The Blackstone Group's (BX) CEO Steve Schwarzman on Q2 2016 Results - Earnings Call Transcript

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The Blackstone Group L.P. (NYSE:BX)

Q2 2016 Earnings Conference Call

July 21, 2016 11:00 AM ET

Executives

Weston Tucker - Managing Director, External Relations & Strategy, and Head of Investor Relations

Steve Schwarzman - Chairman, Chief Executive Officer and Co-Founder

Tony James - President and Chief Operating Officer

Michael Chae - Senior Managing Director and Chief Financial Officer

Joan Solotar - Head of Multi-Asset Investing

Analysts

Alex Blostein - Goldman Sachs

Dan Fannon - Jefferies

Craig Siegenthaler - Credit Suisse

Robert Lee - KBW

Patrick Davitt - Autonomous

Glenn Schorr - Evercore ISI

William Katz - Citigroup

Michael Cyprys - Morgan Stanley

Devin Ryan - JMP Securities

Mike Carrier - Bank of America Merrill Lynch.

Chris Shutler - William Blair

Brian Bedell - Deutsche Bank

Eric Berg - RBC Capital Markets

Presentation

Operator

Good day, ladies and gentlemen, and welcome to The Blackstone Second Quarter 2016 Investor Call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes.

And I would now like to turn the conference over to your host for today, Mr. Weston Tucker, Head of Investor Relations. Please proceed.

Weston Tucker

Great. Thanks, Jasmine. Good morning and welcome to Blackstone's second quarter 2016 conference call. I'm today joined by Steve Schwarzman, Chairman and CEO, who is joining us from Europe; Tony James, President and Chief Operating Officer; Michael Chae, our Chief Financial Officer; and Joan Solotar, Head of Multi-Asset Investing as well as External Relations.

Earlier this morning, we issued a press release and slide presentation illustrating our results, which are available on the website. We expect to file our 10-Q report in a few weeks.

I'd like to remind you that today's call may include forward-looking statements, which are uncertain and outside of the firm's control and may differ from actual results materially. We do not undertake any duty to update these statements. For a discussion of some of the risks that could affect results, please see Risk Factors section of our 10-K. We will also refer to non-GAAP measures on this call and you'll find reconciliations in the press release.

Also note that nothing on this call constitutes an offer to sell or a solicitation of an offer to purchase an interest in any Blackstone fund. This audio cast is copyrighted material of Blackstone and may not be duplicated without consent.

So a quick recap of our results. We reported GAAP net income of $463 for the quarter, that’s up 32% from the prior year, and GAAP net income attributable to the Blackstone Group of $199 million. Economic net income or ENI rose to $520 million or $0.44 per unit and distributable earnings were $503 million in the second quarter or $0.42 per common unit, which equates to a distribution of $0.36 and that will be paid to holders of record as of August 1.

With that, I'll now turn the call over to Steve.

Steve Schwarzman

Thanks, Weston, and thank you for joining our call. Blackstone delivered strong results in the second quarter with healthy economic net income, substantial distributable earnings, and another quarter of what I expect will be the best fundraising success in the alternative space.

Our LPs continued to entrust us with more of their capital to manage in these uncertain markets. And despite strong realization activity, we again grew our assets under management to a record level, reaching $356 billion. We are executing against a macro background characterized by uncertainty, low and slowing growth and an astonishing low interest rates around the world. The 10-year U.S. Treasury recently hit its lowest point ever and one-third of developed nation’s sovereign debt is trading at negative yields, and I think two-thirds trading below 1%.

We've been going through an extraordinarily strange period recently really starting last summer with the scare set up by China’s currency devaluation. We then experienced the worst start of the year for equities since the great depression and either greater chaos in the debt markets caused by an incorrect read of weakness in China and weakening trends in the U.S. That was followed by a sharp and surprising market rally which left many money managers wrong-footed only to be hit again by Brexit in the last week of the quarter. And today, the S&P has moved back to an all-time high. Go figure, all kinds of odd things are happening that are affecting markets generally and are presenting what we expect could be very interesting investment opportunities.

Blackstone’s fund structure with over 70% of our capital locked up for the life of the fund and a weighted average remaining life of greater than eight years gives us enormous flexibility coupled with our large scale dry powder capital of nearly $100 billion, we are perhaps best positioned of any firm to move quickly when opportunities around the world.

Limited Partner investors are seeking better returns and less volatility in this challenging environment. Current very low interest rates globally coupled with high market valuations in many areas means that many LPs simply can't earn satisfactory returns with their current portfolios and are increasingly looking for the types of investment solutions that alternative managers can offer. Blackstone has been and I believe will continue to be one of the greatest beneficiaries of this trend coming off of periods where we've raised $132 billion in the past 18 months.

Our global scale then helps us find interesting ways to deploy that capital across all our platforms. In private equity for example we are seeing much higher levels of deal flow, particularly in the energy area. We've also been very active recently, as Tony mentioned, in Europe in real estate and credit. Importantly, we are not passive buyers of any market and only need to do relatively few deals in each of our areas focusing on those unique opportunities where we can create value.

This ultimately translates into better performance. Our private equity and real estate funds were up to 2% to 2.5% in the quarter, 4% to 6.5% year-to-date and 8% to 15% annualized since the start of last year, outperforming global markets over all of these periods. In credit, our gross returns were between 7% to 10% for the quarter, outperforming the relevant indices and frankly on an absolute basis really shooting the lights out.

In our hedge fund area, BAAM’s composite as Tony mentioned were up 1.4% gross in the quarter with roughly one-third the volatility of the market. All of our businesses are effectively navigating this unusual and challenging environment. That fundamental performance which I mentioned has not yet translated into significant appreciation to Blackstone’s stock which has suffered from shifting investor sentiment, concerns over the macro environment and most recently Brexit as compared to where we were a year ago.

The Brexit result has created fallout in markets and politics, most obviously pronounced in the U.K. The immediate adverse impact to public security prices has largely reversed early in the third quarter, although certain currencies like the pound of course have not recovered. In the near-term transaction activity in the U.K. should be slower as decision-makers for businesses remains uncertain and market participants digest the potential impacts of the many different ways that Brexit can evolve.

Longer term, Brexit will likely have some modest adverse impact on global GDP. Although it's too early to assess the full extent given unanswered questions like whether the U.K. will retain access to the European single market. Brexit will possibly constrain access to capital in Europe and you're seeing those tremors hitting the banks and will embark the populist antitrade anti-immigration movements across the continent which is not good for the flow of capital and trade.

For Blackstone, roughly 4% of our invested assets are in the U.K., primarily in real estate and tactical opportunities areas. We believe this direct exposure is quite manageable although we did adjust the private valuations for certain affected investments to reflect a more cautious outlook, which Michael will discuss in more detail.

Our second quarter marks also reflected currency and public stock movement, the latter of which has reversed. I believe this is further illustration of why investors shouldn't put undue reliance on short-term mark to market fluctuations.

The referendum had a big impact on risk sentiment and notably on asset management stocks. BS similarly declined from already depressed levels, although we’ve rebounded a bit. I believe this was overdone given our very manageable exposure to the region and the fundamental underlying strength of our firm. However we've seen many times in the past markets tend to overshoot when there is uncertainty added to the equation. On the positive side, I expect Brexit to create many investment opportunities over time which will well position to assess and pursue. Importantly, since the results of the referendum which seems on the one hand it happened just yesterday and on the other hand feels like it happened long time ago now, but it was only four weeks ago. Blackstone investor committed over $2 billion in the last four weeks to new deals. Several of those were in Europe, including a stake in a Swedish residential business and office complex in Berlin, but most importantly and recently, a logistics portfolio in the U.K. we bought from a property fund seeking liquidity.

