GCM Grosvenor truly has a long
history of sourcing, investing with and scaling emerging and diverse managers
platforms. Over the years, the firm has built a practice focused on investing in and developing emerging and diverse managers and currently
counts several of the nation’s largest pension systems including Teacher
Retirement of Texas and others as its investors. Join us for a special interview with Peter
Braffman, Managing Director, Real Estate Investments at GCM Grosvenor, whose
team has mapped the emerging and diverse market for over a decade by tracking
and collecting qualitative
and quantitative data on the manager universe, as he shares his findings
and makes a compelling case for investing with diverse and emerging managers.
1. GCM Grosvenor has long been a pioneer in the diverse and emerging manager space with its groundbreaking work. Can you briefly describe how the firm entered this space and its goal in doing so? What did that space look like originally and how has it evolved over time?
Our entry into the small, emerging and diverse manager space was a natural evolution of our separate account business and reflected our desire to both generate alpha and find the next generation of leading managers for our investors. Although this is work we had done for decades, in the early 2000’s there was a growing recognition that early-stage managers were increasingly crowded out and that the industry was lacking both diversity and access to the smaller middle market. Together with a handful of our strategic institutional capital partners, we created programs that exclusively targeted these early-stage platforms, with the goal of creating a portfolio of scalable investment businesses that our investors could one day invest directly with themselves. When we first started, the space was largely focused on fund formation, irrespective of asset class. Over time, the practice has become much more nuanced, reflecting both the vagaries of different asset strategies and targeting teams much earlier in their formation.
2. Likewise, the firm has also been instrumental in raising the visibility of diverse and emerging managers and facilitating investments from institutional capital. Can you describe your partnerships with several of the nation’s most prominent pensions funds and the role GCM Grosvenor plays in overseeing their allocation to diverse and emerging managers? How has this been a game-changer for the industry?
GCM is unique in that we manage the vast majority of our capital through separate accounts. The strategic nature of those accounts – which are customized to the needs of our investors – is extremely powerful in executing an emerging manager program whose goal is to elevate managers. Within our real estate practice, out of our teams that have grown large or mature enough to no longer qualify as an emerging manager, over 70% have gotten direct allocations from our investors. That’s a remarkable success rate. What has been a real game changer is the club of institutional investors we have been fortunate enough to bring together. They are some of the largest in the world and they sit side-by-side and share proportionately in our emerging manager investments. As such, not only do the managers in the program benefit from sizeable scale in capital – it is not unusual for us to invest hundreds of millions of dollars with a manager over the course of the program – but they also benefit from continuous access to our capital partners and their goals. This can dramatically increase the odds of a direct investment and elevation.
3. Over the years, GCM Grosvenor has conducted extensive research tracking the performance of diverse and emerging managers. Can you share some of those findings and address the commonly held industry myths like the notion that investing with diverse and emerging managers means sacrificing returns?
Since we started the real estate practice 14 years ago, we have seen close to 1,500 different business plans. Over the years, we have collected data from these managers, including performance on hundreds of emerging manager funds, which we benchmark annually against industry indices. And in virtually every year since 2009, the emerging manager subset performs consistently with or, more often, better than the benchmarks. This persistent outperformance addresses the greatest misconception about the kind of risks we are taking by investing with emerging managers. These are not emerging investors, but rather, emerging platforms led by people with decades of investing experience who often have left larger institutions to start their own businesses. On top of that, these investors are particularly well-suited to access the more fragmented – and less competitive—smaller, middle marketplace. This has allowed them to find better pricing and generate more yield on the assets they acquire.
4. Can you talk about how the investor appetite for diverse and emerging managers has evolved over the years?
Investor appetite has changed over time in both scope and scale. Originally, investors were willing to get passive exposure through fund of fund models. Increasingly, investors are looking to programs that allow for a much more curated experience that brings them closer to the assets and the managers, where they or their partners have an active role in the building of the portfolios and the teams. On top of this, more investors are entering this space and are making this activity a permanent allocation of their overall plan. Although there are a number of reasons for this evolution, they tend to coalesce around three key themes. First, investor portfolios have become more fully allocated to managers, and an emerging manager program is the only way to efficiently ensure access to future leading managers who otherwise might not get an allocation. Second, as institutional real estate continues to become more commoditized, the emerging manager space is often the best way to invest in niche opportunities that are either harder to aggregate by traditional managers or optimized by new technology. And finally, the emerging manager space is likely the best place for investors to find diverse and women-led teams, which traditionally were not represented in any meaningful way in investor portfolios.
