Welcome to the Blackstone second quarter 2013 investor call. At this time I would like to turn the conference over to Joan Solotar, Senior Managing Director, External Relations & Strategy. Please proceed.
Good morning and happy summer, and welcome to our second quarter 2013 conference call. I'm joined today by Steve Schwarzman, Chairman and CEO, who is calling in from Europe; Tony James, President and Chief Operating Officer; Laurence Tosi, CFO; and Weston Tucker, Head of Investor Relations. Earlier this morning we issued a press release and a slide presentation illustrating our results, hopefully you have that and it's also available on our website. And we will then file the 10-Q in a few weeks.
So I would like to remind you that today's call may include forward-looking statements, which 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 our 10-K. And we don't undertake any duty to update forward-looking statements. We will refer to non-GAAP measures on the call and for reconciliations for those refer to the press release. I'd also like to remind you that nothing on the call constitutes an offer to sell or solicit as an offer to purchase any interest in any Blackstone funds. This audio cast is copyrighted material of Blackstone and may not be duplicated, reproduced or rebroadcast without consent.
So a quick recap of our results. We reported economic net income, or ENI, of $0.62 for the second quarter, that's up sharply from $0.19 in the second quarter of last year, mostly driven by higher management fees and higher performance fees in every one of our businesses. Distributable earnings were also up $0.28 for the second quarter, that's 73% increase from last year's second quarter. And for the year-to-date period, distributable earnings were $0.62 per unit, which was nearly double the prior year period.
As always, if you have any questions on anything in the earnings materials, please call me or Weston after the call. And because we do have a lot of folks dialed in, if you could limit your initial questions to one or two and then just get back in the queue. Thanks.
And now I'll turn it over to Steve Schwarzman.
Thanks, Joan, and thanks for joining our call. Investors across almost all asset classes, but even they've been concerned about the prospect of rising interest rates that we can talk from the earlier call that Tony was handling. It appears that markets persistently overreacted initially to the Fed's indication on when and how it march for tapering its bond purchase program. Stock markets in the US which initially declined up to 8% have now recovered in only three weeks, regained record levels.
Interest rates have started to decline close to market peak as investors recognized that the federal act was prudence not just cycle the economic recovery. Higher rates, as Tony mentioned, are not per se negative for Blackstone as investors may have initially believed. Historically, we performed well in periods of rising rates and we are well sufficient today given our mix of businesses and investments. When rates rise in tandem with better economic activity, the result is higher cash flows for most of our private equity and real estate assets and higher returns for hedge fund solutions businesses.
Our credit operations benefit because they tend to invest in floating rate, not fixed rate assets and they obtain higher yields on their mezzanine and rescue lending assets. To share an example with you with some numbers. In real estate, we look back in periods of rising rates, during the past 20 years the impact on values. Each of these periods, plus the following year, commercial real estate values rose between 4% and 15% on an annualized basis in both the private and public markets. Should I quest you as Tony, in the past 20 years in each of these periods where interest rates going up on commercial real estate, plus the following year, commercial real estate values rose between 4% and 15% on an annualized basis in both the private and public markets.
Going back further, but this time on the residential side, interest rates rose in 26 of the past 50 years and in every single one of those years, when interest rate grows, home prices actually increased. So the premise of investors and their concerns on the real estate side are basically belied by the facts. Our business returns benefit from strengthening economic activities.
And today we see pockets of significant strength in the US economy including housing, auto, energy and technology. This is offset to some degree by pressure on consumers as well as the continuing federal government dysfunction is reducing the confidence generally.
In our own private equity portfolio strengths are improving as Tony mentioned, with year-on-year revenue growth of 5% and EBITDA of 8% both in the second quarter, 8% increase in EBITDA in a quarter is a good thing.
This helps drive continued depreciation of our portfolio of 5.4% for the quarter and 29% over the last 12 months or nearly $8 billion in total equity value appreciation. Make sure you understand that, 29% increase in our private equity portfolio in a year.
Our real estate business has achieved similarly strong performance so far this year. With our opportunistic fund depreciating 5.7% for the quarter in line with the private equity is doing basically and 19% over the past 12 months.
This is helped by sustained strong cash flow in Hilton, our largest investment which grew 17% EBITDA in the first half of 2013 and now has over 4,000 hotels globally, 17% growth in the first half is really fantastic.
Our hedge fund solutions business or BAAM have some positive return of 2% in the quarter is up over 13% for the past 12 months. This performance is double the age of our index with only one-third of the market's volatility.
As the largest allocators of hedge funds globally, our scale gives us many advantages, including capacity with the best managers, mortgage (inaudible) to mortgage friends and access to the best ideas. And finally, our various credit strategies in GSO rose 5% to 7% in the second quarter despite a sell-off in the last month, and remarkably its 22% to 42% for the past 12 months shortly outperforming virtually every benchmark for that period.
As a result of our compelling investment performance across market and economic cycles, we have been able to raise dramatically more capitals than any of our peers. For example, we raised $14 billion in the second quarter alone, most of which was in our real estate and credit businesses.
In real estate, we had our first [Asian] fund closing of 1.5 billion, marking a strong investor reception to our first dedicated fund in the region.
We are targeting internal rates of $4 billion for this strategy which is one of the largest first fund raises in our history. In our real estate debt strategies area we raised $2 billion for a new drawdown funds during the second quarter alone followed by additional closing in July reported to $3.5 billion of available capital. In late May, we raised an additional $660 million for our permanent capital commercial mortgage vehicle, large scale mortgage funds as we call Blackstone entity. And in an over-subscribed offering, we sold three times or four times that amount. In total, our real estate debt strategies business started in 2008 is now over $10 billion in size. We continue to see strong inflows into our various products.
