Blackstone Inc (BX) 2013 Q2 法說會逐字稿

Welcome to the Blackstone second-quarter 2013 investor call.

At this time, I would like to turn the conference over to Joan Solotar, Senior Managing Director, External Relations and Strategies.

Please proceed.

Great.

Thanks Shantalay.

Good morning, and happy summer.

And welcome to our second-quarter 2013 conference call.

I'm joined today by Stephen Schwarzman, Chairman and CEO, who's calling in from Europe; Tony James, President and Chief Operating Officer; Laurence Tosi, CFO; and Weston Tucker, head of investor relations.

Earlier this morning, we issued a press release and a slide presentation illustrating our results.

Hopefully you have that, and it's also available on our website.

And we are going to file the 10-Q in a few weeks.

So 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.

Actual results may differ materially.

For a discussion of some of the risks that could affect the firm's results, please see the risk factors section of our 10-K.

And we don't undertake any duty to update forward-looking statements.

We will refer to non-GAAP measures on the call and for reconciliations for those, refer to the press release.

I'd also like to remind you that nothing on the call constitutes an offer to sell or solicit as an offer to purchase any interests in any Blackstone fund.

This audiocast is copyrighted material of Blackstone and may not be duplicated, reproduced, or rebroadcast without consent.

So a quick recap of our results.

We reported economic net income, or ENI, of $0.62 for the second quarter.

That's up sharply from $0.19 in the second quarter of last year.

Mostly driven by higher management fees and higher performance fees in every one of our businesses.

Distributable earnings were also up $0.28 for the second quarter.

That's a 73% increase from last year's second quarter.

And for the year-to-date period, distributable earnings were $0.62 per unit, which was nearly double the prior year period.

As always, if you have any questions on anything in the earnings materials, please call me or Weston after the call.

And because we do have a lot of folks dialed in, if you could limit your initial questions to one or two, and then just get back in the queue.

Thanks.

And now I'll turn it over to Steve Schwarzman.

Thanks Joan.

And thanks for joining our call.

Investors across almost all asset classes (technical difficulty) have been concerned about the prospect of rising interest rates, as you can tell from the earlier call that Tony was handling.

It appears that market has predictably overreacted initially the Fed's indication and when and how it might start tapering its bond purchase program.

Stock markets in the US, which initially declined up to 8%, have now recovered in only three weeks to regain record levels.

Interest rates have started to decline slowly from market peaks, as investors recognize that the Fed will act with prudence not to stifle the economic recovery.

IRAs, as Tony mentioned, are not per se negative for Blackstone as investors may have initially believed.

Historically, we have performed well in periods of rising rates, and we are well positioned today, given our mix of businesses and investments.

When rates rise in tandem with better economic activity, the result is higher cash flows for most of our private equity and real estate assets and higher returns for our hedge fund solutions business.

Our credit operations benefit because they tend to invest in floating-rate, not fixed-rate, assets.

And they obtain higher yields on their mezzanine and rescue lending assets.

To share an example with you with some numbers, in real estate, we look back at periods of rising rates during the past 20 years (technical difficulty) through the impact on values.

Each of these periods, plus the following year, commercial real estate values rose between 4% and 15% on an annualized basis in both the private and public markets.

To that quest, if you ask Tony, in the past 20 years, in each of these periods where interest rates went up on commercial real estate plus the following year, commercial real estate values rose between 4% and 15% on an annualized basis in both the private and public markets.

Going back further, but this time on the residential side, interest rates rose in 26 of the past 50 years.

And in every single one of those years when interest rates rose, home prices actually increased.

So the permits of investors and their concerns on the real estate side are basically belied by facts.

Our business and returns benefit from strengthening economic activity.

And today we see pockets of significant strength in the US economy including housing, auto, energy, and technology.

This is offset to some degree by pressure on consumers, as well as the continuing federal government dysfunction, which reduces confidence generally.

In our own private equity portfolio, trends are improving, as Tony mentioned, with year-on-year revenue growth of 5% and EBITDA up 8%, both in the second quarter.

8% increase in EBITDA in a quarter is a good thing.

This helps drive continued appreciation of our portfolio of 5.4% for the quarter and 29% over the last 12 months, or nearly $8 billion in total equity value appreciation.

Make sure you understand that.

29% increase in our private equity portfolio in a year.

Our real estate business has achieved similarly strong performance so far this year, with our opportunistic funds appreciating 5.7% for the quarter, in line with what private equity was doing basically, and 19% over the past 12 months.

This was helped by sustained strong cash flow in Hilton, our largest investment group, which grew 17% EBITDA in the first half of 2013 and now has over 4000 hotels globally.

17% growth in the first half is really fantastic.

Our Hedge Fund Solutions business, or BAAM, had a composite return of 2% in the quarter and is up over 13% for the past 12 months.

This performance is double the HFR index, with only one-third of the market's volatility.

As the largest allocator to hedge funds globally, our scale gives us many advantages, including capacity with the best managers, broad insights into market trends, and access to the best ideas.

And finally, our various credit strategies through GSO rose 5% to 7% for the second quarter despite a selloff in the last month.

And remarkably, 22% to 42% for the past 12 months, sharply outperforming virtually every benchmark for that period.

As a result of our compelling investment performance across market and economic cycles, we've been able to raise dramatically more capital than any of our peers.

For example, we raised $14 billion in the second quarter alone, most of which was in our real estate and credit businesses.

In real estate, we had our first Asia fund closing of $1.5 billion, marking strong investor reception to our first dedicated fund in the region.

We are targeting a total raise of $4 billion for this strategy, which will be one of the largest first-fund raises in our history.

In our real estate debt strategies area, we raised $2 billion for our new drawdown fund during the second quarter alone, followed by an additional close in July that brought us to $3.5 billion of available capital.

In late May, we raised an additional $660 million for our permanent capital commercial mortgage vehicle, Blackstone Mortgage Trust, which we called Blackstone MT.

In an oversubscribed offering, we could've sold three or four times that amount.