We also invested in two new oil and gas deals in the U.S., one of which was the first investment in our BCP VII Private Equity Fund and we completed several new deals in tac ops and GSO.

We also completed or signed up in the last four weeks $7 billion of realization since Brexit. So if you think the world stopped, you should keep thinking. It hasn't. These sales were mostly in real estate, including several office and hotel assets in the U.S., most of our stake of a public company in Asia and six successful stock sales across private equity and real estate. It's pretty amazing. We also formed a joint venture with our private equity company Change Healthcare with McKesson and received a $6.6 billion debt financing commitment which will result in substantial realization early next year.

And also it's been a busy four weeks. We won multiple LP mandates of $1 billion or greater each. That's not an aggregate of $1 billion. Those are several commitments of a $1 billion plus. Our businesses are in terrific shape. 2016 should be a big year for fundraising with $38 billion already raised in the first half. We've generated attractive investment performance and protected and grew our LP’s capital and we continue to invest in our people and our businesses and build on our leadership position in every area.

We had $16 billion of realizations in the first half despite some delays in weakness in the first quarter in fact, basically the world locked up to the first week of the quarter and almost nothing could be done. I expect 2016 to continue to be a good year for realizations. U.S. and Asia are certainly still wide-open for business. The U.S. in particular is a safe haven in today's world and there is enormous liquidity around the globe looking for a home. As a result, I would expect significant cash flows to U.S. markets as interest rates remain globally depressed.

As I said, over 70% of Blackstone’s invested capital is in the U.S. and so we could see many opportunities for realizations which should also be positive for our distributable earnings.

For our unitholders, if you simply ignore realizations and focus solely on our fee-related earnings, we have a clear line of sight towards strong double-digit growth in fee earnings for next year.

This alone could generate approximately $1 per unit or more depending upon the timing of certain events, particularly funds being launched. You should know, which I actually didn't, that the S&P is yielding around 2% today. It's incredibly low. And we don't see why our mostly locked up fee earnings shouldn't be capitalized in our stock price at a similar, if not, lower yield to the S&P. You could do the math. A 2% yield, the same as the S&P on $1 off fee-related earnings implies a $50 stock price, not to $26 where we are today. I know this seems hard to believe but it happens to be mathematically true and finance is supposed to have something to do with mathematics.

At a 3% yield which is a 50% premium to the S&P for long-term locked in cash income - and I wouldn't understand why you made a premium, it implies the stock price of over $30 and that's giving no consideration to realizations, which have already added $0.40 per unit to distributable earnings in the first half of the year and which have averaged almost $2 per unit in distributable earnings over the past three years.

But when you put this all together, I think the math is sort of simple and Blackstone sort of has earnings in two pieces; one, fee earning income, which is highly predictable and which deserves a market multiple at a minimum and that takes you to much, much higher levels than where you are today, as well as our distributions from realizations which always happen and that's our primary business, good investments for our limited partners and that's why they give us so much money. So I'll leave that all to you.

Blackstone is the dominant firm and reference institution in the alternative asset management industry. You may be surprised to learn that Blackstone's market cap is roughly the same size as our next five public competitors combined. I'll say that one again because it surprised me a bit. Blackstone's market cap is roughly the same size as our next five public competitors combined, and I hope we can all agree that Blackstone is very much on sale today. I remain confident that this valuation mismatch will correct itself over time but that's up to you, not to me. In the meanwhile we'll continue to focus on what we've always done, creating great investment products and returns for our limited partners. I’m really so proud of what all of our colleagues have achieved at Blackstone.

I'll thank you for joining the call. I'm going to turn things over to our Chief Financial Officer, Michael Chae. Michael?

Michael Chae

Thanks, Steve, and good morning, everyone. Our results in the second quarter and first half of the year reflect strong execution across all of our businesses despite the volatile market backdrop that Steve discussed.

Our funds delivered good returns across the board beating benchmarks. Our economic net income and distributable earnings both rose significantly from the first quarter, and our capital metrics remained strong with healthy realization and investment activity and continued very powerful fundraising trends.

Total AUM rose 7% year-over-year to a record $356 billion, driven by $21 billion of inflows in the quarter and $70 billion over the past 12 months. Fee earning AUM rose double-digits by 11% to a record $266 billion, partly driven by the launch of the investment period for BCP VII in early May. That launch triggered a step-down in management fees in BCP VI and the onset of a six-month fee holiday for BCP VII seven which will end in November. BCP VII alone will generate nearly $250 million per year in fee revenues starting next year.

Despite the temporary negative impact of the fee holiday, fee-related earnings rose 27% in the second quarter to $226 million. There is some noise in the comparison to last year's second quarter, which included the advisory businesses and a significant one-time expense item, but even adjusting for those, the increase was a robust 16%. ENI was a healthy $520 million in the second quarter, our best performance in the past five quarters. Performance fee has increased from more muted first quarter with good relative returns across businesses.

I'll provide more context to returns in a moment but first I'd like to address the impact of Brexit on our financials, which we know you're interested in. There are three components; currency, marks in our private portfolio and movement in our publics. First in terms of currency, only 4% of our invested capital is denominated in British pounds and this represents less than 3% of our total AUM. The exposure is further mitigated in a couple of respects. A meaningful portion of these assets is currency hedged in some form and much of it fits in euro-denominated funds, which helps to mute the impact from a fund performance standpoint as the pound weakened less against the euro than the U.S. dollar. All of this amounted to ENI impact in the quarter from the pound devaluation of less than $50 million across the firm.

Second, the mark to market impact to our private investment portfolio outside of currency effects was also around $50 million on an ENI basis. The areas of our private portfolio exposure are discrete and in aggregate quite manageable we believe. 4% of our real estate AUM and 6.5% of its invested capital is UK-based comprised of mix of high quality logistics assets, fully-leased student housing, hotel, and office properties. We marked down our U.K. office portfolio notwithstanding how comfortable we feel with our basis in these assets.

This represented the bulk of the total firm-wide private mark to market impact mentioned above, yet its overall financial impact to the firm was small relative to the scale and diversity of the firm’s asset base. The firm’s remaining direct equity exposure is primarily in our tactical opportunities business which had several high quality assets in the U.K., while the immediate operational impact from Brexit to these assets appears limited.

A subset was marked down modestly to reflect a generally more conservative market outlook. The ENI impact was minimal in the single-digit millions. In corporate private equity, the direct Brexit impact was de minimis as we had sold almost $4 billion of seasoned U.K. assets in 2014 and 2015 at a significant profit substantially exiting our portfolio there.

And finally in credit, the impact was also modest. Most of our investments are currency hedged on a principal basis and we have a limited number of investments with operational exposure in the U.K.

The third and remaining area of impact to ENI was from the general equity market downdraft in the days after Brexit that impacted our publics. This too constituted less than $50 million of ENI impact. Importantly the aggregate decline in our publics quickly reversed itself in this quarter and then some in the first several weeks of the third quarter. Further to this against the backdrop of this market rebound in the four weeks since Brexit, as Steve mentioned, we've in fact signed or closed over $7 billion of realizations in over 15 transactions across the firm.