This is a sharp contrast to the record outflows you've been seeing from bond [A] flow of funds which is not our business. Our new rescue lending vehicle has raised $5 billion in cap, this is more than 50% larger than our prior rescue fund which also hit its cap. In fact, all of the flagship drawdown funds we raised in GSO joined Blackstone in 2008 have reached their respective caps that the GSO team really is doing a terrific job.
Also in credit, our low ETFs which trades under the ticker SRLN have raised $375 million since its commencement in April making it the most successful of any new ETF launched in 2013. We expect continued growth as many investors trade under the long duration assets and fixed rate assets in into floating rate products like SRLN and the other things we do throughout this DSL.
Our Hedge Fund Solutions business reported $1.6 billion in that inflow in the second quarter despite the fact that the second and fourth quarters are the primary redemption quarters. Year-to-date net inflows were $2.5 billion.
And on Private Equity we're continue to see strong [LT] interest for a tactical opportunities business, which raised an additional $325 million during the quarter. In terms of capital deployment, investors frequently ask us if we can invest all the capital that we're raising with the same types of returns we've delivered historically. By the way, they've been asking that question for over 20 years. The answers that we continue to find very attractive opportunities with capital to work around the world, leveraging our brands, key sector expertise [Technical Difficulty] Compelling investment investments opportunities remain globally with lots of distressed or over leveraged assets enabling us to buy the discounted physical replacement cost. A competitive landscape remains attractive with very little competition through large scale deals.
During the quarter, we invested two-thirds of our capital in the United States, one quarter in Europe. We also committed to our first large scale joint deal with our partner in Brazil Patria to acquire a controlling interest in near nations best in class branded national developer or residential lots.
In credit, the low rate environment we saw for the most of the first half of the year while breakthrough realizations made it more difficult to deploy capital. However, as rates move up it's good for us opportunistic credit [investors], for example in 2011, we invested approximately one-third of our first rescue lending fund in the months following S&P's downgrade of the US grading.
In private equity competition remains high for new investments. In payable to leverage our global network in brand we source exclusive in proprietary deals. Financings for new buyouts remains available on a attractive terms although there is more demands for floating rate leverage loans than for fixed rate bonds over the near-term given expectations for rate increases.
The last topic I'd like to discuss is our realization activity, which is the biggest driver of [cash] earnings for public investors. Realization rose to $6.6 billion in the second quarter, up from $1.4 billion last year. To just give you the numbers again because there's so many numbers in these presentations. Our realization rose $6.6 billion up from $1.4 billion last year. Over the past 12 months, we've had $21 billion in total realization.
Activity, prehistorically in every business, in credit we had $2.7 billion in realizations for the quarter, primarily reflecting CLO activity as well as realization out of our first mezzanine fund, as a lot of people prepaid. In private equity, we have $1.6 billion of realizations in the quarter, mostly in BCP product, which did not drive carried interest yet. This includes the very successful IPO for SeaWorld, which is price to $27 this year, the top end of the filing rate, it since traded off another 42%.
Since the beginning of last year, private equity realizations totaled nearly $8 billion, which is a really big number as healthy equity capital markets have allowed several public market engines including five IPOs and 17 [secretaries].
We had 3 more private equity IPOs on file and we can see several more in the coming quarters. Lastly in real estate, we had over $2 billion of realizations in the quarter, more than double last year's second quarter generating $175 million in realized performance fees versus $21 million last year. This was largely driven on sale of our remaining general [growth] property stock with a 2.3 times multiple of our investment after 2.5 year hold. If we can do that with everything, that would be a very happy world and we do do it with a vast number of our investments.
We also announced the sale of EDT retail portfolio to EDR at a multiple of $350 million investment of approximately two types and that was double the money we earned for our fund investors after only a one year hold. We expect this sale to close in October and the capital is fully recyclable as within our BREP VII fund. Looking forward we remain confident with the further acceleration in activity later this year and next year. In fact this morning, we have filed an IPO of Brixmor, one of the largest grocery anchored shopping center companies which is our third largest real estate investment.
In summary, we feel great about our business which we believe in greatly positioned in the alternative investment area as the only firm of its type with world scale operations in real estate, private equity, hedge funds and credit. We have raised over the last  years more capital, our more closest competitors together. Our team is extremely experienced with an unalterable commitment to excellence in all we give. I continue to believe our stocks significantly undervalued.
And with that, I would like to ask Laurence Tosi to take over with the review of our financial results.
Thank you, Steve. Good morning, everyone. By almost any measure it has been a record start to 2013. Blackstone continues on a steady trend of industry leading growth as total AUM reached a record $230 billion, up 21% year-over-year, marked by $42 billon of inflows and $25 billion of value created, together which far outpaced the $28 billion of capital returned to investors over the same period. Each of our invested businesses again saw double digit increases in AUM as every segment ended the quarter at record levels of assets.
Our sustained growth is the result of both our ability to achieve returns for our fund investors and continually innovate new products and ideas. We leverage the leading scale and performance of our core global funds which serve as anchors to launch adjacent complementary strategies. This competitive advantage is evident in our strategic efforts in the high net worth channels.
While you may have read about recent forays into these vast and growing segment by industry competitors, Blackstone has invested heavily in this market for several years. As a result of those efforts, today we have an efficient scale distribution effort and have created one of the fastest growing capital sources for every single one of our businesses. Improved Blackstone fashion virtually every senior manager in the firm has personally dedicated time and effort to developing this channel and the platform we have built has raised more than $14 billion of assets, including $5.4 billion raised in the past 12 months alone.
The Blackstone brand and historical performance are compelling to this market as evidenced by our last several fund raises literally selling out on some of the world's biggest retail channels. And as Tony highlighted this morning, we think we are in the very early stages of the impact that this channel can have on the front.