In total, our real estate debt strategies business started in 2008 is now over $10 billion in size.

In credit, GSO, we continue to see strong inflows into our various products.

This is a sharp contrast to the record outflows you've been seeing from bond mutual funds, which is not our business.

Our new rescue lending vehicle has raised has raised $5 billion, reaching its cap.

This is more than 50% larger than our prior rescue fund, which also hit its cap.

In fact, all of the flagship drawdown funds we've raised since GSO joined Blackstone in 2008 have reached their respective caps.

So the GSO team really is doing a terrific job.

Also in credit, our new ETF, which trades under the sticker SRLM, has raised $375 million since its commencement in April, making it the most successful of any new ETF launched in 2013.

We expect continued growth as many investors trade out of long-duration assets and fixed rate assets into floating-rate products.

Like SRLM and the other things we do throughout GSO.

Our Hedge Fund Solutions business reported $1.6 billion in net inflows in the second quarter, despite the fact that the second and fourth quarters are the primary redemption quarters.

Year-to-date net inflows were $2.5 billion.

And in private equity, we are continuing to see strong LP interests for our tactical opportunities business, which raised an additional $325 million during the quarter.

In terms of capital deployment, investors frequently ask us if we can invest all the capital that we are raising with the same types of returns we've delivered historically.

By the way, they've been asking that question for over 20 years.

The answer is that we continue to find very attractive opportunities to put capital to work around the world leveraging our brands, deep sector expertise --(td).

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Mr. Brendan, I've pulled you out of the conference.

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(technical difficulty) -- compelling investment opportunities remain globally with lots of distressed or overleveraged assets, enabling us to buy the discounted physical replacement costs.

The competitive landscape remains attractive, with very little competition for large-scale deals.

During the quarter, we invested two-thirds of our capital in the United States, one quarter in Europe.

We also committed to our first large-scale joint deal with our partner in Brazil, Patria, to acquire a controlling interest in their nation's best-in-class branded national developer of a residential lofts.

In credit, the low-rate environment we saw for most of the first half of the year, while great for realizations, made it more difficult to deploy capital.

However, as rates move up, this is good for opportunistic credit investors.

For example, in 2011, we invested approximately one-third of our first rescue lending fund in the months following S&P's downgrade of the US rating.

In private equity, competition remains high for new investments.

We've been able to leverage our global network and brand to source exclusive and proprietary deals.

Financings for new buyouts remains available on attractive terms, although there is more demand for floating-rate leveraged loans than for fixed-rate bonds over the near term, given expectations for rate increases.

The last topic I'd like to discuss is our realization activity, which is the biggest driver of cash earnings for our public investors.

Realizations rose to $6.6 billion in the second quarter, up from $1.4 billion last year.

To just give you that number again because there are so many numbers in these presentations.

Our realizations (technical difficulty) second quarter.

(Technical difficulty) $6.6 billion, up from $1.4 billion last year.

Over the past 12 months, we've had $21 billion in total realizations.

Activity increased sharply in every business.

In credit, we had $2.7 billion in realizations for the quarter, primarily reflecting CLO activity as well as realizations out of our first mezzanine fund, as a lot of people prepaid.

In private equity, we have $1.6 billion of realizations in the quarter, mostly in BCE files, which did not drive carried interest yet.

This includes the very successful IPO for Sea world, which was priced at $27 a share, the top end of the filing rung, and has since traded up another 42%.

Since the beginning of last year, private equity realizations totaled nearly $8 billion, which is a really big number, as healthy equity capital markets have allowed several public market engines including five IPOs and 17 secondaries.

We have three more private-equity IPOs on file, and we can see several more in the coming quarters.

Lastly in real estate, we had over $2 billion of realizations in the quarter, more than double last year's second quarter, generating $175 million in realized performance fees versus $21 million last year.

This was largely driven by the sale of our remaining General Growth Properties stock, with a 2.3 times multiple of our investment after 2.5 year hold.

If we could do that with everything, that would be a very happy world.

And we do it with a vast number of our investments.

We also announced the sale of our EDT retail portfolio to DTR at a multiple of $350 million investment of approximately two times.

And that was double the money we've earned for our fund investors after only a one-year hold.

We expect this sale to close in October.

And the capital is fully recyclable, as it's in our BREP VII fund.

Looking forward, we remain confident we'll see further acceleration in activity later this year and next year.

In fact, this morning, we filed an IPO of Brixmor, one of the largest grocery-anchored shopping center companies, which is our third largest real estate investment.

In summary, we feel great about our business, which we believe is neatly positioned in the alternative investment area as the only firm of its type with world-scale operations in real estate, private equity, hedge funds, and credit.

We have raised over the last 10 -- two years more capital than our four closest competitors together.

Our team is extremely experienced, with an unalterable commitment to excellence in all we do.

I continue to believe that our stock's significantly undervalued.

And with that, I'd like to ask Laurence Tosi, LT, to take over with a review of our financial results.

Thank you, Steve.

Good morning everyone.

By almost any measure, it has been a record start to 2013.

Blackstone continues on a steady trend of industry-leading growth, as total AUM reached a record $230 billion, up 21% year over year, marked by $42 billion of inflows and $25 billion of value created, together which far outpaced the $28 billion of capital returned to investors over the same period.

Each of our investment businesses again saw double-digit increases in AUM, as every segment ended the quarter at record levels of assets.

Our sustained growth the result of both our ability to achieve returns for our fund investors and continually innovate new products and ideas.

We leverage the leading scale and performance of our core global funds, which serve as anchors to launch adjacent complementary strategies.

This competitive advantage is evident in our strategic efforts in the high net-worth channels.

While you may have read about recent forays into this vast and growing segment by industry competitors, Blackstone has invested heavily in this market for several years.

As a result of those efforts, today we have an efficient scaled distribution effort and have created one of the fastest-growing capital sources for every single one of our businesses.

In true Blackstone fashion, virtually every senior manager in the firm has personally dedicated time and effort to developing this channel and the platform we have built.

