Jeremy Ford, Senior Vice President of Metropolitan Real Estate Equity Management, recently had a roundtable discussion with Nigel Hatfield (Clifford Chance), Chris Papachristophorou (RREEF Real Estate) and Dominic Field (Hodes Weill & Associates). The conversation focused on real estate investment in Europe and the multiple perspectives on the private equity fund model.

Jeremy Ford (second from left)

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David Sherman is the president of Metropolitan Real Estate Equity Management, a Real Estate Circle Leader and member of the MBA Real Estate Program Advisory Board. David was the chairman of the 2010 Real Estate Symposium Steering Committee.

Interview conducted by Jason Chiang ‘12

Please tell me about Metropolitan’s business model.
We started in 2002 with the idea that we could help investors source, underwrite, and invest in best-in-class real estate managers around the world.  Our job is to determine from a top-down approach which investment strategies we like, find diligence experts in those particular areas, and share those ideas and strategies with a wide range of investors who otherwise wouldn’t have access to similar opportunities.

We only invest in non-core strategies, and look for managers with operating or financial expertise to take broken assets and fix them through a workout or repositioning to ultimately create a core asset.  Essentially, we are looking to partner with top quartile managers who can create the real estate equivalent of alpha.
We don’t take generic positions on markets, either.  We focus on specific markets that we believe are going to outperform the overall real estate market.  Across all geographies, we are looking to partner with highly specialized managers who have a successful operating history and know the local markets intimately.  For example, if we determine that West Coast multifamily fundamentals look attractive, we will interview several apartment managers with long track records and have specific knowledge of the area before selecting one. 

On average, how many funds and managers do you look at?
In 2010, we looked at 463 different funds, met with 172 managers and ultimately made 15 investments across four different continents. 

What benefits do real estate fund of funds provide to investors?
Without question, a fund of funds provides diversification.  By committing capital to a fund of funds, an investor can get exposure to 13-17 underlying managers and several hundreds of properties across many countries. 

But more than diversification, a fund of funds acts as a form of risk management, especially as you invest further and further from home.  If you were a US investor investing in New York or Chicago, you could probably do enough research and due diligence to avoid those few local managers who can and will do stupid things.  But if you wanted to invest in Stockholm, Sao Paulo, or Beijing, it becomes much harder if you don’t have the resources to diligence markets and managers from your desk.  You need the local networking and contacts in order to know who will be a good manager and partner. 

Where are you focused geographically? 
We have two programs offered each year: a US focus and a non-US focus.  With our US fund, we can invest anywhere in the country.  The non-US fund will invest about 50% in Europe, about 40% in Asia and the balance in Latin America.  In Europe, we primarily look to Western and Northern Europe, and in Asia we are heavily weighted towards developed markets where we can look to a history of rental rates and property values to see where values should be today.  In China, for example, cities are being created overnight and it is much more difficult to say with confidence what a piece of property will be worth.  So, we focus instead on Japan, Hong Kong and Singapore.  We’ve looked at India for years and haven’t invested there yet.

What current investment opportunities are you seeing in the market?
We’ve seen two themes develop.  The first is that on a global basis, market fundamentals have bottomed.  It’s very hard to find a market that’s still in complete freefall.  In fact, there’s been selective recovery in a few markets due to demand drivers, such as with London office, US multifamily, coastal industrial, and office in Silicon Valley.  However, it’s still going to be a long, slow recovery. 

The second theme is that distress is everywhere.  Everything we currently invest in has some kind of distress angle.  For example, in Tokyo we are looking for managers with the ability to service and manage large pools of non-performing loan portfolios.  In California, we have partnered with a retail leasing specialist who acquires releases and repositions foreclosed malls.  These malls are acquired for below replacement cost, and we make equity-like returns by taking advantage of opportune timing. 

Since 2008, investors have increasingly started separate accounts with GPs instead of going into blind pool funds, with many suggesting that the blind pool model is on its way out.  Do you agree with this sentiment?
No, not at all!  Of course, there’s been a lot of press around fund managers with poorly conceived strategies who invested and went bankrupt.  But what I believe is that the market’s ability to differentiate between the smart managers and the not-so-smart managers was not where it needed to be in 2007. 