Turning to earnings, Blackstone's diversity and fund outperformance overcame the market headwinds in the second quarter. Revenue for the first half of the year reached a record $2.7 billion, up 66% over the same period last year and earnings nearly doubled to $1.3 billion at 50% margin. The main driver of revenue was fund performance which produced a 150% increase in performance fees to $1.3 billion for the first half of the year, also a record. The fastest growing component of Blackstone's earnings continued to be realizations which helped double distributable earnings to $730 million for the first half of the year.
Some further observations and facts about Blackstone's second quarter and first half results. At quarter end, the net performance fee receivable a key forward indicator of earnings reached a record $2.5 billion. In real estate, the net performance fee receivable is now $1.6 billion, as $30 billion of assets are generating performance fees in an increasingly favorable environment for realizations. Private equity now has $633 million of net accrued performance fees with $500 million of that in BCP IV, which is 47% publicly traded. Additionally, BCP VI and BEP, our energy fund, are both accruing in full carry and are 28% and 48% public respectively.
Our 2007 vintage fund, BCP V continued to make good progress towards the preferred return threshold. In the last year, BCP V created $5 billion of value, almost having the $3.7 million, the amount needed to reach the carry threshold.
In credit, performance fees grew 80% year-over-year, roving that that business is not only largely insulated from rate rises but actually grows and benefits in the current and expected rate environment. In hedge fund solutions, 96% of eligible assets are now generating performance fees in the first half of $100 million, up five-fold which also drove an 80% growth in first half earnings.
We should remember that incentive fees in hedge fund solutions and our credit hedge funds accrued through the year got a largely earned in the fourth quarter from a cash realization perspective. Currently we have $0.14 per unit accrued in the first half alone based on the strong performance of those funds. Additionally, advisory posted a strong quarter particularly in restructuring, which had one of the best starts to year in its history. Our strategic M&A and fund raising businesses both closed to double-digit gains in revenue versus the first quarter.
The strength in fundamental earnings has also impacted the firm's balance sheet, which include the total of $7 billion in net assets or $6.31 a unit in the second quarter, up nearly 40% over the same period last year.
As part of our continuing effort to lead in terms of transparency and unitholder alignment, we announced today that we would no longer reduce distributable earnings by the non-cash expense associated with equity related awards. These awards consistent with GAAP have always been part of our historical compensation expense and ratios and that will not change. GAAP distributions however will no longer be reduced by this expense, which added a $0.01 per unit to our distributable earnings and cash payout this quarter.
This new policy would have added $0.08 a unit to distributions for the full year 2012, with $0.06 of those $0.08 coming in the fourth quarter when most of these awards are made and expensed against earnings. Historically, these awards are 8% to 9% of fee-based compensation and we expect that to remain the case with respect to timing and amounts. The historical impact of this increase to distributable earnings can be seen on page 30 of this morning's release in detail. I should also point out that over 6 years since we went public, our share count has only slightly increased by 38 million shares or 3.4%, roughly 60 basis points a year.
In closing, a few key data points to consider. Over the past five years, Blackstone has nearly doubled assets with increased earnings nine-fold at a 56% compound annual growth rate and distributed $3.5 billion of cash to investors, including $1.3 billion in the last 12 months alone.
Looking forward, the key drivers of future performance demonstrates the momentum behind our positioning against a dynamic market backdrop.
We now have $95 billion in performance fee-earning assets of 63% year-over-year across 100 different funding vehicles providing a broad base of earnings power for future value creation. We also have record dry powder of $39 billion, up $3 billion year-over-year despite $16 billion in capital deployed over the last 12 months.
And finally, we have $17 billion committed capital not yet earning measured fees and several scale funding raising initiatives underway. On behalf of everyone at Blackstone, we thank you for your time and joining this call and we welcome any questions you may have.
(Operator Instructions) Your first question comes from the line of Matt Kelley of Morgan Stanley. Please proceed.
Matt Kelley - Morgan Stanley
Thanks guys, so just curious, the commentary on the real estate investment was really interesting, so it seems as though especially given the break, the life cycle for a lot of these real estate investments has shorten, so I am just curious Steve to get your view on, how close we are to and I know that's a broad statement. But if you think about your real estate portfolio how close we are to getting back to more regular normal as you think about it life cycles for these investments or still a kind of a very short life cycle, when you think about spending them?
This is Steve. I don't think our life cycle have changed materially. What's happening is, you know, when we buy things, you know, I guess our approach is buy it, fix it and sell it. And you know that happens over periods that vary slightly with changes in economic activity and so you are seeing that accelerate in the US because we started buying very large amounts of real estate really about three years ago in real scale and we've been the largest purchaser in the world with vastly exceeding, vastly, multiples than anyone else.
The cycle is changing now in Europe where that will be an investment cycle that will take longer to come out of by the nature of the underlying European economy which is evidencing virtually no growth.
Asia will have another cycle still because it's continuing to grow but its experiencing real estate credit shortages as some of those economies grow slower and the economies generate other problems besides just real estate developers who can't sell out projects.
So I don't think we are experiencing something slower, we are just dealing with the maturation cycles in different geographic areas.
Matt Kelley - Morgan Stanley
And then my follow-up…
And as it relates to the whole time itself, I think it's fairly typical when you are buying at distressed assets you know, the rise can happen faster and so the hold time can be shorter. As we talked about for assets that were bought in ‘06, ‘07, perhaps the hold time has been longer than typical.
I think you will see in general across all of our businesses and in rising markets, what happens is, when we make an investment, we have a target value that we think is sort of an intrinsic value and we try to buy below intrinsic value in down markets and then in rising markets sometimes, the value to get up to that level quicker whether it's private equity, real estate credit, all of them.
And so you will see holding periods coming in a little bit in rising markets and extend in declining markets and it's kind of depends on how quickly we can get assets and realize what we think is fair intrinsic value.