Has raised more than $14 billion of assets, including $5.4 billion raised in the past 12 months alone.

The Blackstone brand and historical performance are compelling to this market, as evidenced by our last several fundraisers literally selling out on some of the world's biggest retail channels.

And, as Tony highlighted this morning, we think we are in the very early stages of the impact that this channel can have on the firm.

Turning to earnings.

Blackstone's diversity and fund outperformance overcame the market headwinds in the second quarter.

Revenue for the first half of the year reached a record $2.7 billion, up 66% over the same period last year.

And earnings nearly doubled to $1.3 billion at a 50% margin.

The main driver of revenue was fund performance, which produced a 150% increase in performance fees to $1.3 billion for the first half of the year, also a record.

The fastest growing component of Blackstone's earnings continued to be realizations, which helped double distributable earnings to $730 million for the first half of the year.

Some further observations and facts about Blackstone's second-quarter and first-half results.

At quarter end, the net performance fee receivable, a key forward indicator of earnings, reached a record $2.5 billion.

In real estate, the net performance fee receivable is now $1.6 billion, as $30 billion of assets are generating performance fees in an increasingly favorable environment for realizations.

Private equity now has $633 million of net accrued performance fees, with $500 million of that in BCP IV, which is 47% publicly traded.

Additionally, BPC VI and BEF, our energy fund, are both accruing in full carry, and are 28% and 48% public, respectively.

Our 2007 vintage fund, BCP V, continued to make good progress towards the preferred return threshold.

In the last year, BCP V created $5 billion of value, almost halving to $3.7 billion the amount needed to reach the [Kerry] threshold.

In credit, performance fees grew 80% year over year, proving that that business is not only largely insulated from rate rises but actually grows in benefits in the current and expected rate environment.

In Hedge Fund Solutions, 96% of eligible assets are now generating performance fees in the first half of $100 million, up fivefold, which also drove an 80% growth in the first-half earnings.

You should remember that incentive fees and Hedge Fund Solutions and our credit hedge funds accrued through the year, but are largely earned in the fourth quarter from a cash realization perspective.

Currently, we have $0.14 per unit accrued in the first half alone, based on the strong performance of those funds.

Additionally, Advisory posted a strong quarter, particularly in restructuring, which had one of the best starts to a year in its history.

Our strategic M&A and fundraising businesses both posted double-digit gains in revenue versus the first quarter.

The strength in fundamental earnings has also impacted the firm's balance sheet, which includes a total of $7 billion in net assets, or $6.31 a unit, in the second quarter, up nearly 40% over the same period last year.

As part of our continuing effort to lead in terms of transparency and unit holder alignment, we announced today that we would no longer reduce distributable earnings by the non-cash expense associated with equity related awards.

These awards, consistent with GAAP, have always been part of our historical compensation expense and ratios.

And that will not change.

Cash distributions, however, will no longer be reduced by this expense, which added a penny per unit to our distributable earnings and cash payout this quarter.

This new policy would've added $0.08 a unit to distributions for the full year 2012, with $0.06 of those $0.08 coming in the fourth quarter when most of these awards are made and expensed against earnings.

Historically, these awards are 8% to 9% of fee-based compensation, and we expect that to remain the case with respect to timing and amounts.

The historic (technical difficulty) impact of this increase to distributable earnings can be seen on page 30 of this morning's release in detail.

I should also point out that over six years since we went public, our share count has only slightly increased by 38 million shares, or 3.4%, roughly 60 basis points a year.

In closing, a few key data points to consider.

Over the past five years, Blackstone has nearly doubled assets.

We've increased earnings ninefold at a 56% compound annual growth rate and distributed $3.5 billion of cash to investors, including $1.3 billion in the last 12 months alone.

Looking forward, the key drivers of future performance demonstrate the momentum behind our positioning against a dynamic market backdrop.

We now have $95 billion in performance fee earning assets, up 63% year over year across 100 different funds and vehicles, providing a broad base of earnings power for future value creation.

We also have record dry powder of $39 billion, up $3 billion year over year, despite $16 billion in capital deployed over the last 12 months.

And finally, we have $17 billion in committed capital not yet earning management fees and several scaled fundraising initiatives underway.

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

(operator instructions).

Matt Kelly, Morgan Stanley.

So, just curious.

The commentary on the real estate investments was really interesting.

So it seems as though, especially given Brixmor, the life cycle for a lot of these real estate investments has shortened.

So I'm just curious to see if you get your view on how close we are to -- and I know that's a broad statement, but if you think about your real estate portfolio, how close we are to getting back to more, you know, regular -- normal, as you think about it, life cycles for these investments.

Or if we're still at kind of a very short life cycle, if you think about spinning them.

This is Steve.

I don't think our life cycle has changed materially.

What's happening is, you know, when we buy things, I guess our approach is buy it, fix it, sell it.

And that happens over periods that very slightly with changes in economic activity.

And so, you know, you're seeing that accelerate in the US because we started buying very large amounts of real estate, really, about three years ago in real scale.

And we've been the largest purchaser in the world with -- vastly exceeding -- vastly -- multiples of anyone else.

So the cycle is changing now in Europe, where that will be an investment cycle that will take longer to come out of by the nature of the underlying European economy, which is evidencing virtually no growth.

Asia will have another cycle still, because it's continuing to grow.

But it's experiencing real estate credit shortages as some of those economies grow slower and the economies generate other problems besides just real estate developers who can't sell out projects.

So I don't think we are experiencing something slower.

We are just dealing with the maturation cycles in different geographic areas.

And then my follow-up (multiple speakers).

And then as it relates to the hold time itself, I think it's fairly typical when you're buying at distressed assets, the rise can happen faster.

And so the hold times can be shorter.

As we've talked about for assets that were bought in 2006, 2007, perhaps the hold time there has been longer than typical.

Yes, it's Tony.

I think you'll see in general across all of our businesses in rising markets, what happens is when we make an investment, we have a target value that we think is sort of intrinsic value.

And we tried to buy the low intrinsic value in down markets, and then in rising markets sometimes the values get up to that level quicker, whether it's private equity, real estate, credit, all of them.