5. How have current economic challenges and market uncertainty impacted space?
The current economic environment largely shut down the acquisition market. This hasn’t, and won’t, change until there is capitulation on asset repricing, and until it does, new fund or platform formation will be greatly suppressed. The exception is in the debt space, where new credit platforms are forming to take advantage of the current rate and illiquidity environment. But even there, investors are favoring established managers who are well positioned to immediately deploy debt capital in this somewhat limited window of opportunity. If history is any guide, the next three to five years will be a phenomenal time for emerging managers. Whenever there has been this kind of dislocation in the market – post-RTC in 1992, post-dot com in 2001 and post-GFC in 2007 – there has been an explosion of new fund and business creation, driven largely by the opportunity to buy assets at cycle-low valuations. In addition, the value of the main economic disincentive to spin out – unrealized carried interest – has become uncertain for many investment professionals. This will be the time for those with entrepreneurial spirits to start new firms. While this vintage will have its own unique vagaries, likely including increased consolidation of the industry and more compressed windows for managers to be able to scale their businesses, that should not dampen this coming moment for emerging managers.
6. What does GCM Grosvenor look for in a manager beyond the standard checklist?
We use a variety of quantitative and qualitative measures to evaluate three broad characteristics of the teams with which we are looking to partner: a) how is the manager as an investor, b) can they build a successful business, and c) do they have the ability to become a strong fiduciary of capital. Most of the groups we see are truly strong investors, and the hardest hurdle for them is understanding what it will take to build and sustain an investment management business – both financially and personally. We assist them in that development, yet in the process, we are also examining their business plan’s efficacy and their ability to execute it. GCM also looks beyond these traditional metrics when we delve into the fiduciary question and evaluate their ability to be a good partner. These are truly illiquid investments, and we consider them perpetual relationships. It’s important that they share this mindset and that they prove to us that they will be a great partner in both good times and bad.
7. Can you describe the different ways in which GCM Grosvenor partners with and supports its managers?
We support our managers by strategically partnering with them across the full life cycle of their evolution, with the goal of scaling these managers and enabling their development of an investment management business. Although each opportunity is unique, we prefer to start our relationships by investing directly in assets with managers on a joint venture basis, where we also can provide platform support in the form of working capital loans. Eventually, we can seed their fund business or help build an operating platform, typically by contributing our joint venture portfolio assets as seed assets. Our capital is flexible enough to then support that business over time through successive fundraises, which we think is a strong value proposition for our managers. As these platforms scale, we also look to partner with them in other ways, such as seeding new strategies or expanding their existing ones. Throughout our relationship, we look for opportunities to provide other growth capital, such as GP co-investment capital, which becomes increasingly necessary as these managers grow their business. This open architecture approach to investing, which is unique in the market and which we have developed and iterated upon over the past decade, allows us to be a truly impactful growth partner at every point along their development cycle.
8. What excites you most about the next generation of diverse and emerging managers?
I’m excited about the role emerging managers can play in the next evolution of our industry, which is playing out in two ways. First, our business has greatly matured since its effective beginning in the early 1990s, with a greater number of very sophisticated managers competing with one another and driving greater efficiencies – thereby reducing the opportunity for outperformance. This is what is driving capital to search for new real estate use-cases, whether that is in niche asset classes or more tech-enabled real estate; it’s the emerging managers that have the best access to this part of the market. The second has to do with diversity. Well-established investment management firms, which are the largest training ground for spin out teams and emerging managers, have become increasingly diverse over the past decade. This will have profound implications for the next generation of managers as individuals and teams leave to start their own platforms. When we started this business, 10% of the teams we saw were diverse or women led. Now, it’s up to almost 33%. That trend is only going to continue and will likely attract even more institutional capital into this sector – and emerging managers will lead the way.
Interviewed by Kwame Campbell, Senior Program Manager & Investor Relations- Real Estate, Markets Group