Your next question comes from the line of Michael Kim of Sandler O'Neill. Please proceed.
Michael Kim - Sandler O'Neill
Just a follow-up on the real estate front. Can you just talk about the thinking behind the [Briggsmore] IPO filing particularly as it relates to your outlook for real estate more broadly. So is this kind of the first step of the exit strategy where you are selling down sort of the ownership stake over time similar to the process you typically follow on the private equity side and does that suggest you still see more upside here to come broadly speaking?
Well, let me tackle that, Michael. First of all, I can't comment on Briggsmore as you know it's publicly filled. So we're very limited on what we can say on that. But I think one of the things about real estate is we have the options about take some of these platforms that we have created public so Briggsmore with the bulk of it was bought one thing but then we have added on that another pieces and then we have a management team there.
So we can be operating company but also depending on the assets you could also sell off assets piecemeal or and so we have a lot of flexibilities to how we do that. I think there is still more value to come in real estate, but there are some assets that are getting near their intrinsic value, and when its public stock, you got to go to public. We try of leave; we actually try to price our public offerings at a bargains of the initial IPO buyers, So that the stocks trade up and people are happy and so we don't generally sell much or any of our ownership when it want to actually IPOs.
So usually we start, we take it publically a little well in advance of the time we actually expect to be harvesting most of our capital and at lower prices than we want.
And Briggsmore, we bought this company during the financial crisis particularly in Australia, the company didn't have as much as ability to invest in tenant improvement its vacancies was down and they made those investments vacancies have improved and as in more normalized type of business at this point and its appropriate to take that into market where it should trade in a satisfactory way.
Michael Kim - Sandler O'Neill
Okay. Then if I could just follow-up one quick one for LT. Anything notable on the expense side this quarter particularly looking at base comp, was there any lumpiness related to maybe a pickup in fund raising activity that we should be thinking about in terms of trends going forward?
No. I think it was relatively ordinary quarter, any of the anomalies were really quite small and it wasn't related to fund raising, it sustain comp ratio year-over-year. I would say the business mix is a little different, because advisory had a stronger quarter.
Yeah. We have done a lot of the new hiring and a lot of investment spending in some of these to support the growth you've seen, but also to support future growth initiatives that we averted we are starting to roll out.
Your next question comes from the line of Dan Fannon of Jefferies. Please proceed.
Dan Fannon - Jefferies
I just start maybe if you could comment on M&A broadly, why it's going to, it's been lackluster from industry perspective and in thinking about maybe from the perspective of your portfolio companies and their appetite to do deals in this environment, it just seems like we've been waiting for M&A to pick up and it has taken a long time.
Okay, well. I agree. Why in regards, you probably have this in the form of opinion as I do, my own view is companies are uncertain about their futures and I think there are certain, and I think a lot of that uncertainty M&As from regulatory in Washington frankly and we're talking about the US and the rules are changing, they not sure what that does to the economy or we're going to have another crisis over the debt ceiling in the fall, what that's going to do one thing and other. So I think companies in the US or sitting on the sidelines that are happy to be in cash, they're happy to be secure.
And I think that is one factor, then I think some of the exciting markets that people are all hot about, generally speaking, the BRIC markets are all showing issues right now all over the BRICs are. So a lot of the acquisition activity, corporations have done with -- has been to drive growth and a lot of it has been to buy -- make investments in those market, those markets are looking like they have some issues and so as I think M&A is going to stay restrained.
Now our portfolio companies in general don't do a lot of M&A, except around the ones that are consolidation plays and those continue to rollout, we continue to make consolidating acquisitions, but they are small, you're not going to see those in terms of moving the needle or getting a lot of or any press.
Dan Fannon - Jefferies
Your next question comes from the line of William Katz of Citigroup. Please proceed.
William Katz - Citigroup
Okay, thanks so much. Can you give some update on the retail initiative, I think at your Analyst Day, you mentioned you sort of cracked the code of an opportunity to bring the hedge fund into the mutual fund [rapport], I'm [curious] that was expected well around June, any update there and I do have a follow up?
So we actually announced this week that we will be rolling out a product, we can't really talk about distribution partner and all that yet, you'll hear from us in the future but it's a product that we're really excited about. It took a very long time to figure out, we think, we're unique in the ability to execute this, the way we are given on our positioning in the hedge fund solutions space, I mean it's an exciting product, it's probably a bit early to say much more given that the rollout hasn't happened.
But what we can say is, it essentially for retail investors, it will give them access to some of the leading hedge fund managers but still preserve their ability to have daily liquidity and daily marks. So that was a bit of the trick, it's accomplishing both those things and we think we've done that. So we hope -- and we have a strong distribution partner. We hope it works. It will be well received.
William Katz - Citigroup
Okay and the follow-up question is just in the hedge fund solutions business, sort of curious if you look year-on-year, I think volumes are a bit down this July versus a year ago, what's the general appetite for that product set at this point in time in the institutional channel, are you seeing any kind of [saturation] in that business?
No I think it's the same, exactly the same picture we've seen and in fact you know in general that business it's just, it's a lower risk way to participate in markets. So that business shines when markets get lumpy, volatile or in terms of relative performance or go down. And when you have very hot bull markets it lags a little bit. So I mentioned in my press call that, we're just in the second quarter when the global equity markets were down about 2% our hedge fund solutions composite was up about 1%, so in one quarter 300 basis points outperformance. And we do that with generally speaking somewhere between a quarter and a third of a volatility of the public markets. So and if you look at how that product has performed in the worst, 10 worst down months of the last five years, I think our investors have about broken even in those months whereas the public markets are down high single digits on average, in those months.