So you'll see holding periods that come in a little bit in rising markets and extend in declining markets, and it kind of depends on how quickly we can get assets and realize what we think is the intrinsic value.

Michael Kim, Sandler O'Neill.

Just to follow up on the real estate front, can you just talk about the thinking behind the Brixmor IPO filing, particularly as it relates to your outlook for real estate more broadly?

So is this kind of the first step of the exit strategy, where you're selling down sort of the ownership stake over time, similar to the process you typically follow on the private equity side?

And does that suggest you still see more upside here to come, broadly speaking?

Well, so let me tackle that, Michael.

First of all, I can't comment on Brixmor, as you know.

It's publicly filed, so we are very limited in what we can say on that.

But I think one of the things about real estate is, we have the option to both take some of these platforms that we've created public --.

And so Brixmor, the bulk of it was bought in one thing, but then we've added on other pieces and we have a management team there, so it can be an operating company.

But also, depending on the asset you could also sell off assets piecemeal or -- and so we have a lot of flexibility as to how we do that.

I think there is still more value to come in real estate, but there is some assets that are getting near their intrinsic value.

And when it's a public stock, you've kind of got to go public.

We try to leave -- we've actually tried to price our public offerings at a bargain to the initial IPO buyers so that the stocks trade up and people are happy.

And so we don't generally sell much or any of our ownership when it actually IPOs.

So usually, we'd start -- we'd take it public a little bit in advance of the time we actually expect to be harvesting most of our capital.

And at lower prices than we want.

But in Brixmor, we bought this Company during the financial crisis, particularly in Australia.

And the Company didn't have as much ability to invest in tenant improvements as vacancies were down.

And we've made those investments, and vacancies have improved.

And that's a more normalized type of business at this point, and it's appropriate to take that in the market, where it should trade in a satisfactory way.

And then if I could just follow up one quick one for LT, anything notable on the expense side this quarter, particularly looking at base comp?

Was there any lumpiness related to maybe a pickup in fundraising activity that we should be thinking about in terms of trends going forward?

No.

I think it was a relatively ordinary quarter.

Any of the anomalies were really quite small, and it wasn't related to fundraising.

It's the same comp ratio year over year.

I would say the business mix is a little different because Advisory had a stronger quarter.

We have done a lot of new hiring and a lot of investment spending in some of these (multiple speakers) to support the growth you've seen.

But also to support future growth initiatives that we have that we are just starting to roll out.

Okay.

Thanks for taking my questions.

Dan Fannon, Jefferies.

Thanks for taking my questions.

I guess to start, maybe if you could comment on M&A broadly, why it's kind of been lackluster from an industry perspective.

And thinking about it maybe from the perspective of your portfolio companies and their appetite to do deals in this environment, it just seems like we've been waiting for M&A to pick up and it's just taking a long time.

Okay well, I agree.

Why -- your guess -- you probably have as informed opinion as I do.

My own view is companies are uncertain about their futures, and I think they're uncertain of -- and I think a lot of that uncertainty emanates from regulatory in Washington, frankly.

And if we're talking about the US, and you know the rules are changing.

They are not sure what that does to the economy.

Are we going to have another crisis over the debt ceiling in the fall?

What's that going to do?

One thing or another.

So I think companies in the US are sitting on the sidelines.

They are happy to be in cash.

They are happy to be secure.

And I think that's one factor.

Then I think some of the exciting markets that people are all hot about -- generally speaking, the BRIC markets are all showing issues right now; all four of the BRICs are.

So a lot of the acquisition activity corporations have done has been to drive growth, and a lot of it has been to buy -- make investments in those markets.

Those markets are looking like they have some issues.

And so, I think M&A is going to stay restrained.

Now our portfolio companies, in general, don't do a lot of M&A, except around the ones that are consolidation plays.

And those continue to roll out and continue to make consolidating acquisitions.

But they are small.

You're not going to see those in terms of moving the needle or getting a lot of or any press.

Okay, great.

William Katz, Citigroup.

Thanks so much.

Can you give us an update on the retail initiative?

I think at your analyst day, you mentioned you sort of cracked the code of an opportunity to bring the hedge fund into a mutual fund wrapper.

I'm sort of curious.

That was expected to go out in June.

Maybe an update there, and I do have a follow-up.

Okay.

So we actually announced this week that we will be rolling out a product.

We can't really talk about distribution partner and all that yet.

You'll hear from us in the future, but it's a product that we are really excited about.

It took a very long time to figure out.

We think we are unique in the ability to execute this the way we are, given our positioning in the Hedge Fund Solutions space.

And it's an exciting product.

It's probably a bit early to say much more, given that the rollout hasn't happened.

But what we can say is, it essentially -- for retail investors, it will give them access to the leading hedge fund managers but still preserve their ability to have daily liquidity and daily marks.

So that was a bit of -- the trick is accomplishing both of those things, and we think we've done that.

So we hope -- and we have a strong distribution partner.

We hope it works.

We hope it will be well received.

Okay.

And then follow-up question is just in the Hedge Fund Solutions business., Sort of curious, if you look year on year, volumes are a bit down this July versus a year ago.

What's the general appetite for that product set at this point in time in the institutional channel.

Are you seeing any kind of maturation in that business?

No.

I think it's exactly the same picture we've seen.

And in fact, in general, that business is just a lower-risk way to participate in markets.

So that business shines when markets get lumpy, volatile, or in terms of relative performance or go down.

And when you have very hot bull markets, it lags a little bit.

So, I mentioned in my press call that just in the second quarter, when the global equity markets were down about 2%, our Hedge Fund Solutions composite was up about 1%.

So in one quarter, a 300 basis point outperformance.

And we do that with, generally speaking, somewhere between a quarter and a third of the volatility of the public markets.

So -- and if you look at how that product performs in the worst -- 10 worst down months of the last five years, I think our investors have about broken even in those months, whereas the markets -- the public markets are down high single digits on average in those months.