Now I'd like to review briefly the highlights of the results for each of our businesses. In credit, GSO had an excellent second quarter. Gross returns for the performing credit and stress strategies where plus 10% and plus 7% respectively, marketing a strong rebound following a particularly difficult period in the markets. This was driven in significant part by strong performance in the energy portfolio across the platform and by liquid portfolio gains.

GSO had a tremendous fundraising quarter, $7.3 billion of inflows, its second-best fundraising quarter ever. The list is long and interesting. First, we closed on $4.2 billion for a third mezzanine fund in the second quarter in July and expect to hit our hard cap of $6.5 billion based on strong global demand. Second, we quickly raised a new $1 billion vehicle targeting liquid opportunities arising from market location. Thirdly, we priced three CLOs this year totaling $1.7 billion, including largest deals in the U.S. and Europe this year. And fourth, GSO will receive a significant allocation from the capital recently raised by our newly formed Harrington Re reinsurance company in partnership with AXIS Capital, which raised $600 million in largest such offering in the market this year.

GSO was also quite active in deploying capital investing or committing $1.7 billion this quarter. The two most significant areas of activity are in Europe including unitranche debt commitment of over €600 million that is the largest to-date in European market and energy for the second quarter marked resumption in activity and enhanced the outflow which continues to pace.

In hedge funds solutions, BAAM’s composite gross return was up 1.4% in the quarter making up some ground after a challenging first quarter. While much of BAAM’s incentive fee eligible AUM fell below its high watermark in the first quarter given the market headwinds, the second quarter’s positive progress leaves a significant portion of this capital closer to the point of crossing back over.

Demand for BAAM’s products remained strong, including July 1 subscriptions year-to-date gross inflows were over $6 billion. Net inflows for the same period were over $1.4 billion despite the impact of the expected large redemption in our individual investor solutions area which we discussed last quarter. Excluding that redemption year-to-date net inflows were very strong $2.6 billion. We've also locked in some very large mandates which will come in later this year and are having active discussions or several more, so the outlook for the second half is quite positive from a flow perspective.

So the picture here is one of fundamental strength and momentum in the BAAM business, notwithstanding the broader questions about the industry which reached the heightened level in the same quarter. In corporate private equity, our funds appreciated 2.5% in the quarter. We've been carefully navigating a low-growth high-price environment with a disciplined focus that has helped us avoid some of the problem areas in the market over the past few years. With $30 billion of dry powder today in corporate private equity, including our new BCP VII Fund and new core platform, we’re well positioned to take advantage of dislocation.

In the energy space in particular, as we've discussed for several quarters, although we've raised a lot of capital, we chose to keep our powder dry over the last year and wait for the right moment. That patience has paid off, in this quarter we started to really see the opportunity set ripening and have recently committed to deploy about $1.5 billion of equity in several investments and have a strong pipeline. We've remained active on the realizations side in corporate private equity with $3.1 billion sold in the second quarter mostly in BCP V.

As you know, BCP V is substantially and carry on a total fund basis and we continue to accrue carry with additional gains. If everything were sold to-date, we crystallize and payout the funds entire current net performance receivable of $373 million. Despite this, some of our recent sales in BCP V had not yet converted into distributable earnings. The reason is that we've recently sold some large investments of lower multiples of invested capital that given the long hold periods did not exceed the accumulated preferred return and we need to make up such deals shortfall with additional realized gains elsewhere before carry can be paid.

Simply put, this is a timing issue that arises from the sequencing of investment realizations, and as I highlighted on last quarter's call, this could persist over the next couple of quarters. That said, we've good momentum in realization activity that we expect will drive distributable earnings, particularly from our real estate business. With regard to real estate, our overall performance remains very strong despite some bumpiness in the quarter in public markets and the markdowns on our U.K. office portfolio that I discussed.

Our opportunistic funds were up to 2.2% and core plus up 2.1% in the quarter. The overall healthy fundamental operating environment and positive supply demand dynamics in most regions and sub-sectors creates continued opportunities. We deployed our committed $2.6 billion in the quarter, and in the first two weeks of third quarter, we’ve consummated four new transactions including three in Europe that emanated to different degrees from the post Brexit turmoil. We realized $3.4 billion in the quarter and the global hunt for yield is sustaining demand for the type of real estate we own particularly in the U.S. In addition, we currently have an excess of $4 billion of equity realizations from asset sales under contract at an upbeat outlook for the pipeline of private and public market realization opportunities.

I'd like to close my remarks to stay with a bit of longer term perspective for our business to complement and echo what Steve said about our value. The dual drivers of our long-term value as Steve said are of course our fee-related earnings and our performance fees. As Steve said and as I've discussed in the past, we expect a powerful upswing in FRE next year based on capital already raised. And as Steve said, this is recurring dependable high margin cash flow stream mostly generated by management fees from capital locked up contractually for an average of 8.5 years, and as that stream grows, will become an even more visible part of our earnings machine.

With respect to our performance fees, the driver of that future value is the capital that is put to work that will season value and eventually be harvested and it’s important to step back and appreciate the extraordinary position that we are in in that regard. At the end of the quarter, we had $269 billion of performance fee eligible AUM, of which $174 billion was invested, with $121 billion in drawdown funds. That's what I call our value in the ground position. That is approximately triple the amount we had in the ground five years ago.

In 2015, we generated around $2.50 per unit in performance fee distributions, over 80% of which was harvested from sales originating from that far smaller value in the ground position from five years ago. If we deliver investment performance even close to what we've done historically with 3x the value in the ground today, we believe that bodes very well for the growth and value of our future performance fees.

And while performance fees can be less predictable in the short-term, over longer periods of time we believe they are highly predictable given our track record. While public investors have only been witnessing this dynamic for a relatively short period of time since our IPO, our LPs have seen us do this consistently for 30 years and the fact that these investors continue to entrust us with more and more of their capital to manage is indeed the best endorsement.

With that, we thank you for joining the call and would like to open it up now for questions.

Weston Tucker

Thanks. Jasmine, if you could open up for questions. But before you do, if I could just ask everybody in the line, we have got fairly full queue, so please limit your first calling one question and one follow-on, that would be terrific.

Question-and-Answer Session

Thank you. [Operator Instructions]. And our first question comes from the line of Alex Blostein with Goldman Sachs. Please proceed.

Q - Alex Blostein

Thanks. Good morning everybody. Just want to start off with a backdrop for fee-related earnings. So $60 billion not currently earnings management fees, up quite significantly from the prior quarter. So clearly very large numbers, so I was hoping you guys can run us through the expected timing of how this is going to play into the management fee growth over the next year to year and a half? And then more importantly, I guess, when thinking about the margins they've been range bound on the fee-related earnings for the last couple of years. So, again as we kind of start to think about the growth on the top line, how should the margins progress on the back of it?

Michael Chae

Well, I think taking the second one first, Alex. I think we will see - we’ve seen obviously low double-digit AUM growth over a long period of time now and we expect that to continue as well as fee earning AUM growth in the high-single-digits to low-double-digits over time. On the margin, fee-related earnings margin basis, there is obviously some noise from time to time in the numbers and you have to adjust for those. But if you step back and look at sort of a longer trajectory over the last five years, we did 36.4% FRE margin in the second quarter. That's exactly what it was for all of 2015, although we kind of got there differently. And if you look over the longer period of time that has grown by 700 basis points over a five-year period. And again while there is occasional ebbs and flows in that trajectory, that trajectory has been on an upward trend and we expect that to continue.