So it's really, it's a lower risk way to play the markets, and but when you look at -- so while it might lag the performance a little in the up markets, when you look at the relative performance of that product versus the public markets, through the full cycle, because you don't have the down lags, even if you give a little on the upside, we've tended to outperform public equity markets with lower risk and that's the beauty of that product. So, with investors are really positive and really ebullient, I wouldn't at some point the flows might slow down a little bit but we're still getting a great reception across the board.
Yeah, if you look at -- just comparing, just their seasonalities, I think it's good to look year-over-year, this year's second quarter we had net flows of about $1.6 billion, last year's second quarter, we had net flows a little over $400 million. So we're not seeing momentum slow.
If whole fee-related earnings are up, [fee-related] assets are up 18% year-over-year, don't also I think what's important with this business and as Tom went through on Investor Day, a key trend that continues is a lot of the inflows and strength are towards their customized products and some of their newer strategies that they're rolling out. So that very positive trend for that business and (Inaudible) for the stickiness of their assets to use that compression continues.
William Katz - Citigroup
Okay. Thanks for taking my questions guys.
The next question comes from the line of Howard Chen of Credit Suisse. Please proceed.
Howard Chen - Credit Suisse
Hi, I wanted to go back to where Steve began on higher rates and Tony, where you spent much in the morning as I agree it's been an area of focus for the investment community. So specifically realization, fund raising activity, you think higher rates alter your view of timing of harvesting cycle if rising rates come with higher growth expectations or change in cap rate et cetera?
And second do you believe LP allocation behaviour changes in a rising rate environment, putting aside all the mega trends that we talk about?
Okay. Let's see, higher rates are connected to stronger economic activity I think it's a net positive across our business, both for the portfolio and for new investing. If higher rates come in a weak economic environment that would be, I don't see that happening but that would be, I might give a different answer to that. And then part of it is what happens to the equity market so are higher rates associated with much lower stock market, that would negatively impact realizations. If higher rates are associated, rates go up gradually and associate with stronger economies and a strong stock market then that wouldn't. So it's not just rates, so I guess is what I'm saying it kind of depends of what's going on with the other factors.
On balance, I think we're really well positioned in our portfolio of existing assets to benefit from the conditions that are likely to prevail and rates go up. And higher rates will definitely help us on the reinvestment, on the new investment activity. And then we have a lot of products which are actually benefit from our rates, because they're flowing rates like our BXMT, our Blackstone Mortgage Trust for example, it's all floating rate, higher rates, higher dividends for shareholders, the value should go up, it shouldn't go down.
So, it's kind of a mix picture, in terms of the impact on LPs again I don't see a change in their allocations, I mean they are expecting not to earn very much on fixed income. So I suppose, if rates went up high enough, fixed income would look attractive, but on the other hand, they'll take a lot of mark to markets that will be very, very painful. So, if a sharp and significant increase in rates is probably not good, because they'll have markdowns that will get into asset allocation issues, and they'll look at fixed income as having a more attractive go forward return, based on the surveys we've done of LPs, they've been thinking in the treasuries and investment grades, will future returns will be somewhere between 0 and 2% on their fixed income portfolio. They've been thinking that equity markets go forward returns be something in the 6% range.
So no matter how you mix those you know 50, 40 or two-thirds, one-third, no matter what mix you put on public securities, you get a low single-digit return if you are a big institution and that just doesn't get on there, if you are a pension fund that doesn't pay for your liabilities. So that's why they are shifting the alternatives and I don't see rates going up enough to change that.
Howard Chen - Credit Suisse
And my follow-up is, we saw some further payoffs on the securities underwriting business with the participation in Pinnacle and SeaWorld being notable one, that's take out us. So was just hoping for any postmortem thoughts you all had on how that process went for you and ultimately where you see this evolving to?
Hang on, Steve wants to make comment first and then one of us will get to that. Steve?
On this interest rate comment, people get very worried about this and the type of worry that's appropriate is a Volcker type of reaction to inflation, where in early ‘80s Volcker just broke the back of inflation by just driving rates to a point with the economy faltered and he got inflation under control. When we talk about rising rates in this environment, we have extremely low levels of inflation. And so rising rates ought to be a very moderate type of phenomenon and it's clearly being micro managed by the fed to not really hurt an economic recovery.
In that type of world, what Tony is saying, is absolutely true. And if you look at the firm's performance over years, you will see that because we are such large owners of operating assets at the firms who are funds that we do much better when those assets earn more money and the economies are growing than we do with any minor movements in cap rates and real estate or multiples. To get multiples to really come in, in the stock market you've really got to jam on interest rates. And I don't think the pre-conditions for that actually exist today. So I could proceed with the gradual increase in rates exceeded by growth in the economy, that's a good thing for us and it is in itself positioned, it has always been a good thing for us at the firm.
Your question about how we feel about the IPOs we've done, I think you know look we never feel the public markets quite appreciate the beauty of our children, but I would say generally speaking the experience has been good and maybe it's just because we went through a period of time where the experience was terrible. And so just, it's just much better now but and terrible only it is very hard to get in public, the prices were low, it was just or kind of felt like a battle and then a little while later the stocks are way higher and you just feel like you didn't have very good execution on the IPO process or so.
Here I think we feel good about, we did PBF the refinery company. We did Pinnacle Foods, we did SeaWorld. Our (inaudible) residential mortgage REIT, we did our own mortgage REIT; we got some other things coming out of real estate and private equity. So I think all-in-all, if these markets hold up in this environment, we feel very good about it.
Howard Chen - Credit Suisse
And Tony, just how about your view of your role as a securities underwriter, as you are expanding that business a bit. How do you feel about traction there on some of those transactions?
We're really pleased with that actually. We're really pleased with that. Sure, you know, as the capital markets advisory is added revenues and it's kind of another little line of business for us which is quite profitable and so on but what makes me really pleased about is, I feel like we're getting much more insight into the IPO process much better matter ability to execute for our limited partners, much more informed and we have more expertise internally to make the right judgments when the chips are down.
