Under new head Tony Brown, UK-based asset manager M&G Real Estate is channelling institutional capital into more and bigger direct investments globally alongside its funds business.
If there’s an overriding message that M&G Real Estate wants to get across, it is just how much the £31 bn (€35 bn) AUM business has evolved – from a UK-based manager of internal Prudential capital to an international operation running money from near and far-flung corners of the world.
It is a change that began over 10 years ago under Martin Moore and took off from 2012 under Alex Jeffrey. Six months ago, Tony Brown took the baton as head of real estate. He describes some of M&G Real Estate’s achievements of the last 12 months as ‘watershed moments’ in the evolution of the business. Revenue from third-party clients, for example, now matches the level from internal ones (though it is not quite 50:50 in terms of AUM, yet).
Another milestone was buying Centropolis Towers in Seoul, for $1.04 bn (€0.9 bn). Centropolis was the largest-ever commercial property transaction in South Korea, but it meant more than that to M&G: it was ‘a statement of intent’, Brown says in his first interview since stepping up from CIO into Jeffrey’s shoes. M&G’s Seoul office worked with a local partner, South Korea’s LB Asset Management, to secure the asset after seller CTCore’s deal with a KKR-led consortium fell through. M&G led a group including two Korean pension funds, the M&G Asia Property Fund and the Prudential life fund. Having just been completed in the Jongno-Gwanghwamun central business district, the two 26-storey towers comprise 134,400 m2 of office floor space.
‘We want to do much bigger deals around the world in major cities than maybe we have done in the past,’ Brown explains. ‘We are saying to the market: we may be known as a fund manager of core funds but you know what? We have the skills and access in our key markets which is virtually unrivalled. So if you want to invest directly in those markets rather than through funds, we can source and structure investments with you.’
Those key M&G markets are Singapore, Japan, Hong Kong and Australia as well as South Korea in Asia-Pacific, and in Europe the 12 continental countries it has invested in so far for two core pan-European funds: the £3.4 bn European Property Fund; and the £0.4 bn European Secured Property Income Fund (European SPIF). The third key territory is the UK. The business does have $2 bn-plus invested in North America for Prudential clients, but the portfolio is managed from London and expanding there is not a priority. ‘We are not trying to be a totally global business’, Brown continues. ‘We don’t want AUM growth for its own sake and the US is a very competitive market. In the UK, continental Europe and Asia we can be a strong player with some great existing products.’
M&G Real Estate plans to continue expanding in its target markets in the forseeable future, via both funds and ‘capital solutions’ as it dubs its joint venture, Centropolis-style business. Although returns from property are slowing down globally, reflecting the later stages of the cycle, its real estate chief says: ‘We still expect to see some strong support for real estate as an asset class and that helps us set our strategy. Things could go wrong but we are not expecting anything so we are still in expansion mode.’
In particular, M&G believes the international diversification of real estate investors is a strategic trend, irrespective of the cycle, and one which still has a long way to go. ‘That tells us that we need to be international to be relevant and at the table, whether taking money into or out of a country.’ Another theme which M&G is convinced will underpin the asset class going forward is investors’ thirst for alternative property. ‘Residential, student housing, healthcare...they are becoming incredibly important because of demand from occupiers, reflecting how society lives today, whether it’s renting instead of buying or increased tourism,’ Brown observes.
The two SPIF funds – M&G launched UK SPIF in 2007 before European SPIF in 2016 – often structure alternative asset investments, from social housing to hotels, health clubs to car showrooms, as well as ‘traditional’ office, industrial and retail investments. UK SPIF is the market-leading, long-income fund by size at almost £4 bn and last month attracted £167 mln from Brunel Pension Partnership. M&G Real Estate’s first pure alternative asset product is its UK Residential Property Fund, another open-ended vehicle that invests only in UK multi-family and which has grown to £846 mln of commitments in five years. ‘There is a lot more latent demand, especially from UK pension funds and there are markets similar to the private rented sector, like social housing, which we are exploring,’ Brown says of likely future expansion. ‘A lot of clients investing see it as providing a social need.’
It is the appetite of European pension funds for pan-European diversification which lies behind what has been a surge in M&G’s continental business. Again, growth has been supported by investment in operations, in new offices in Madrid and Stockholm adding to Frankfurt and Paris, and with a string of experienced hires, most recently in Milan. The £3.4 bn valuation of the flagship open-ended pan-European fund means it has almost trebled in three years from £1.2 bn, much in line with Jeffrey’s hopes back then. Brown identifies 22 January 2015, when ECB president Mario Draghi unveiled the €1.1 tln QE plan to stimulate the eurozone economy, as ‘a defining moment...It was almost like the flood gates opened in terms of investment in real estate by European institutions. I think we recognised that early on, and it’s why we have been keen to put the foot to the floor to grow.’
The European Property Fund’s three-year investment performance of 7.2% (gearing is 15-20%) is also in line with expectations. Can that be maintained? ‘Investors, quite rightly, are always concerned about the outlook for returns and as a fund manager you have to be realistic,’ says Brown. ‘We are running towards the end of the yield cycle, but what was really a yield story in the last few years has become a rental growth story now, and that helps total returns.’ Favoured stock picks are logistics in slightly higher-yielding markets like Poland, Denmark and Spain, and well-located offices, especially in cities with strong rental growth.