Alex Blostein

Got you. And then just for my follow-up, Steve, if I may just ask you again around the capital return dynamic, it comes up pretty frequently but given the underperformance of the shares obviously with a lot of several months here, just wondered if you guys have given any thought to the buyback because it does tend to come up pretty frequently for you guys?

Steve Schwarzman

Why don’t I delegate that one to Tony?

Tony James

Yes, Alex, we looked that again after last quarter frankly and we just feel - we feel a few things that we can earn a huge return on the capital that we have on our balance sheet. It tends to be - we tend to put up a small amount of the fund. It’s enabling capital that allows us to raise LP capital. And if you look at the return on that capital that comes from LP’s management fees, performance fees, it's compellingly high. And we are in a business where we play out 85% of our earnings. We don't accumulate a lot of cash flow and its double-digit growth, high-single-digit low-double-digit growth as Michael said. We are needing that to feed that capital in and to drive to grow the business. And we continue to conclude that our LPs - our unitholders are better off by us continuing to grow this business and put this capital work with very, very high returns and to buy in shares. And so far as we've analyzed that we think that's the better view.

In some point of course if our stock gets - we think the stock is a bargain here and at some point even though we can earn sort of 40%, 50% returns on cap - on incremental capital, we will look at buying our shares, but that - so far we've been more concerned about building a great company, continuing the growth and serving our LPs than trying to manage short-term stock price.

Alex Blostein

Thanks, great.

Weston Tucker

And then Alex, just to follow-up on your first question to some of the dimension of that $60 billion not earning management fees, a big chunk of that is our BCP VII fund, as Michael mentioned. That will flip on in the fourth quarter in November. We've also got a fair amount of dry powder in credit in our new mezzanine fund in real estate that earns as invested and that will be over the next several years. So it's a bit of a mix between capital that we turned on in the next year versus when it’s invested.

Alex Blostein

Yes, got it. Thanks so much.

Operator

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

Weston Tucker

Hey Dan, good morning. Dan, you there? Let's take the next question, Jasmine.

Operator

Yes, sir. Our next question comes from the line of Craig Siegenthaler with Credit Suisse. Please proceed.

Craig Siegenthaler

Hey, good morning.

Weston Tucker

Good morning, Craig.

Tony James

Good morning.

Craig Siegenthaler

So on fundraising first. It's been a very strong to your capital raising cycle here for Blackstone, and I think the $21 billion in 2Q was probably much better than anyone has forecasting, but I wanted to get your perspective on how aggregate capital raising trends could really trend over the next 12 months just with all the recent fund closings and maybe you can also help us with the largest potential strategy that are either open or could open given the majority of the last fund is now committed or invested?

Tony James

Okay, you want me to start on that. Fundraising for our business is lumpy and when it comes to drawdown funds - when you have a flagship funds, you tend to have a big year and then in tends to slow down a little bit. However as our firms become more diversified, we have more and more funds all the time that are in the market and any one time we might have dozens or more, number one. Number two, we are constantly - I want to emphasize innovation. What really drives this company is innovation and we were constantly having new products and a lot of times that starts off with a separate account with a few big investors to do something different. And once we get that money invested, then we convert it more towards a fun and take it to a broader market.

And then third, increasingly we have always open funds and permanent capital vehicles and things that are in the market every quarter and every month and every day. We take in daily capital with a bunch of your product, so our mix - what you're seeing is the business shifting we continue to have the big flagship funds and those hit 15 but the business is shifting towards constant new things and more hours open, so you're seeing that lumpiness level out and that's why you're having surprisingly high fundraisings in the absence of the big global funds.

And I'm going to turn it over to Michael to talk specifically about how that plays out a little bit and then in terms of specific funds that we are going to be entering the market, the private placement exemptions require that we not mention them by names so we can that - you can take that offline with some of the investor people.

Weston Tucker

Craig, I'll just briefly put a fine point on what Tony said. If you step back and look at our annual inflow pace, last year we obviously had a monster year $94 billion or so. In the prior three years, 2012, 2013, 2014 when we were definitely smaller firm in terms of product set, we averaged between kind of $47 billion and $60 billion actually in each of those three years and I think over the next year or so, it will probably fall within that range. We’ve generally outperformed our kind of prior year forecast on our fundraising because things just happened and we ended as Tony said. And that pipeline is a combination without getting specifics of both I think obvious successor funds to fund you're well aware of, run with numerals three and so forth of different funds are in credit real estate, regional funds et cetera and then also new products, and then as Tony said some of these always on fundraising products like in real estate area.

There is no segment of our business that doesn't have multiple new products entering the market.

Craig Siegenthaler

Thanks. And just as my follow-up on fees, parts of the hedge fund industry are adjusting their fee structures but there is actually a few good examples in the office segment were actually you're seeing higher fees and I think in BCP VII, you saw a modest fee increase from Fund VI. So I'm just wondering, can you talk about where the industry is seeing fee pressure and also contrast that to how Blackstone’s fees are trending because I don't think you've actually seen any sort of negative fee adjustments significantly even in the hedge funds side of your business?

Tony James

Yes, I think your perception is generally right. We are not seeing across the board much in the way of fee pressure at this moment. Of course we've kind of lead the industry with, I think, good fees for our LPs all the way through. We've never have been a fee [indiscernible]. And we've voluntarily led the industry in changing how we treated certain transaction-oriented fees and voluntarily relied more on management fees than those things. But at this point it's pretty stable and even in the hedge fund, and then we have a mix shift going on that overlays against that. So in the hedge fund area, we are adding more high-margin products but in some of the other areas like real estate, BPP for example is somewhat lower fee product and so core private equity and PE. So there are some variations going on in the mix of products by segment, but in general if you look at product-by-product, we are not seeing significant fee pressures.

Weston Tucker

And to Tony's point to put numbers on it, if you do the math which I think you can from public data of management fee rates across the whole platform, i.e., or management fees or base fees over our weighted average fee earning AUM over any period of time. As Tony said, the numbers will tell you over the last year or 2.5 years, it's been very stable so within like one or two basis points across the whole firm over the last couple of years. Now there is different things going on within that the mix shift Tony mentioned but then also in terms of underlying funds - and I think I've mentioned this a couple of quarters ago, if you look at our flagship private equity funds, if you look at our flagship global real estate fund or flagship European fund, the effective management fee rate once you get through the fee holiday but taking that into account, will be higher in those three products than in their predecessor funds.

Craig Siegenthaler

Thank you.

Operator

And we do have Mr. Dan Fannon back with Jefferies. Please proceed.

Dan Fannon

Thanks. Can you hear me now?

Weston Tucker

Hey Dan, we can.

Dan Fannon

All right, sorry about that. Can you provide some additional color around BAAM? Obviously the industry headwinds are there but you continue to take inflows, you're adding new clients. Just wondering if you're getting a greater share of the wallet from existing clients or what's coming from the kind of new clients to firm?

Weston Tucker

Well, I think we've been getting greater share from the clients for a long time. I mean the actual step back from the hedge fund industry and look at the hedge fund fund-of-funds industry, that's been in decline for several years, yet our business has been growing rapidly over that period of time. And it's really hard - well, I mean its remarkable job that they've done in that business because to be the industry leader and a dominant industry leader and still grow market share, it's not too easy to find examples of that around the world and they pull that off.