Many investors, including us, have spent the last three years thinking about what caused busted funds to be unsuccessful.  On the one hand, you have good managers who were still patient and smart at the top of market and had sound strategies around buying underperforming assets and truly adding value.  However, they’re underwater today because of poor timing.  On the other hand, you saw fund managers buying a lot of assets that didn’t actually belong in the blind pool fund model.  You also saw other managers who didn’t have capital markets discipline and won’t be raising money again.  Again, these were poor managers that the market didn’t identify, but there’s really nothing wrong with the model itself. 

What was the biggest take away from your Columbia Business School experience?
I don’t remember – it was about 100 years ago!  Maybe having bagels in Uris Hall?

In all seriousness, CBS gave me a solid finance education.  I was math major in my undergrad, but I knew nothing about finance, economics or money in general.  CBS allowed me to go from an operations scheduler at Mobil Oil into the finance business.  It gave me exposure to a lot of New York-based firms, and I got to meet, speak with, and get to know a lot of members of the business community here.  It was an extremely helpful experience. 

You’ve recently joined the MBA RE Program Advisory Board.  What is your opinion of the Real Estate current program at Columbia? 
While there wasn’t a real estate program when I was a student, I taught at Columbia Business School from 2000-2006. I know that the program today is so much deeper and better than it was when I was teaching here.  Lynne Sagalyn and Chris Mayer have really done an amazing job raising the level of the program. 

Columbia students in the Real Estate Program have a huge amount to offer employers.  The value of a focused real estate program is that it really gives a student the time and energy to study real estate and figure out what they like.  One of my biggest issues in hiring people out of school is that you’re always afraid they will change their mind.  The real estate focus gives students a credible position, it gives them the ability to hone their interview skills, and it allows them to say with confidence what skills they can bring to employers and how they can execute on Day one.  It’s huge.

Do you have any advice for current MBA students about to re-enter the job market?
MBAs have tons of experience and examples of when they led projects or have done amazing things, but they don’t always share those examples in interviews.  They should be trying harder to sell themselves and make a compelling case as to why they should be hired.  It’s really no different than trying to sell a property or close a deal; generic answers don’t work. 

Do you have any intention to return to the classroom as an Adjunct Professor?
I would absolutely return if possible, probably when I retire and have time again.  I had a wonderful experience teaching those first seven years and working with Lynne and Chris to create new course materials, come up with new cases, and think about new ways to explain real estate fundamentals to students.  Unfortunately, my current business has gotten too big for me to teach currently, but I would encourage all alumni who have some kind of real estate specialty to come back and teach. 

Fund of funds platform hires senior Grosvenor man in Asia to help it expand its operations in the region.

Jonathan Brasse

Metropolitan Real Estate Equity Managers has appointed John So to expand its presence in Asia, PERE has learned.

So joins the New York-based real estate fund of funds management business, which has approximately $2 billion of assets under management, in August.

Founded in 2002 by managing directors David Sherman, Robert Burke and David Nasaw, Metropolitan has since gone on to raise 12 fund of funds with various strategies for the US and globally, its most recent efforts to close coming in 2008.

The firm is currently in the market raising Metropolitan Real Estate Partners VII, for which it has already closed on $33 million, according to PERE’s Capital Watch. Its investors include institutions and high net worth individuals.

So will be made managing director for Asia and is expected to lead the firm’s offering in the region.

He joined Grosvenor in 2000 from Jardine Fleming Securities and has been a director of the Grosvenor Asia board with a stint as a Director of the Grosvenor Fund Management board from 2003 to 2007.

At Grosvenor, So was responsible for investments and fund management in Hong Kong, Japan and Singapore, with a more recent focus on Greater China investment.

By: Venilia Batista Amorim 
Date: 1/29/09

U.S. fund of funds manager Metropolitan Real Estate Equity Management has opened a London office for research for U.K. and European private equity real estate investments. Assets under management increased to approximately USD1.8 billion since inception in 2002, said Jet Taylor, senior v.p. and head of client service and marketing in New York. Metropolitan plans to expand its foundation, endowment and pension client base in Europe, he added.

New York-based Jeremy Ford, v.p., will head the U.K. office and continue to focus his efforts on Pan-European research. Additionally, Metropolitan has hired Andrew Jacobs in New York as a senior v.p. and eighth member of its investment committee. He has over 18 years of real estate investment experience and joins from Angelo Gordon, where he spent the past 10 years undertaking senior level acquisition and asset management responsibilities. At Metropolitan he will focus on domestic research.

Metropolitan was founded in 2002 and specialises in private real estate funds. It has formed nine value-added/opportunistic real estate funds over the past six years. Clients include family offices and over 125 institutions in the U.S. and Europe.