So, I think it's a win-win. It's a win for our shareholders, it's a win for our limited partners and that's work out really well.
Your next question comes from the line of Marc Irizarry of Goldman Sachs. Please proceed.
Marc Irizarry - Goldman Sachs
Steve, may be you can give, or Tony, a little more color on the operating performance of the real estate portfolio between hotels and may be office properties and then I am curious, as rates move higher one impact if any did that have on the valuations and when you think about the operating characteristics whether it's RevPAR or rents, you know, just how much flexibility in the real estate portfolio is there, sort of incremental uptick as growth in [gross] and the operating characteristics of real estate portfolio?
Okay. Well there is a lot of specifics there. So in general in our real estate portfolio I'll just start with that. Depreciation 5.9% last quarter was driven by the operating results the NOI, not by changes in cap rates and things like that.
Now we do have some public holdings in that which will drive the public markets as well. On cap rates, cap rates has been low but not really because base rates are low, [treasury] rates are low, but the spreads over the base rates had not been low.
So as the economy goes up and as the real estate market intrinsically gets stronger and with construction so limited of new construction, I would expect spreads as base rates go up spreads come in a little bit and can cushion the blow of higher treasury rates if that happens.
And then at the same time, you are getting the higher occupancies and the higher rents and the stronger outlook and so I actually think that scenario of an improving, as just as Steve was saying that scenario of improved economy associated with somewhat higher interest rates net that will play through the portfolio to add value, okay. I think that's important.
As the specifics, the hotel RevPARs are averaging up about 6% the last quarter. The office, I'd say, every market, every single office market is improving, some are improving faster than others, some are flattish but not every single office is proving to a greater or lesser degree, when I look at the retail, you can see the (Inaudible) centers, our bricks and mortgage you see, how that's doing, they're all, but all of the retail businesses again all retail sales looked like they're coming up and across the board as reflected in our centers. Warehouses, so in another, it's another industrial as we it, it's another big area, again all across the board coming up.
And then housing, obviously is the big one too for us and I commented on that earlier, but again, prices gone up over 1% a month. So, I think it's pretty much across the board, we can dig into whatever metric you want and whatever asset class you want, but the picture is the same and it's not only across asset class, it's the same in Southern California or Northwest or Boston or Washington or just sort of all the markets we're it's the same picture.
And it's really driven by the factors, just very, very limited new supply and it doesn't take much economic growth to start, to drive this and we've got enough economic growth and we've got enough with not only supply, they have this look like a very favorable supply demand balance for several years. Because the new supply can't come on over night, particularly if you're going about office thing, it take years and so we've got pretty good visibility on the runway and it looks pretty good for the next few years for us.
And I think to add to that what's also positive is that the increases are good increases on top of what were large increase last year, so it's not like you have easy comparison, we've just continued to see good growth.
(inaudible) and Steve talked about -- I think where our EBITDA is plus 17% for the first quarter, so its gives you a flavor for what can happen.
All right, we keep proven when Tony and I meet every Monday with our real estate [views] about economic softness, because it's a potential indicator for us to help think for issues with other of our business lines. And as consistently as we ask the questions, are we seeing softness here, are we seeing softness there. The answer that comes back is no, we're not things are good for us, it's a very straight forward snappy reply, and Tony gave you the pieces of it, but there is sense of what we're seeing in theoretically, the things are strong in that area.
Your next question comes from the line of Michael Carrier with Bank of America/Merrill Lynch. Please proceed.
Michael Carrier - Bank of America/Merrill Lynch
Hey, thanks a lot. When you say we had a new opportunity front, you guys mentioned on the retail, aside the hedge fund product, just given what you've done so far in the retail channel and when you think about that opportunity you mention, it's you're kind of at the beginning stages is it more of a distribution opportunity, meaning continuing to gain traction with the current products or you know are there other product opportunities on the innovative side that now that you had done a decent amount of due diligence you can kind of you know plan ahead, and so where are those areas? And then just on the recent strategic partners deal, is there any other opportunities like that you know for Blackstone you know that kind of take advantage of and then use that to grow your own business?
Sure. Okay, well, so it's both existing products and its existing forms being offered to retail investors as well as new products in new forms. And it's very hard to say, none of us would look at the retail market as being homogenous, I mean we have, like you know you can stagnant the market, I mean some of them are like family offices where we talk to the CIOs, the family offices and it feels an awful lot like an institution and maybe very similar to existing products, all the way down to sort of closed end funds or mortgage REITs where an unsophisticated investor can buy 100 shares for $1000. And it's everything in between and so.
And then on top of that we are thinking about new structures and things like that to embed our products and other things. And so it's really across the board. And as I mentioned, we are at the early stages of that. And I'm not sure that totally answers the question, but let me just get you the second part and then you can come back if I didn't. And strategic partner fits really well into that I think, I mean strategic partners, it's a great I think retail products, it's a great institutional products too, but I think it really appeals to retail investors. Why? Because when they start drawing down, they instantly start paying cash returns every quarter after that because they are buying mature funds that are in their harvesting periods. So an investor gives money and starts getting “yield” right away and the investment cycle is quicker. They get their money put to work quicker and they get it back quicker and that appeals to retail investors. They care about liquidity, they care about current yield. And you know their fund returns have been spectacular.
So I think that's a really good retail product and one of the real appeals we saw in that acquisition, they were part of Credit Suisse and they got head access and great support from the Credit Suisse retail system, but of course they weren't getting distribution from many other retail systems for obvious reasons. As part of Blackstone, we expect to be able to continue to distribute to Credit Suisse investors but also to other firms' investors. And so that I think one of the synergies that we so to speak that we identify and it's a great product and doesn't overlap with anything and it have wonderful, consistent top quartile returns in the sort of like consistent with private equity. So good product. Other acquisitions, yeah, we've got some other things that we're looking at, nothing that we're close to doing, but I think conceptually there are some interesting things out there.