They pull that off though by innovation. If all they were was a standard hedge fund fund-of-funds, you wouldn't see this picture, but their ability to create new products and serve our customers in new ways and have those be higher margin products is been remarkable and they've got some really big ideas coming that could add tens of billions. And I’m not going to get into what those are. But I think that they may be heading for a growth spurt actually here. So yes, we are taking market share but it's by being creative and it's creating new things. It's not trying to just grab more of the old.

Dan Fannon

Thanks. That's helpful. And then on the $7 billion in sales that you guys have highlighted thus far in the third quarter, I know it's across a multitude of strategies and products, but I guess, can you highlight specifically kind of the end markets and kind of some of the bigger transactions and kind of how we get to think about the flow-through potentially through the distributable earnings?

Weston Tucker

Sure. Michael?

Michael Chae

Sure, Dan. The $7 million which is both realizations we put under contract and actually sold, it's a mix across the firm. The biggest part comes from real estate. And then within that for real estate and private equity, it is a mix of public sales. We've done a bunch actually in the last two or three weeks and also private sales, particularly with respect to real estate but also taking into account for example that change McKesson deal which is quite transformational deal that we signed up that Steve mentioned. So it's really - it's a lot of different deals. And in terms of contribution especially as it relates to real estate, it should be very healthy.

Dan Fannon

Great. Thank you.

Operator

And our next question comes from the line of Robert Lee with KBW. Please proceed.

Robert Lee

Thanks. Good morning everyone. In terms of may be going back to the hedge fund solutions. I was just wondering if maybe you can give a little bit more finer point on where you stand with high watermarks, I mean, kind of how far away is kind of the bulk of assets and what would it take to start pushing more of the strategies there into fee generating - incentive generating?

Michael Chae

Sure. Robert, Michael. Much of the dollars under the high watermark vast majority, they weren’t - they were above the high watermark at the end of the fourth quarter and they went below it in the first quarter because of the industry pressures and paying down 2.9% across the platform. So the numbers are basically that 90% of the incentive fee eligible AUM is below the high watermark, but of that 90% the vast, vast majority again about 90% of it is on average 2.5% below the high watermark. So those are the numbers and they are kind of intuitive when you think about what happened in the first quarter and then what happened in the second quarter, and obviously our team at BAAM feels optimistic about near-term getting back out of that.

Now the reality is its investor-by-investor in terms of what the high watermark is but that’s the sense of kind of blended average across the platform.

Robert Lee

All right, great. And this maybe a follow-up and sticking with the hedge fund solutions business. So I'm just curious if any of your recent experience may be with fidelity funding being and taking money out of the product pretty rapidly I would think. Any thoughts that maybe the liquid ops part of that business is targeting the high net worth market while maybe a lot of potential assets in the rethinking that given that potential volatility of assets and uncertainty around flows and lower fee points in some cases that it's maybe really still the opportunity you thought it was few years ago or any change in the sentiment around that?

Michael Chae

No. Well, I think we are just as optimistic about as ever. In fact it was the very success of that product that led to the redemption, so let me explain that. We’ve originally worked with them for three years of R&D [indiscernible] fidelity, and they got a pretty good deal. We then created a product for which there was a lot of - there was an awful lot of demand elsewhere and frankly better fees and we didn't have infinite capacity in that product, so needless to say we weren't going to continue to grow the low fee form of it and so we've moved our focus on to other investors and that's continued to grow. So the AUM of that business is growing very nicely and I expect to continue to grow very nicely.

I mean what a great product for retail investors to be able to get access to what only institutional have been but do it with a lot of liquidity.

Robert Lee

Great. Thanks for taking my questions.

Michael Chae

Thanks Rob.

Operator

And our next question comes from the line of Patrick Davitt with Autonomous. Please proceed.

Patrick Davitt

Hi, good morning. Thanks for taking my question. You highlighted energy on the very strong credit performance. Is there anything idiosyncratic within those marks or specific certain positions that drove the very strong performance, or was that really just the shift in spread of the commodity prices?

Tony James

Well, we don't have hundreds of names in that. So yes there is certainly - there are certainly - it is a few big deals which moves it. But at the same time, the shift in perceptions and commodity prices moved everything. So I think the answer is both. We saw some bonds of energy companies that - and I'm not saying we own these companies but if you look in the market, you will see bonds of energy companies that traded out of single-digit prices and now they are back up in the 20s and they are still insolvent companies but what a run. So I think you really have to unpack it name by name. However are all names move together, so I think as I said, the answer is both.

Patrick Davitt

Okay, great. That’s all I got.

Operator

And our next question comes from the line of Glenn Schorr with Evercore ISI. Please proceed.

Glenn Schorr

Hi, thanks very much. Quickly on Invitation Homes is, A, if you can remind us where its marked at on the books, and more importantly it’s been this great growth story but I’m curious at some point does it transition from growth and acquisition story to just more of a management company? Just a quick comment would be great.

Tony James

Well, we don’t do specific marks on specific assets, so I'm not going to get into that. I would say it's been a great investment. We continue to be very optimistic about where home prices are in the cycle. I don't even think we are in mid-cycle yet, so I think there is a - in terms of homebuilding and general activities, prices have come up a lot. As a result, we are still buying some homes but it's harder to buy in the volume that we once did and so it's becoming a more mature investment in terms of rate of growth. But we still think there is potential we had and is it more of a management company? Sure it is, because we got off lot of homes and we want to serve those renters really well. We want to be a great landlord, and we are continuing to try to do that in a flawless way. It's a big global business with lots of lots customers and you never get it perfectively so we're working on that.

Glenn Schorr

Okay. Just appreciate that. Just one quickie on the CLO business. You mentioned you did a couple of them already. So a lot of players in the market had slowed down because of some of the risk retention rules but I think there is some workarounds starting to happen or risk retention vehicles potentially. I'm not sure if you are creating something similar but curious for your outlook for your CLO business specifically?

Tony James

Well, I think that it will be market-driven. We need to buy assets at good prices and we need to have liabilities at good prices and we kind of operate - both have to be available. I think that we are a good provider of capital. I think if anything structured products should be harder for the banks and it's opening up more opportunity for us. But it's not just in CLOs but it's also on the mortgage side. And we’re as, I think, creative as anyone in having risk or capital relief in sort of vehicles.

Michael Chae

On risk retention, as Tony just said, obviously there is Europe and the U.S. In Europe, the rule has in place for - it’s been in place for longer and we have structures that deal with that nicely, and in the U.S. we think we have our arms around it as well.

Tony James

And the rules are so much different between the two areas, so yes. But anyway, yes, so we’re working on that along with everyone else.

Glenn Schorr

Okay, thanks so much.

Operator

And our next question comes from the line of William Katz with Citigroup. Please proceed.

William Katz

Okay, good afternoon everybody. So I’m trying to think in prior statements somewhere you had mentioned that it wouldn’t be a surprise if there was a pretty sizable shakeout in the hedge fund industry. So I’m wondering if you could sort of update your thoughts on that and then how does Blackstone sort of do in that backdrop and where might some of those assets go to?

Michael Chae

Yes, so you can't read headlines and know what was said, so what we are seeing is - I don't think we see a collapse in the hedge fund industry at all. But what we are saying is a lot of turmoil in there but then the turmoil is moving - assets are moving from one form of manager to another form of manager. Frankly we expect to see assets moved from human managers to machine managers. We also expect to see assets moving from high fee managers to lower fee managers or lower fee vehicles, and in some cases as is moving from vehicles with lots of liquidity to assets with less liquidity and all of this is happening at once.