David Sherman makes the tough claim that there is good money to be made in real estate even after it has outperformed nearly every other investment class for the past 10 years.

“The industry is on average fully priced,” he acknowledges, “but it was really underpriced 10 years ago.”

He has a point. Mr. Sherman runs a private equity fund of funds called Metropolitan Real Estate Equity Management, which oversees about $900 million in capital from more than 100 institutional clients. Speaking recently before the New York Society of Security Analysts, Mr. Sherman recounted the ups and down of the sector over the past two decades. He reminded the audience of the ravages wreaked upon property valuations of all kinds by the Resolution Trust, which was set up to liquidate the assets of hundreds of failed savings and loans in the early 1990s. The trust auctioned off more than $100 billion in real estate assets in two years. “It was the sloppiest process ever seen, and drove prices down by about half,” Mr. Sherman says. “But, it worked.”

The upshot? “Anything bought in 1994 or 1995 earned big returns,” he says.

While the playing field is not so verdant today, Mr. Sherman says there are still inefficiencies in the industry that allow him to return 13% to 15% net of fees to investors. He maintains that the industry has become more user-friendly (the sub-prime space being an obvious exception) since the coming of age of the Real Estate Investment Trusts. That evolution saw an alignment of interests between management and investors as well as the greater transparency that comes with publicly owned companies. A consequent greater flow of information also improved returns. “It takes five years to build an office building,” Mr. Sherman notes. “The cycles were exaggerated by a lack of information; no one knew what anyone else was doing.”

Given that some sectors look more promising than others and that results vary widely between different markets, Mr. Sherman advises diversification, and understandably favors the fund-offunds approach. He reckons “there are about 400 real estate funds in the U.S. today, the vast majority of which didn’t exist 15 years ago.”

Most funds in America may be described as “opportunistic” or eager to invest in anything that can yield above 20%, or “value-added.” The latter group anticipates improving returns through renovation or better management.

Mr. Sherman’s firm focuses on value-added funds that are buying properties for the most part below replacement cost. Currently, Mr. Sherman likes the rental apartment market. He expects the rise in residential mortgage rates, and especially in the subprime sector, to drive people back into the rental pool, boosting rents in the next few years. Valuations in the sector generally are high today, at about $100,000 to $110,000 a unit, and compare to replacement cost of $115,000 to $120,000. The yield on such assets today is only about 5%, but Mr. Sherman expects that percentage to rise to the low teens going forward.

Mr. Sherman especially favors the urban rental markets, where apartment turnover is slower and rents tend to lag the market. City units are generally selling at bigger discounts to replacement cost. The opportunity is to buy properties at a current 4.5% yield, engage in intensive renovation, and roll rents up to a 7.5% to 8% yield. He assumes that this sector won’t appreciate much in value over the next couple of years, but neither will there be any fall-off in prices.

In other words, Mr. Sherman is replacing capital markets risk with execution risk, a path he has followed for the past few years. The same approach has been successful in the office building space. Buyers are making their profits through aggressive management of properties, rolling over rents ahead of schedule, which in turn drives value. This process is not for the faint of heart, according to Mr. Sherman. “Volatility levels are as high as I’ve ever seen them; risk levels are higher, too,” he says.

Mr. Sherman notes that though America dominates the global real estate industry in terms of talent, liquidity, and sheer size, Europe may offer more interesting opportunities for investors. Most investment in the region has traditionally been in established properties; a trend toward more opportunistic investing is likely to emerge. Core values in Europe (and even Eastern Europe) are roughly equivalent to those in America That is, the easy money has been made. However, consolidation is under way, and the trend toward wresting value from corporate holdings of real estate (such as doing a sale/leaseback of a headquarters building) is not as well along as in America.

Asia, too, has excellent prospects, especially in the developing countries, but it is far harder to find investment vehicles in that part of the world. The Chinese and Indian markets will perhaps be the most exciting regions over the next several years, but also the easiest place to lose money overnight, Mr. Sherman says. The legal systems and the difficulty of finding a partner are both problematic.

The Japanese market is strong, and investors will find many opportunities to invest in the country because there was virtually no renovation or addition to the building stock during its many years of recession.

Bottom line? Thanks in part to the increased flow of institutional money into the sector, real estate values will likely continue to rise. “There is yield compression all over the world,” Mr. Sherman says.

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