So it's really -- it's sort of a lower-risk way to play the markets.

And, but when you look at -- so while it might lag the performance a little in the up markets, when you look at the relative performance of that product versus the public markets through the full cycle, because you don't have the down lags, even if you give a little on the upside, we've tended to outperform public equity markets with lower risk.

And that's the beauty of that product.

So if investors were really positive and really ebullient, I wouldn't -- at some point, flows might slow down a little bit.

But we're still getting a great reception across the board.

Yes.

If you look at -- just comparing because there are seasonalities, I think it's good to look year over year.

This year's second quarter, we had net flows of about $1.6 billion.

Last year second quarter, we had net flows of a little over $400 million.

So we're not seeing momentum slow.

You mean it's up -- full fee-related earnings are up -- fee-related assets are up 18% year over year, Bill.

And I also think what's important with this business is, and as Tom went through on investor day, a key trend that continues is a lot of the inflows in strength are towards their customized products and some of their newer strategies that they are rolling out.

So that very positive trend for that business and, really, for the stickiness of their assets, to use that expression, continues.

Okay.

Thanks for taking my questions, guys.

Howard Chen, Credit Suisse.

I wanted to go back to where Steve began on higher rates, and Tony, where you spent much of the morning.

As I agree, it's been an area of focus for the investment community.

So specifically on realization and fundraising activity, do you think higher rates alter your view of timing of the harvesting cycle, if rising rates come with higher growth expectations, a change in cap rates, et cetera?

And second, do you believe LP allocation behavior changes in a rising rate environment, putting aside all the megatrends that we talk about?

Okay, let's see.

If higher rates are connected to stronger economic activity, I think it's a net positive across our businesses.

Both for the portfolio and for new investing.

If higher rates come in a weak economic environment, that's -- that would be -- I don't see that happening, but that would be -- I might give a different answer to that.

And so -- and then part of it is what happens to the equity markets?

So are higher rates associated with a much lower stock market?

That would negatively impact realizations.

If higher rates are associated, rates go up gradually in associate with stronger economies and a strong stock market, then that wouldn't.

So it's not just rates, I guess is what I'm saying.

It kind of depends on what's going on with the other factors.

On balance, I think we are really well positioned in our portfolio of existing assets to benefit from the conditions that are likely to prevail when rates go up.

And higher rates will definitely help us on the reinvestment -- on the new investment activity.

And then we have a lot of products which are actually benefit from higher rates because they are floating rates.

Like our BXMT, our Blackstone Mortgage Trust, for example, is all floating rate.

Higher rates, higher dividends for shareholders.

The value should go up.

It shouldn't go down.

So, it's kind of a mixed picture.

In terms of the impact on LPs, again, I don't see it changing their allocations.

They're expecting not to earn very much on fixed income.

So I suppose if rates went up high enough, fixed income would look attractive.

But on the other hand, they'll take a lot of mark to markets that will be very, very painful.

So a sharp and significant increase in rates is probably not good because they'll have markdowns that will get into asset allocation issues.

And they'll look at fixed income as having a more attractive go-forward return.

Based on the surveys we've done of LPs, they've been thinking that treasuries and investment grades will -- future returns will be somewhere between 0% and 2% on their fixed-income portfolio.

They've been thinking that equity markets go-forward returns will be something in the 6% range.

So no matter how you mix those 60%, 40%, or two-thirds, one-third -- no matter how you mix them, what mix you put on public securities, you are getting a low single-digit return if you're a big institution.

And that just doesn't get them there.

If you're a pension fund, that doesn't pay for your liabilities.

So that's why they are shifting to alternatives.

And I don't see rates going up enough to change that.

Okay.

Thanks Tony.

And my follow-up is, we saw some further payoff on the securities underwriting business, with participation in Pinnacle and Sea world being notable ones that stick out to us.

So was just hoping for any postmortem thoughts you all had on how that process went for you and ultimately where you see this evolving to.

Thanks.

Hang on.

Steve wants to make a comment first, and then one of us will get to that.

Yes, on this interest-rate comment, people get very worried about this.

And the type of worry that's appropriate is a Voelker type of reaction to inflation.

Where in the early 80s, Volker just broke the back of inflation by just driving rates to appoint where the economy faltered, and he got inflation under control.

When we talk about rising rates in this environment, we have extremely low levels of inflation.

And so, rising rates ought to be a very moderate type of phenomenon.

And it's clearly being micromanaged by the Fed to not really hurt an economic recovery.

In that type of world, what Tony is saying, is absolutely true.

And if you look at the firm's performance over years, you'll see that because we're such large owners of operating assets at the firm through our funds, that we do much better when those assets earn more money and the economies are growing than we do with any minor movement in cap rates and real estate or multiples.

To get multiples to really come in in the stock market, you've really got to jam on interest rates.

And I don't think the preconditions for that actually exists today.

So, I could foresee where the gradual increase in rates exceeded by a growth in the economy.

That's a good thing for us, and it isn't a supposition.

It has always been a good thing for us at the firm.

Okay.

So then, Howard getting to your question about how we feel about the IPOs we've done, I'd say -- you know, look, we never feel the public markets quite appreciate the beauty of our children.

But I would say, generally speaking, that the experience has been good.

And maybe it's just because we went through a period of time where the experience was terrible, and so just it's just much better now but -- and terrible, only it was very hard to get them public.

The prices were low.

It was just -- it kind of felt like a battle.

And then a little while later, the stocks are way higher, and you just feel like you didn't have very good execution on the IPO process itself.

Here, I think we feel good about -- we did PBF, the refinery company, we did Pinnacle Foods.

We did Sea World.

Our tech ops did a residential mortgage REIT.

We did our own mortgage REIT.

We've got some other things coming out of real estate and private equity.

So I think, all in all, if these markets hold up in this environment, we feel very good about it.

And Tony, how about your view of your role as a securities underwriter.

As you're expanding that business a bit, how do you feel about traction there on some of those transactions?

We're really pleased with that, actually.

We're really pleased with that.

Sure, as the capital market's Advisory, it's added revenues.