But I do think - I think fundamentally when you have an industry which has underperformed the market averages and charges two and 20, there is going to be a lot of fee pressure on a lot of managers, and indeed a 2% manager fee is one thing if you're earning 10% growth, it’s another think if you're earning 4% growth obviously. So those forces are playing through.

As far as we're concerned, we still think hedge funds play a very important role on a portfolio and give investors exposure to all kinds of different markets so they can pick their market and they can mix and match different exposures, commodities, emerging markets, takeovers, negative beta, positive, high beta et cetera, et cetera. And they're very important for portfolio instruction. And we think we are pretty uniquely situated to do that and that we are in a position to use our market cloud to extract better economics from the managers and largely offset our fees. So as a result we are - people getting an awful lot of value from us and it's one of the reasons we are continuing to pick up assets and I think all this turmoil is actually helping us.

William Katz

Okay. Just as a broad follow-up here. As you think about world of slow economic growth, is it still fair to try underwrite 20% returns in private equity real estate as historically been the case, or should we be thinking about something a little bit more realistic?

Tony James

20% growth in private equity real estate is totally realistic. So we are thinking about something that's realistic, just want to be clear about that. Remember we are not buying the market. We are not buying economies. We are buying typically broken assets or under-managed the assets and then we are taking those assets, managing them better, significantly increasing the earnings of the cash flow and converting them from orphans or weak players into core assets, either core assets with low cap rates in real estate or core assets with high PEs in private equity. And if we can take a dog and create a great company, we'll get a pickup not only in the earnings but the multiples, and in real estate if we are picking a broken asset and creating a core real estate asset, we’ll do the same. So as long as we can keep doing that, it's fine - whether economic growth is 2% or 3%, it makes no difference to us and that's what people worry about when they say it's going to be slower growth. It's that kind of thing.

So yes, we can still do very well as long as there are assets in the world or companies in the world that are not perfectly managed.

William Katz

Okay, appreciate the perspective. Thank you very much.

Operator

And our next question comes from the line of Michael Cyprys with Morgan Stanley. Please proceed.

Michael Cyprys

Hi, good morning. Could you talk to some of the strategies behind the new opportunistic credit funding you raised? I think it was about just under $1 billion that’s focused on market dislocations. Just any color you could share around the strategy there, the return targets, how big could this be, what sort of geographic regions here or sectors that you find most appealing for this strategy?

Tony James

Sure. One of the areas of greatest dislocation in terms of technical factors is credit. The regulatory changes, the capital pressures on the banks, the weakness of their balance sheets and all those things accumulated to evaporate credit and credit markets - sorry, liquidity in the credit markets as Steve in particular has been commenting on. And that's created a lot of pricing dislocation.

Earlier in the year when we’ve set this up, you could see pricing of credits across the board where you’d have to have default rates high year than in the depths of the financial crisis to justify those low prices and why, because there was a sort of risk of mentality, investors were pulling their money and there is no liquidity in the market so the pricing was terrible.

So I basically think credit markets in particularly illiquid credit markets are going to be a really, really great place to be going forward, thanks to the regulators and the government that are impairing the banks and the investment banks and the providers of liquidity. So very broadly this is a play on where we are benefiting from regulatory if you arguably overreach. With respect to regions, it's focused on the U.S. and Europe where we have big credit markets with good creditor rule. So if you're a creditor, you want to have good bankruptcy rules, good creditor protections. It's no, we’re not speculating on sort of quasi equity in some of the emerging markets on some of this.

It's developed markets focused and it's across all industries and they can buy everything from distressed to normal performing bonds that are just underpriced.

Michael Cyprys

And any color around the structure of the vehicle drawdown? I would assume how long and what sort of economic for Blackstone?

Tony James

Yes, it's drawdown and it's consistent with economics with all of our other credit vehicles.

Michael Cyprys

Got it. Okay. And then just lastly on Harrington Re insurance transaction, $600 million raised I think it was. Could you shed any light on the strategy there and also the economics for Blackstone?

Tony James

Sure. I love Harrington Re. I personally tried to take the biggest bite that the rules would let me because I think there was some - and I think Steve did too and I think there was some limitations on how much insiders could buy. I mean this is a just - we’re out of - we got out of registration right. Okay, this isn't great. This is - I love this. So this allows retail investors or institutional, but think about small retail investors to get to full Blackstone products in one set. You don't have to buy go through a lot of brain damage and filling out papers and big minimums and all that to get into all these different funds. So first of all, so you get - you put money up, you get Blackstone returns across the portfolio and diversification which is very steady. It’s high return but when you get that kind of diversification, it’s very steady.

We then because we have a reinsurance partner we get to - we invest in the flow from the reinsurance. We get free leverage, so we get the returns on $1.50 for every dollar we put up. The Blackstone returns on a $1.50 for every $1 that we put up. Then those return cumulate tax-free because this is an insurance company so they just keep cumulating, cumulating, cumulating instead of having to pay tax on your interest and your gains and all that. They get - tax free, they get reinvested. Then when we want to exit and so the book value grows. Then we want to exit, we will IPO this thing and we expect to get a premium to book value so then you get a markup on all that cumulated earnings and cumulated tax free and guess what, when you sell its capital gain. It's just a great product. And for us - so that's from the investor standpoint.

For Blackstone its permanent capital, we can put it in any fund we want and we have a great reinsurance partner who is a real insurance company that is really wonderful underwriter. We actually hope to make money on the insurance underwriting side of that as well. So obviously I liked the product a lot for both Blackstone and for the investors. It's a win-win like so many products are but it's good for us and it's good for our LPs as well.

Michael Cyprys

Great. Thank you.

Tony James

Thanks Michael.

Operator

And our next question comes from the line of Devin Ryan with JMP Securities. Please proceed.

Devin Ryan

Hey thanks. Good afternoon. First question here just on retail fundraising. And now that we’ve had some time to digest the final Department of Labor fiduciary rule and I’m sure you’ve guys have had conversations with your distribution partners to this point. I’m just curious if you’re expecting any changes to product structures in how you sell through the various brokerages and whether it creates any timing disruption, really just trying to get a sense of feeling around the retail opportunity with some of the changes coming to the industry?

Tony James

Yes, those fiduciary rules are more focused on retirement plans, 401(k)s and things like that. So, so far our distribution has been mostly to high net worth individuals and that’s unaffected, although we are increasingly creating products that are in more of a liquid sort of tradable form which will be fine for fiduciary and those can go to smaller investors. We are hopeful that my partner, Joan, will be able to crack open 401(k)s in a big way for alternative someday which would open up huge demand for our products but that's always a way and it has nothing to do with the fiduciary rules. I actually think ultimately those will be helpful.

Joan Solotar

Yes, in a way we are in a great position because we are entering these markets after all of the changes. So we've been able to evaluate everything and structure products that we think will be best in class and provide really terrific returns like our others do on a net basis to investors.

Devin Ryan

Got it. That’s very helpful. Thank you. And then just on the real estate platform and landscape, bank regulators are increasing scrutiny just on the commercial real estate lending standards for the banks. So I'm just curious if your view of shifting at all and the opportunities set in the U.S., meaning does it feel like we’re getting frothed all there or on the other hand I hear the comments that momentum is strong with dollars coming in to the U.S. I’m just trying to get a sense of kind of deployment trajectories versus kind of the monetization backdrop?

