steve and I are both old enough, I'm afraid, that we're actually doing this back then.

Stephen Allen Schwarzman

We're doing that unfortunately way before then.

Hamilton Evans James

The returns to the Private Equity world were spectacular then -- back then, but of course, the leverage ratios were huge and there was a lot of sort of the markets weren't as efficient, there was less competition. So I don't know, I don't know, lessons are hard to draw on that one, I think.

Joan Solotar

Thank you, everyone, and Weston and I are around to take follow-up calls.

Operator

Thank you for your participation in today's conference. This concludes the presentation. Everyone may now disconnect, and have a great day.

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