M&G’s Asia Property Fund has also had ‘lots of interest from European parties, as a way to get some exposure to all the main core Asian markets through one fund’, Brown says. At $3.4 bn it is the biggest in the market. ‘Obviously, at the same time we want to take money out of Asia into Europe,’ he explains, adding that this is a key reason for Alex Jeffrey’s move to join the teams on the ground in Singapore, Tokyo and Seoul as Asia head for all M&G products and clients. It is a region he knows well from his pre-M&G days at MGPA.
The two believe Japanese capital will be especially significant in the coming years: ‘The amounts of money coming out of Japan for real estate will be huge, for the first time in many cases,’ Brown says. M&G recently represented an Asian investor ‘we’ve known for a few years’ in the £236 mln acquisition of 50% of Hammerson’s Leicester city centre shopping centre, Highcross. The buyer is understood to be Japan’s Norinchukin Bank. M&G and the bank also looked at a stake in Intu’s Chapelfield mall in Norwich last year but decided not to proceed.
In terms of other significant capital trends, Brown feels German institutional investors will be prominent for the pan-European funds in the coming years. But, like his colleague in real estate debt, John Barakat, he also has the advantage of potential internal money to launch new ideas, the latest being 2018’s UK Enhanced Value Fund, which held a £125 mln first close with UK internal client capital and £80 mln from an Asian investor. Aware this wellspring is something other managers would love to have, he is keen to encourage colleagues to bring forward ideas: ‘That is part of the strategy, to be more commercial and more nimble. If they can convince me and some of my other colleagues it is a good idea from an investment perspective, then I reckon we can convince a few clients as well.’
Given M&G’s determination to raise its profile outside the UK, it is fitting that this interview takes place at Expo Real in Munich in October. ‘You cannot over-communicate the brand,’ he recognises. ‘We weren’t even here until three years ago; now we have a stand. Where you are a household name as we are in the UK, doors open; when you go where you are less well-known you’ve got to push the door open. My role is to spread the message.’
Personal profile Tony Brown
Tony Brown became head of M&G Real Estate in April 2018 after four years as chief investment officer. He joined M&G from Lend Lease where he was managing director of EMEA. Prior to this he spent 14 years at Schroder Investment Management. He works closely with Simon Pilcher, executive chairman of M&G Real Estate and global head of fixed income.
Offering European borrowers debt in a single loan
A few days after Lehman Brothers collapsed in September 2008, an evangelical American started work at M&G Investments. John Barakat’s mission was to set up a business investing in real estate loans and to persuade institutional investors that the downfall of many of Europe’s banks was an opportunity for them.
In 2009 Barakat saw ‘dozens and dozens of investors in the Netherlands alone – and we didn’t raise any capital’. Not only was debt considered toxic by politicians and the public – a root cause of the global financial crisis – few investors at that time were set up to invest in it. Was it a fixed-income product, or a real estate product? How would they benchmark it?
Barakat, and Jamil Farooqi and Peter Foldvari who were the first to join his team, seriously wondered whether M&G would carry on. They did: ‘One of the great things about this place is that we have an internal client that likes to do innovative things and likes to find value,’ Barakat says, referring to insurance giant, Prudential. ‘M&G had a history of seeing markets that had maybe been bank-dominated, and saying: “OK, there’s room for an institutional source of capital in this”’, Farooqi chips in.
Large whole loans
Their first fund made mezzanine loans, ‘filling in what used to be the last piece of risk that the senior banks took’, says Barakat. Later, they added senior lending – now run by Lynn Gilbert – and developed the strategy which they still follow now: making large, whole loans, in other words offering European borrowers all the debt they need in one, bilateral facility which they hold to maturity and do not syndicate. ‘What I didn’t get at the time was just how bad the banking sector was going to be: it wasn’t just that they were going to be limited; some were actually going to withdraw.
That’s what changed our business’, he says. Capital is a mix of segregated mandates, both internal and third-party, and co-mingled funds. In 2014 Barakat’s division raised two of the largest-ever junior debt funds, M&G Real Estate Debt Fund II and III with £1.35 bn of capital from around 40 institutional investors.
Each debt investment is tranched internally and allocated to clients according to their risk profiles. It is an approach that rivals have suggested could lead to conflicts of interest if a loan were to go sour.
Do investors have any concerns? ‘Trust me, it is not that no-one asks the question’, Barakat answers. ‘We do it because we think it unlocks better value for our investors. ‘Borrowers on a lot of occasions have been willing to give us a little bit extra (for a large whole loan) and that means more return for the investor.’ Have some investors decided it wasn’t for them? ‘Sure, 100%’.
At the conclusion of the latest 12-month fundraising period, at the end of this year, Barakat expects to have raised between £1.5 bn and £2 bn of fresh capital, again a mix of segregated mandates and three new co-mingled strategies, IV, V and V1, on behalf of over 20 investors. The team lends at a rate of £1 bn to £1.5 bn a year.