Tony James

Well, I think we are in reasonable balance is the answer. There is a pretty good bid for really high-quality stabilized assets because cap rates are low and they are safe assets, so it's a great country with really solid economy and so a lot of investors want to - are happy to park their capital in those assets. On the other hand, we are not seeing any signs of - in general, of overbuilding, the kind of frothiness that are precursors to the collapsed real estate values. So some sectors are a little more active building than others. There is more building in multifamily for example than in terms of where it feels like you are in cycle than in single family homes. It's just looking at residential. So you have to kind of unpack the things.

There is great demand for office space in Northern California with the tech boom and less so in suburban office space in some central parts of the country. But across the board, we are still seeing good opportunities to put money out as well. And I would say though that five years ago we were able to buy things at 40%, 50% discounts to physical replacement costs. We’re still buying things at discounts to physical replacement costs but the discounts have narrowed a lot.

However as long as are buying at discounts to replacement costs, there is not going to be a lot of new building that crushes us, right, and we feel very good about the new stuff we’re buying.

Devin Ryan

Okay, great. That’s great color. Thank you.

Operator

And our next question comes from the line of Mike Carrier with Bank of America Merrill Lynch. Please proceed.

Mike Carrier

Hi, thanks a lot. First question just on DE and part of the quarter and then just the outlook. So in the quarter just on fee-related earnings, it seems like in the private equity business, there was no step-down on the fees. Just wanted to find out the timing of that, and I understand the outlook in terms of the ramp in FRE in ‘17. And then on the realizations, Mike, I think you mentioned that even though there was $9 billion, some of the nuances there in terms of why we didn't see big realized performance fees, was they are coming out with BCP V. Just want to make sure that was the bulk of the reasoning. And then when we think about the rest of the portfolio, are there any other nuances like co-investments or anything else that could not flow-through the DE unlike we typically expect?

Michael Chae

Sure Mike. On the FRE question, there was a step-down in BCP VI in the quarter and at the same time that BCP VII went up with fee holidays, so that's why you will see for a couple of quarters sort of a trough period for corporate PE, FRE and before as we talked about in this call, it really takes off.

On the realization sort of DE conversion issue, it’s - I think we've actually covered the two points here. The first is the BCP V issue that I addressed pretty specifically in my remarks and then the other is much less in effect but the question was asked around for example the BAAM high watermark in that from an incentive fee collection standpoint on that effect DE in the near-term. So it's really those two things.

Weston Tucker

And then hey Mike, just to follow-up on the first part, the reason you can see the sequential decline in base manager fees in private equity is, as Michael said earlier, you have a lot of new products coming on, so SP [ph], on tac ops, some of these other businesses that are growing that the recording segment includes is why the sequential management fees look like there wasn’t a step down.

Mike Carrier

Got it.

Tony James

Yes, and then I think there is a point there that everyone should remember and we present our business in four segments but we are in a lot more than four businesses and they all have to - we have great products in 15 or 16 different businesses led by fantastic discrete teams and the breadth diversity and strength of our business is much more than appears if you just look at four silos [ph].

Mike Carrier

Okay, it's helpful. And then just quick follow-up. When we look at the returns in the quarter given all the volatility things however relatively well, you guys mentioned how much money that's in the ground that you can generate, or is that like carry generating eligible on, but obviously there is a lot of macro factors, Brexit, that are weighing on investors’ minds. So just wanted to see if you could give an update on like portfolio company trends across private equity and real estate just to see how things are trending for the outlook for returns?

Tony James

Yes. Okay, well, in general our portfolio companies in private equity are growing in the low-single-digits. That has come down and we've had these conversations every quarter for last five or six quarters, that’s generally - it's kind of been - the rate of growth has slowed each quarter over that period of time I would say as the recovery in the economy gets a little long in the tooth. But it's still however succeeding the S&P 500 growth of earnings a lot. In real estate, the both occupancies are going up and rents are going up so - and that's generally across the world and across asset classes, so I would - and I haven't seen any diminution of that, so I think those trends are continuing to be wind at our back.

Mike Carrier

Okay. Thanks a lot.

Operator

And our next question comes from the line of Chris Shutler with William Blair. Please proceed.

Chris Shutler

Hi guys. Good morning. In the hedge fund business with some of the new commitments that you talked about having recently closed or in the pipeline, what kind of return expectations to those investors generally have for the hedge funds segment? Thanks.

Tony James

Well, again you have to break that down by products and I assume you're basically asking - I will assume that you are basically asking about our core hedge fund fund-of-funds [ph] product.

Chris Shutler

Yes.

Tony James

And in that I think they are hoping to get near S&P returns with about a quarter or third of the volatility.

Chris Shutler

Okay, got it. And then maybe just a follow-up on the EBITDA growth question a second ago for corporate PE. I mean that's been in the low-to-mid-single digit now for the last couple of quarters. I mean if the EBITDA growth numbers remain, I guess, somewhat muted here. I mean, can you still achieve 2x MOIC. I mean would it just take longer mathematically, let's say it does, but any thoughts there?

Michael Chae

As I mentioned before, we are expecting to get the same returns in private equity that we’ve earned historically. So I'm very comfortable with that. One of the things about - I think I gave you the low-to-mid-single digits but we are doing more and more things in private equity that are not just buyouts of traditional mature companies that are traded publicly. If you look at where our money is going, there is a lot more buildups where we take a small company and great management team and assemble a national champion. There is a lot more investment in like oil and gas exploration. There is a lot more dream filled building of infrastructure like assets around the world and all those things are not in the EBITDA growth rate because they are not mature sort of companies where you measure it that way. And those things are where most of our money is going and they are offering extremely attractive returns.

Chris Shutler

Okay. Makes sense. Thank you.

Operator

And our next question comes from the line of Brian Bedell with Deutsche Bank. Please proceed.

Brian Bedell

Great. Thanks for taking my questions. Maybe just a follow-on to that actually in terms of deployment. It sounds like you're getting more innovative in trying to find opportunities. Maybe just to talk a little bit about some of the entry multiples in the U.S. with the market being relatively high year in a safe haven and maybe you contrast that with what you are thinking about the European opportunity given Brexit and NPLs there and also the energy cycle in terms of sort of timing of opportunities there?

Tony James

Okay, well in the U.S. - and you folks from private equity I assume - entry multiples are definitely higher but I have several caveats. The availability - the cost of debt is also definitely lower. The availability of leverage is quite attractive, so the quantum of debt is higher. And we've shifted our focus towards companies that have, I would say, you'd ordinarily pay more because they are businesses with greater organic growth and ideally ones with where capital expenditures is low percent or other capital needs that drive that growth are low percentages of the free cash flow.

So if we look at the unlevered returns we have, we're getting the same that we always did but there is mix shift and we react to market conditions and we try to anticipate and be ahead of it and be clever about that. But that plus what I mentioned in the last question, Chris, was - is really why we’re still able - we think able to deliver really attractive returns in private equity.

As we move to Europe, Europe has been a market that whether it's relatively less available in private equity - there has been relative less available. We've been, I think pretty public about concerns about the long-term growth rate relative to the Eurozone, structural integrity of the Eurozone, strength in the banking system in the Eurozone, the refugee crisis and so on and so forth, so a lot of issues in Europe that the U.S. doesn’t face. Yet prices in Europe have been not lower to reflect those added challenges. And so that's made Europe a harder place to put a lot of money for us, but we are still looking a lot of things.

I think Brexit actually to the extent it makes people step back and knock some equity values down, will enhance our opportunity to Europe. Europe has been tough for a while.