And it's kind of another little line of business for us, which is quite profitable and so on.

But what makes me really pleased about it is I feel like we're getting much more insight into the IPO process, much better ability to execute for our limited partners, much more informed.

And we have more expertise internally to make the right judgments when the chips are down.

So I think it's a win-win; it's a win for our shareholders, it's a win for our limited partners.

And that's worked out really well.

Great, thanks.

Marc Irizarry, Goldman Sachs.

Steve, maybe you can give, or Tony, a little more color on the operating performance of the real estate portfolio between hotels and maybe office properties.

And then, I'm curious as rates moved higher, what impact, if any, did that have on the valuations?

And when you think about the operating characteristics, whether it's rev par or rents, just how much flexibility in the real estate portfolio is there to see sort of an incremental uptick as growth improves in the operating characteristics of the real estate portfolio?

Okay.

Well, there's a lot of specifics there.

So in general in our real estate portfolio, let's just start with that.

The appreciation 5.9% last quarter was driven by the operating results.

The NLI.

Not by changes in cap rates, things like that.

Now, we do have some public holdings in that, which move around with the public markets as well.

On the cap rates, cap rates have been low but not -- really because base rates are low, treasury rates are low.

But the spreads over the base rates have not been low.

So as the economy goes up, and as the real estate market intrinsically gets stronger, and with construction so limited of new construction, I would expect spreads -- as base rates go up, spreads to come in a little bit and cushion the blow of higher treasury rates if that happens.

And then at the same time, you're getting a higher occupancies and the higher rents and the stronger outlook.

And so actually I think that scenario of an improving -- just as Steve was saying, that's an area of improving economy associated with somewhat higher interest rates net net will play through the portfolio to add value.

Okay?

I think that's important.

As the specifics, the hotel rev pars are averaging up about 6% the last quarter.

The office -- I'd say every market -- every single office market is improving.

Some are improving faster than others.

Some are sort of flattish but none are -- every single one of them is improving to a greater or lesser degree.

When I look at the retail -- well, you can see the grocery anchored centers with Brixmor, you can see how that's doing.

But all of the retail businesses, again, all retail sales look like they're coming up.

And across the board as reflected in our centers.

Warehouses -- it's another industrial, as we call it, it's another big area.

Again, all across the board coming up.

And then housing, obviously, is a big one too for us.

And I commented on that earlier.

But again, price is going up over 1% a month.

So I think it's pretty much across the board.

But we can dig into whatever metrics you want and whatever asset class you want, but the picture is the same and it's not only across asset class.

It's the same in Southern California or Northwest or Boston or Washington.

Or just sort of all the markets we are in, it's the same picture.

And it's really driven by the fact that there's just very, very limited new supply, and it doesn't take much economic growth to start to drive this.

And we've got enough economic growth.

And we've got enough -- what's known as supply to have this look like a very favorable supply-demand balance for several years.

Because the new supply can't come on overnight.

Particularly, you're talking about officing; it takes years.

So we've got pretty good visibility on the runway, and it looks pretty good for the next few years for us.

And I think to add to that, what's also positive is that the increases are good increases on top of what were large increases last year.

So it's not like you have easy comparisons.

We've just continue to see good growth.

Okay, great.

That's helpful.

Steve talked about Hilton.

I think where EBITDA is up 17% for the first quarter, so it gives you a flavor for what can happen.

Right, and we keep probing.

When Tony and I meet every Monday with our real estate group about economics (inaudible) because it's a potential indicator for us to help think through issues with other of our business lines.

And as consistently as we ask the questions -- aren't you seeing softness here, aren't you seeing softness there?

The answer comes back is no.

We're not.

Things are good for us.

It's a very straightforward, snappy reply.

And Tony gave you the pieces of it, but there is a sense of what we are seeing empirically that things are strong in that area.

Michael Carrier, Bank of America Merrill Lynch.

Maybe just on the new opportunity front.

You guys mentioned on the retail side, the hedge fund product, just given what you've done so far in the retail channel, when you think about that opportunity, you mentioned you're kind of at the beginning stages.

Is it more of a distribution opportunity, meaning continuing to gain traction with the current products?

Or are there other product opportunities on the innovative side that now that you've done a decent amount of due diligence, you can kind of plan ahead?

And so where are those areas?

And then, just on the recent strategic partners deal, is any other opportunities like that for Blackstone to kind of take advantage of and then use that to grow your own business?

Sure.

Okay, well.

So it's both; existing products in its existing forms being offered to retail investors, as well as new products in new forms.

And you know it's very hard to say -- none of us would look at the retail market as being homogenous.

We have, like -- you can segment the market.

Some of them are like family offices, where we talk to CIOs of family offices, and it feels an awful lot like an institution and they'd be very similar to our existing products.

All the way down to sort of closed-end funds or mortgage REITs, where an unsophisticated investor can buy 100 shares for $1000.

And it's everything in between.

And so, then on top of that, we are thinking about new structures and things like that to embed our products in other things.

And so, it's really across the board.

And as I mentioned, it's -- we're at the early stages of that.

And I'm not sure that totally answers the question, but let me just get to your second part and then you can come back if I didn't.

And Strategic Partners fits really well into that, I think.

Strategic Partners; it's a great, I think, retail product.

It's a great institutional product too, but I think it really appeals to retail investors.

Why?

Because when they start drawing down money, they instantly start paying cash returns every quarter after that, because they are buying mature funds that are in their harvesting period.

So an investor gives money and starts getting a quote yield unquote right away.

And so -- and the investment cycle is quicker.

They get their money put to work quicker, and they get it back quicker.

And that appeals to retail investors that care about liquidity and care about current yield.

And, you know, like -- their fund returns have been spectacular.

So, I think that's a really good retail product.

And one of the real appeals we saw in that acquisition, they were part of Credit Suisse, and they had access and great support from the Credit Suisse retail system.

But of course, they weren't getting distribution from any other retail system for obvious reasons.