Your next question comes from the line of Patrick Davitt of Autonomous. Please proceed.
Patrick Davitt - Autonomous Research LLP
We've seen BCP V IRR go from 2% to 5% in just six months, largely I think on the back of the two very successful IPOs, I assume they are both roughly 10% of the fund. So my question is, can you give us an idea of how many high concentration slugs that are left in that fund to really help boost the IRR over that 8%?
Well, I don't know how many concentration funds. The biggest investment in that fund is healthy, so that's obviously one, I am not exactly sure how to otherwise answer your question in terms of the number of them. I would say though everything in that portfolio has got upside in my view, I mean we carry -- we try to mark very conservatively when we get near and exited almost all is a big increase over our mark. Looking at LT about, what do you think the average increase from when we hit the realization of n versus the prior quarter markets?
On average over, we looked at it for 10 years and it's close to between 25% and 30% and in a better market like this Tony if you can higher. So if you look at SeaWorld and performance, they were both up, one was up 50% and one was up 70% versus our mark in the prior quarter before the IPO.
Recently you probably saw there was an announcement of an acquisition of one of our publicly traded Team Health -- Vanguard sorry, where year ago it was trading at 8 and we have an all cash bid for 21. And that's I think just factored in obviously into remark.
So partly is that, but partly it's just all these companies they are lean when results, when revenues start to grow again a lot falls to the bottom line and then you've got leverage capital structures and that value accretes to the equity to really, really fast. So BCP III I think at some point with one point was mark down to less than half of I think cost and it ended up being a couple over two times cost. So there is a lot of upside in these portfolios when the world turns.
Patrick Davitt - Autonomous Research LLP
Again, quickly on the mechanics around the cash distribution one and if that gets over 8%, so you sell a few secondary or sell a few slug of shares and in Pinnacle, in SeaWorld over the next few months. And then you get over that 8% hump. Will that be a huge slug of cash that comes through the distribution when that happens, as I don't know how it works?
There is actually, there is two separate questions there. One is for the fund investors and then one is for the public. When the funded self-structure accruing performance fees and then the realization after that you begin to see the cash realizations push through to the public investors.
Today given the activity in the portfolio, when we were talking about the increase of 5 billion overtime, just to give you an idea, over the last 12 months there has been about 3.4 billion of cash and in different ways return to the investors in that fund and that's either from realizations, capitalizations or current income.
So that level is already occurring in an increasingly rapid pace. And once that does come through the hurdle, once you get over the hurdle, then you'll see the accruing of carrier at to parent company and then you'll see it also go through to cash.
And I don't forget, there is a little bit of an odd thing that happens when you get over that hurdle for a while, you may have a catch up period where a disproportionate percentage of the net gains go to the shareholders and that real estate had that a couple of quarters ago. And so you've got some not totally linear things happening around the hurdle.
Patrick Davitt - Autonomous Research LLP
Well, that is in the 80-20 catch up right.
Your next question comes from the line of Roger Freeman of Barclays. Please proceed.
Roger Freeman - Barclays
Just back on real estate, it seems and it sounds like may be with the improving economic environment and obviously the supply dynamics, you had a pretty positive outlook on evaluations, is the timeframe over realizations of real estate portfolio has that may be gone out a little bit from where it was six or nine months ago, it seems like there was more focus on near-term realizations may be that just?
Really, and I am not sure that we, I am not sure that was a fair impression, I don't think we have, it's hard to forecast very specifically realization of that and we really don't do that. We have a general idea of how our property is maturing and when we expect it to go to market.
Ours been in a couple of instances things have popped a little sooner in real estate and in some instances there are assets where it might take a little longer, but I don't think it fundamentally changed, but it's lumpy, it's not going to be, we are in a period of time where you can expect to see real estate realizations growing and a fair amount of them over the next 12 months to 18 months but predicting which quarter and what order and what kind of ramp is just not, sort of not doable, it's too market dependent.
It is helpful Roger, just on that to Tony's point, obviously its longer cycle over time, what we tend to look at from a trend basis is kind of gross realizations, whatever that may be, it may be capitalizations, may be current income, may be sales and we look at it over a relatively long tail and on that basis the number of transactions and actually the realized amount has increased quite fairly.
Let me just give you a couple of numbers, this is actually I'm going to give you for the whole firm because I think this question has been asked in different ways over the course of the call, just to give you an idea.
In the first half of 2012, we saw 64 deals produce cash generation of about $4.5 billion. In the second half of 2012 that number went to 86 transactions and $8.6 billion. In the first half of this year, it's been a 105 deals and $12.6 billion.
So while its very lumpy, as the fundamentals increase you can start to see a longer term trend and you have to look at it that way and by the way real estate follow that so when they were, they basically double the amount of transactions and capital that over the last 12 months is actually generating, when it will happen? As Tony said, hard to tell, but that steady trend is increasing and you can see it in our numbers. And we are still in the virtuous part of the realization cycle in a general way.
Roger Freeman - Barclays
Okay, that answers the question very well, thanks. I guess then the second one on it is back on this retail product and I know you can't say a lot but as (inaudible) already mentioned distribution partner, is it one partner and is that going to be an exclusive arrangement?
And secondly, on the earlier call Tony, you were talking about the dynamic of providing daily liquidity and investors also having to I guess understand pick some limits on that so to get access to the higher returns that hedge funds can offer? How does that play out as are there any daily limits?