And then in energy, not sure what exactly you're interested in there but I think it's important to remember that we've been big energy investor for a long time. This is not new. We are on our second dedicated fund but even before our first dedicated fund we have a lot of energy which is why we went out and raised the dedicated energy fund just so we didn't over concentrated in that. And that energy fund is both a global fund and - but that's things like oil and gas in the upstream, but it also buys power plants and builds renewable assets. So usually in energy what's bad for one in that spectrum can be good for another. And I think so what you need to keep in mind is as oil and gas make it soft, maybe that means that the buyers of oil and gas have some real interesting opportunities. So we play the full spectrum and right now we've got just a ton of opportunities there.

Brian Bedell

Thank you. That's great color. And maybe just one last one either for you or Steve. As pension plans, you think about allocations going forward and we have lower yields that could theoretically lower discount ratings and raise liabilities and we’ve got full equity markets and low rates for the fixed income side, so LDI strategies could even be perceived as less attractive. Obviously you would think alternative strategies, particularly private equity and long-dated would be much more in demand. What are you hearing from pension plans and investing more in alternatives? And then with the fundraising being so strong and being largely oversubscribed, how can you meet the demand for that in terms of investable opportunities?

Steve Schwarzman

Well, I think I'll take that one. It’s Steve. On the pension funds, we've been having sort of a pretty remarkable run in terms of raising money and it's one testament to the firm in breadth and excellence of performance. And on the second factors affect that these institutions typically are not hitting their assumptions, actuarial based assumptions and they need to do that. And your assessment in my view in anyway of the way the world lays out is correct. And as we talk with our clients and new clients, they really need to find a way to make things work.

And so we are finding a broader range of people who want to invest more and more money in the alternative space and our existing clients tend to be stepping up their size significantly with managers that really like and trust and I think maybe everybody on a call says something like if it’s their call that you're a place of choice for those, but I think the numbers that we've put up over years show that that is indeed the case and I don't expect that to change certainly in the short-term because there is still enormous pressure to keep global interest rates low, in fact that's accelerated after Brexit, my goodness if two-thirds of the GDP is sort of 1% or lower for the 10-year, that's a really stunning. I mean how do you get that kind of really good performance and we create that for them. So I think that that will continue, and as to what we do with the overage, some of it goes to our competitors, actually good for them but we don't look it like that.

We keep inventing new things because what we are trying to do is give investors the highest possible returns with the least risk and we've been very successful at that, and so we just go off on our way and come up with new things. As Tony mentioned each of our big business areas have sort of as part of their strategic plan products we'd like to introduce, there is only so much you can do without straining your people because we have to continue the keep doing great stuff from what we promised. So but that's the virtue of circle for us right now and I don't see what's going to change it other than radically higher dramatically - I shouldn’t use radically - dramatically higher interest rates and getting excited about 25 basis point moves or 50 basis point move as being dramatic.

It's only - it’s sort of like the, what do they say in the land of the blind, the one-eyed man is king, it seemed as big but it's - in the context of the world it's not really going to affect the economy very much. It will bang markets around a little bit but I think there is a really good headway here for the firm.

Tony James

And let me just say, I don't think this certainly low interest rates and by the way our perception that the equity market going forward is not going to do much better than 5% or 6% is helping lately, but no institution, no pension fund out there could earn its return like historically either without a big slug of alternatives. And so this is not new and it's not temporary and it's not a function of today's market conditions.

If you go back and look at institutional investors, their highest return asset classes always are alternatives for every holding period you can think of and as a result, those institutions that made a larger commitment to alternatives have higher historical returns and one of the really - one of the ironies about the global financial crisis that’s good for us is when that everything collapsed, the perception was, well, alternatives are riskier, you are really going to take pain. Now, well guess what? They actually held their values better than public markets, get more equity other than - by that I mean not government bonds obviously it's like quality there but people saw wow.

Alternatives really held their value in that, so there is growing perception of maybe they are not that risky after all and they are certainly uncorrelated. And so I don't think the interest in alternatives and the move to alternatives is a temporary thing driven by today's market conditions. It's been going on a long time. The people that move first and move more have done better both in terms of consistency of returns and how high the returns are and I think it's going to keep on going.

Brian Bedell

And that’s great perspective. Thanks so much guys.

Operator

And our final question comes from the line of Eric Berg with RBC Capital Markets. Please proceed.

Eric Berg

Thanks for fitting me in. I have been struck by how many investors continue to believe even though you’ve addressed this topic time and again that the decline in rates and the extremely low rates have helped returns to your LPs in ways that are simply not repeatable. In other words, these investors understand the quality of your people and your business model. They get all of that, but they are concerned that if rates rise from here, you just won't be able to do as well to your LPs as you’ve done in the past. So my question is, you keep saying it's not true. They are worried about it. What is your latest thinking about what would happen over the long run to the return that you would deliver in say real estate and private equity if we went to a more normal rate environment? Thanks.

Steve Schwarzman

Well, was that - doesn’t some of that - doesn’t that some of that have to do with why rates are going up. If you’ve got an overheated economy, our types of investing tends to do very well in that. If you have high levels of inflation, that’s sort of made for the real estate business and it creates very interesting returns on a nominal basis and we've lived in this industry which I’ve been hanging around since the early 80s when it started and I think Tony did like five years later something like that and we made good money.

Tony James

Five years before Steve.

Steve Schwarzman

Really? I can realize you were that old. But the - you can do well or do poorly in a lot of different environments and we’re not a bond fund per se of the firm where rates go down and you make accidental money. We are trying to create value wherever we go and sometimes you fix your interest rate so that if you sense things are going up in a way that isn't going to benefit you, you limit your cost. So I’m not trying to be adversarial about it but I think it's much more nuanced sort of approach. Tony I cut you off for a sec, so I apologize.

Tony James

No, I was just going to say usually what we find is when rates go up it’s in the, I guess, the backdrop of economic strength. So it's probably - if we kind of bump along with a really anemic economic, rates probably stay low a long time. If they go up to what you're talking about, then it's probably a pretty strong economy and that's going to be good for us across the board first of all. So secondly in terms of putting new money out, it will just be easier. I mean, a rising tide lifts all boats and you hear about zero interest rates being financial repression. So as the financial repression goes away and the new money will I think have an easier time earning returns.

Now your existing assets to the extent their interest-rate sensitive could be hurting that if you're holding them at the long duration. And so what we've done like for example in our credit business, we don't have a lot of long duration fixed-rate assets. We are short duration. We got a lot of cash. There are lot of transformational stories. They are restructurings. There are recapitalizations. There are things that are not going to be particularly straight driven.

In real estate, as Steve mentioned, if you get inflation you're going to get rent growth, you're going to get so on and so forth. That should be okay in our mortgage REIT, everything we have in that mortgage REIT everything is floating rate. So actually interest rates higher interest, there are right a pass-through that are good.

And private equity I think again if - we might pay a little bit more for debt but again strong economic background has got to be helpful. So no matter where I look in the business, I think it generally becomes easier and better for us.

Eric Berg

Thank you.

Tony James

Thanks Eric.

Operator

And at this time, I would now like to turn the call back over to Mr. Weston Tucker for closing remarks.

Weston Tucker

Great. Thanks everybody for joining us this morning and looking forward to talking to you next quarter.

Operator

Ladies and gentlemen that concludes today’s conference. Thank you for your participation. You may now disconnect. So you all have a great day.