As part of Blackstone, we expect to be able to continue to distribute to Credit Suisse investors but also to other firms' investors.

And so that's a -- I think, one of the synergies that we, so to speak, that we identified.

And it's a great product, it doesn't overlap with anything, and it's had wonderful, consistent, top quartile returns in the sort of like -- consistent with the private equity.

So, good product.

Other acquisitions, yes, we've got some other things that we are looking at.

Nothing that we are close to doing.

But I think, conceptually, there are some interesting things out there.

Okay.

Thanks a lot.

Patrick Davitt, Autonomous.

Thanks for taking my question.

As we've seen BCP V IRR go from 2% to 5% in just six months largely, I think, on the back of two very successful IPOs, I estimate they are both roughly 10% of the fund.

So my question is, can you give us an idea of how many high concentration slugs there are left in that fund to really help boost the IRR over that 8% bogie?

Well, I don't know how many high concentration funds.

The biggest investment in that fund is Hilton.

So that's obviously one.

And I'm not exactly sure how to otherwise answer your question in terms of the number of them.

I would say, though, everything in that portfolio has got upside, in my view.

I mean, we carry -- we try to market very conservatively.

When we get near an exit, it almost always is a big increase over our mark of looking at LT, about what do you think the average increase from when we hit a realization event versus the prior quarter markets.

Our average over -- we looked at it for 10 years, and it's close to between 25% and 30%.

And in a better market like this, Tony, it's even higher.

So if you look at Sea world and Performance, they were both -- one was up 50% and one was up 70% versus our mark in the prior quarter before the IPO.

You know, recently, you probably saw there was an announcement of an acquisition, you know, of one of our publicly traded team health -- Vanguard, sorry.

Where, you know, a year ago, it was trading at eight, and we have an all-cash bid for 21.

And you know that doesn't get factored in obviously into a mark.

And partly it's that, but partly it's just all -- these companies, they are lean and when results -- when revenues start to grow again, a lot falls through the bottom line.

And then you've got leveraged capital structures, and that value accretes to the equities really, really fast.

So BCP III, I think, at some point -- well, one point was marked down to less than half of, I think, cost, and it ended up being over two times costs.

So, there's a lot of upside in these portfolios when the world turns.

Again, quickly on the mechanics around the cash distributions, when and if that gets over the 8%.

That you sell a few secondary -- or sell a few slugs of shares in Pinnacle and Sea world over the next few months, and then you get over that 8% hump.

Will there be a huge slug of cash that comes through the distribution when that happens, or is that not how it works?

There is actually -- there's two separate questions there.

One is for the fund investors and then one is for the public.

When the fund itself starts accruing performance fees and then the realizations after that, you'll begin to see the cash realizations pushed through to the public investors.

Today, given the activity in the portfolio, when we were talking about the increase of $5 billion over time, just to give you an idea, over the last 12 months there's been about $3.4 billion of cash in different ways returned to the investors in that fund.

And that's either from realizations, capitalizations, or current income.

So that level is already occurring on a very -- in an increasingly rapid pace.

And once that does, it's eating through the hurdle.

Once you get over the hurdle, then you'll see the accruing of Kerry at the parent company, and then you'll see it also go through to cash earnings.

And don't forget there's a little bit of an odd thing that happens when you get over that hurdle for a while.

You may have a catch-up period where a disproportionate percentage of the net gains go to the shareholders.

Real estate had that a couple of quarters ago.

So you've got some not totally linear things happening around the hurdle.

Right.

That's an 80/20 catch-up, right?

That's right, yes.

Okay.

Thank you guys.

Roger Freeman, Barclays.

Just back on real estate, it seems — it sounds like maybe with the improving economic environment and I would say the supply dynamics, you've got a pretty positive outlook on valuations continuing to grow.

Is the timeframe over realizations of real estate portfolio -- has that maybe gone out a little bit from where it was six or nine months ago?

It seemed like there was more focus on sort of near-term realizations.

Maybe that's just -—.

Really?

If so, I'm not sure that was a fair impression.

I don't think we have -- it's hard to forecast very specifically a realization of that.

And we really don't do that.

We have a general idea of how a property is maturing and when we expect it to go to market.

I would've said in a couple of instances, things have popped a little sooner in real estate.

And in some instances, there are assets where it might take a little longer.

But I don't think it's fundamentally changed.

But it's lumpy.

It's not going to be -- we are in a period of time where you can expect to see real estate realizations growing, and a fair amount of them over the next 12 to 18 months.

But predicting which quarter and what order and what kind of ramp is just not sort of doable.

It's too market dependent.

If it's helpful, Roger, just on that to Tony's point, so obviously it's longer cycle over time.

What we tend to look at from a trend basis is kind of the gross realizations, whatever that may be.

It may be capitalizations, it may be current income, it may be sales.

And we look at it over a relatively long tail.

And on that basis, the number of transactions and actually the realized amount has increased quite steadily.

Let me just give you a couple of numbers.

This actually -- I'm going to give you for the whole firm because I think this question has been asked in different ways over the course of the call.

So just to give you an idea.

In the first half of 2012, we saw 64 deals produce cash generation of about $4.5 billion.

In the second half of 2012, that number went to 86 transactions and $8.6 billion.

In the first half of this year, it's been 105 deals and $12.6 billion.

So while it's very lumpy, as the fundamentals increase, you can start to see a longer-term trend, and you have to look at it that way.

And by the way, real estate followed that.

So they were -- they basically doubled the amount of transactions in capital, that over the last 12 months that's actually generating.

When it will happen, as Tony said, hard to tell, but that steady trend is increasing and you can see it in our numbers.

And we're still in the virtuous part of the realization cycle in a general way.

Okay.

That answers the question very well, thanks.

I guess, then, the second one on -- just back on this retail product, I know you can't say a lot, but I thought I heard you mention distribution partner.

Is it one partner?

And is that going to be an exclusive arrangement?

And secondly, on the earlier call, Tony, you were talking about this dynamic of providing daily liquidity that investors also having to, I guess, understand some -- take some limits on that to sort of get access to the higher returns that hedge funds can offer.

