Real Estate Forum - May/June 2009

PSIDE
A Conversation With...
Blumberg Capital Partners’
Phillip Blumberg
Finding investment opportunities in a down market

With a keen eye on the investment sales market, Miami-based Blumberg Capital Partners has been ahead of the curve for some time. The real estate investment and management company disposed of much of its commercial property beginning in 2006, when it sensed the coming market dysfunction, and in doing so earned a return of 17.6% in 2008. Now, having moved largely into cash positions with no debt, the company is busy raising capital for opportunistic fund investments, according to founder, chairman and CEO Phillip F. Blumberg.

It’s rumored that the firm has some exchange-traded fund concepts going, but the CEO is staying mum for now. He does concede, however, that his firm is raising capital for its latest vehicle, the Blumberg Strategic Asset Fund. The fund will offer overseas investors a chance to make investments in the US and abroad on “a highly discounted basis.” Blumberg is primarily targeting European institutions, as well as Middle Eastern sovereign wealth funds and high-net worth overseas investors. The firm hopes to obtain $1 billion in commitments, resulting in a purchasing power of $1.5 billion.

Blumberg recently spoke to REAL ESTATE FORUM about the latest vehicle and the overall state of the economy.

What types of investments do you plan for the new fund?

The fund will have a broad mandate to take advantage of strategic opportunities, primarily in North America. But we may make initial investments in non-US markets on the brick and mortar side. For example, London office market prices have dropped 40% to 50%, whereas we haven’t seen any decline in the US.

We are clearly looking to make investments in the US debt markets. I think there are some outstanding opportunities on the debt side. That means buying existing loans at significant discounts where you feel you’re within a margin of safety and can generate double-digit returns.

What are your targeted yield expectations? We’ve generated very strong returns for 17 years, based on a moderate leverage structure, which certainly last year proved to be a much wiser outcome than that of our competitors who used entirely too much debt. We have zero debt right now.

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We always consider the risk factor, so my target returns are
generally 8% to 12%. But our returns have averaged over 17%.

These days, it’s mid-teen returns that are considered moderate, but that’s because of heavy leverage. There were almost no mid-teen real returns in real estate. There were manufactured returns because you’re on a 90% accretive debt schedule. So you buy a 6% yielding equity investment, like an office building, but you layer 90% debt at 5% interest only. That drives your returns through the roof because you’re taking positive leverage returns, not real estate returns. The problem is if the market moves at all against you, you’re underwater.

Some other fund managers will say that by taking advantage of positive leverage, you’re getting better returns. No, you’re not. You just lost the principal. And you didn’t tell the investors that you bet the entire farm on the idea that the economy will continue to grow. They’ll say that by driving leverage, you can better diversify your investment structure. But once the economy moves against you, it moves against you on all fronts.

The reality is that by driving a very heavy debt structure, managers were actually driving a high, promoted interest. The investors didn’t necessarily realize that this was going to be high debt and high risk. And frankly, had it been high debt and high risk,

I would have expected a higher return than the mid-teens. As we’ve seen, everyone is now negative, with principal wipeouts— not write-downs, wipeouts. If you’re going to talk about risk, you need to talk about risk either unlevered or with moderate leverage for your investors to understand the real risk you’re taking.

Where do you see the market in a year? In a year, reality will have hit and hopefully we won’t be feeding dollars into worthless investments. And at that point, I would certainly hope we have a projectable bottom and therefore an advanced pricing based on what we believe is a lot more certainty in the market. I hope we have an end to the layoffs and a radically leaned-down debt structure across the private sector. The problem is, our net debt has gone up because we have borrowed more than we’ve repaid. I certainly hope we will see that trend reverse.—Danielle Douglas ◆