Roger, I don't think I've said that actually, but and I don't, I can't get in to the terms of it now, and frankly I don't even know all the details of it. So I really can't go further other than to say it combines access for this purpose until it's fully unveiled, I'd just like to keep it combined. It allows the investors to have the daily liquidity features that they want but gives them access to some top hedge fund managers which they also should want, they hope they will.
Roger Freeman - Barclays
Okay, yeah, I guess I misunderstood, okay thanks.
Your next question comes from the line of Jeff Hopson of Stifel Nicolaus. Please proceed.
Jeff Hopson - Stifel Nicolaus
Okay, thanks a lot. Just on real estate, you mentioned that in terms of your investing opportunities that there's still a fair amount of distressed properties out there. Can you explain on that a little bit even on the leverage this year, or over-leverage this year, I would expect perhaps the ability of the current owners to I guess refinance but any additional comments on that issue?
Well, I think, Jeff, in the US, that's happening. It's not like all the distress is gone by any means but markets are healthier, properties are doing better and private markets are very accommodating. So in the US, that's starting to happen and there's definitely less distress then there was a year ago.
In Europe, well, I don't think that's happening and to the contrary, there's been a lot of stress in Europe but people are starting but -- I think it's just starting to loosen up and in one sense of people are starting to face that and want to sell assets and want to move assets. And also there were a number of, in some cases there were number of temporary patches put on where creditors cut a bar, or some slack or extended some things and those are coming up again and borrowed during a hard time renewing that.
So, we're seeing the bank start to sell more in Europe and that activity level is high and then I would say in Asia it's a bit different, it's just - there's the well publicized credit squeeze that's going on in China, but it's also happening in India and it's happening in Brazil and it's happening in some other places. And so real estate financing is kind of drying up in those markets and that's opening some opportunities. So it's locus has shifted a little but in the US I think your perception is right the distress is waning.
Jeff Hopson - Stifel Nicolaus
Okay. Then in private equity, post Q2 despite some volatility in the equity market. So it almost seems like the environment for realizations at least through the IPO process seem to have improved given that one equity markets have rebounded outperforming other, some other asset classes and some of the IPOs having done well, would you say post Q2, if the IPO process of realizations has actually improved a little bit?
Well, it depends on what you're comparing it to. It was pretty good in the beginning of Q2 and then of course June was a little bit choppier, and now it's back to where it was, so I think yeah, so I guess by comparison of June is definitely improved. I don't know that it's much different from the April, May timeframe it was pretty good.
Jeff Hopson - Stifel Nicolaus
Okay, very good. Thank you.
I mean just generally speaking, if you look at markets in the third quarter to date, I mean they're all up solidly and that's true across every sector.
Jeff Hopson - Stifel Nicolaus
All right. Thank you.
Our final question comes from the line of Chris Kotowski of Oppenheimer. Please proceed
Chris Kotowski - Oppenheimer & Co.
Just reflecting on Steve's comments, at the open, I'm not sure though what hit the stocks so much early part of the couple of weeks ago, it was the fear of rates, as much as it was one of your peers commenting that "there is normal biblical opportunity to sell assets here" and that I think just created the fear that there's a fragile window that's about to shut. So, I guess the question is can we infer from the fact that you're holding on to assets like Hilton, even though hotel stocks are hot and EBITDA is up 17%?
And can we infer from that, that you disagree with that point of the year, that this is a big biblical opportunity to sell, and I guess just there's a follow-up to Tony, you said, we're still the virtuous part of the cycle, what gives you comfort not getting to the [profit] part of the cycle?
Okay, well. So, there are obviously, we've got, we filed bricks more today and we're out of real estate, we got some other things to sell our real estate, we've got 3 IPOs on file -- file for a private equity, we still. We're obviously think that before the right asset, this is a good environment, this is a good environment to start seeking some exits. But it's not and we're doing that. But there are other assets like just take Hilton for example, when you can have that kind of growth and EBITDA, with the kind of leverage capital structure, that is on that company, the equity accretion is tremendous.
And you kind of want to let your winners run a little bit because you're accreting a lot of value for your shareholders every quarter and we think Hilton's a great company and we think that we'll have plenty of exit options, we'll have recap options, we'll have M&A options, we'll have IPO options, we'll have all kinds of things. So we're not in any rush, we don't feel like, we feel like it is all, it's about there, you're are looking at the current market conditions and you're also looking at the fundamental growth of equity value company, we are trying to balance those.
And so I think that, I guess I was saying that, I think we've got we don't see any the window is shutting right away and indeed you might get a hotter, as economy improves and corporations get more confident about the future, you might see the corporate change the control market, the M&A market get hotter and that might accrue to our benefit. So I think what I meant by the virtuous part of the cycle was that so much trying to predict markets but in terms of what was going on with our markets, are pretty good, a, so the avenues are open and b, in terms of what was going on with our assets that coming to the stable and particularly on real estate, and that was ours, we have this buy it fix, sell it, our operations there, a lot of the assets are getting to the fixed stage when they would normally look to exit and the windows are open and I think we're going to have another 12 to 18 months of good activity on that.
Chris, I will say just based on the incoming questions, we -- everyone is asking about interest rates, concerned about interest rates, so I might disagree somewhat. And I think there wasn't a clear, and maybe there still isn't a fully clear understanding of how GSO is positioned, that's private market transactions, that is floating rate that they actually benefit in a rising rate environment and we even thought with the Blackstone Mortgage Trust which is commercial mortgages, initially that got hit with the residential rates where you're trying to play a curve, and you know here we're not again its floating rate, they have in their queue for every 100 basis points increase in rates as a commensurate increase in income. So hopefully there's a better understanding today than there was two weeks ago but I still think we have a way to go.
Chris Kotowski - Oppenheimer & Co.
Okay, thank you. That's it for me.
Great thanks everyone and we look forward to catching up after the call as well.
Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect.
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