How does that play out?

Are there -- would there be daily limits?

Roger, I don't think I said that, actually.

But -- and I don't -- I can't get into the terms of it now, and frankly I don't even know all the details of it.

So I really can't go further other than to say it combines [assets] -- for this purpose, until it's fully unveiled, I'd just like to keep it -- it allows investors to have the daily liquidity features that they want but gives them access to some top hedge fund managers, which they also should want.

We hope they will.

Okay got it.

I guess I misunderstood.

Okay, thanks.

Jeff Hopson, Stifel Nicolaus.

Thanks a lot.

Just in terms of real estate, you mentioned that in terms of your investing opportunities, that there is still a fair amount of distressed properties out there.

Could you expand on that a little bit?

And even on the leverage this year, or over-leverage this year, I would expect that perhaps the ability of the current owners to, I guess, refinance.

But any additional comments on that issue?

I think Jeff, in the US, that's happening.

Not like all the distress is gone by any means, but markets are healthier, properties are doing better, and credit markets are very accommodating.

So in the US, that's starting to happen.

And there is definitely less distress than there was a year ago.

In Europe, though, I don't think that's happening.

And to the contrary, there's been a lot of distress in Europe, but people are starting -- but the spigots are starting to loosen up in the sense of people are starting to face that and want to sell assets and want to move assets.

And also, there were a number of -- in some cases, there were a number of sort of temporary patches put on where creditors cut a borrower some slack or extended some things, and those are coming up again.

And borrowers are having a hard time renewing that.

So we are seeing the banks start to sell more in Europe, and that activity level is high.

And then I would say in Asia, it's a bit different.

It's just there is the well publicized credit squeeze that's going on in China; but it's also happening in India, and it's happening in Brazil, and it's happening some other places.

And so real estate financing is kind of drying up in those markets, and that's opening up some opportunities.

So it's kind of -- the locus has shifted a little.

But in the US, I think your perception is right.

The distress is waning.

Okay.

And then in private equity, post-Q2, despite some volatility in the equity markets, it almost seems like the environment for realizations, at least through the IPO process, seem to have improved, given that long equity markets have rebounded, outperforming other -- some other asset classes and some of the IPOs having done well.

Would you say post-Q2 that the IPO process of realizations has actually improved a little bit?

Well, it depends on what you're comparing it to.

It was pretty good in the beginning of Q2, and then of course June was a little bit choppier, and now it's back to where it was.

So I think, yes -- so I guess by comparison to June, it's definitely improved.

I don't know that it's -- I don't know that it's much different from sort of the April/May time frame when it was pretty good.

Okay, very good.

Thank you.

I mean, just generally speaking, if you look at markets in the third quarter to date, they are all up solidly, and that's true across every sector.

Okay thank you.

Chris Kotowski, Oppenheimer.

Just reflecting on Steve's comments as you opened.

I'm not sure that what hit the stock so much early part of a couple weeks ago was the fear of rates, as much as it was one of your peers commenting that quote there was an almost biblical opportunity to sell assets here.

And that, I think, just created the fear that there is a fragile window that's about to shut.

So I guess the question is, can we infer from the fact that you're holding onto assets like Hilton, even though hotel stocks are hot and EBITDA is up 17%, and can we infer from that that you disagree with that point of view that this is a biblical opportunity to sell?

And I guess just as a follow-up to Tony, you said we are still in the virtuous part of the cycle.

What gives you comfort that it's not getting to the frothy part of the cycle?

Okay.

Well, so there are definitely -- obviously, we've got we filed Brixmor today out of real estate.

We've got some other things for sale out of real estate.

We've got three IPOs on file for a private equity.

So we are obviously think that for the right asset, this is a good environment -- this is a good environment to start seeking some exits.

But it's not -- and we're doing that.

But there are other assets like -- just take Hilton, for example.

When you can have that kind of growth in EBITDA with the kind of leveraged capital structure that is on that company, equity accretion is tremendous.

And you kind of want to let your winners run a little bit because you're accreting a lot of value for our shareholders every quarter.

And we think Hilton is a great company, and we think that we'll have plenty of exit options.

We'll have recap options.

We'll have M&A options.

We'll have IPO options.

We'll have all kinds of things.

So we are not in any rush.

We don't feel like -- we feel like there's always a balance there.

You're looking at the current market conditions, and you're also looking at the fundamental growth of equity value of your company.

And you're trying to balance those.

And so, I think that -- I guess I was saying that I think we've got -- we don't see the windows shutting right away.

And, indeed, you might get a hotter -- as the economy improves and corporations get more confident about the future, you might see the corporate change of control market, the M&A market, get hotter.

And that might accrue to our benefit.

So I think what I meant by the virtuous part of the cycle was not so much trying to predict markets.

But in terms of what was going on with our markets are pretty good, A, so the avenues are open, and B, in terms of what was going on with our assets, they're coming to the stable -- and particularly in real estate, I think that was a comment about real estate.

You know -- so we have this buy it, fix it, sell it.

Our operations are -- a lot of the assets are getting to the fixed stage when they normally look to exit.

And the windows are open, and I think we're going to have another 12 to 18 months of good activity on that.

Chris, I would just say based on the incoming questions, we -- everyone was asking about interest rates, concerned about interest rates.

So I might disagree somewhat.

And I think there wasn't a clear, and maybe there still isn't a fully clear, understanding of how GSO is positioned, that it's private-market transactions, that it's floating rates, that they actually benefit in a rising rate environment.

And we even saw it with the Blackstone Mortgage Trust, which is commercial mortgages.

Initially, that got hit with the residential rates, where you're trying to play a curve.

And here, we are not -- again, it's floating rate base have in their queue for every 100 basis point increase in rates there is a commensurate increase in income.

So hopefully there's a better understanding today than there was two weeks ago.

But I still think we have a way to go.

Okay, thank you.

That's it for me.

Great.

Thanks everyone.

And we look forward to catching up after the call as well.

Thank you for your participation (technical difficulty).