Last week we saw the first of the large private equity firms report earnings. While it is nice to know that Blackstone Group (BX) now oversees $333 billion in assets and that earnings took a hit from marketing to market their holdings in publicly traded companies such as PBF Energy (PBF), TravelPort Worldwide (TVPT) and Hudson Pacific Properties (HPP), the real value is reading what the executives of the private equity and real estate investing giant have to say about the markets and where they see opportunity today. I always urge investors to read the earnings releases and conference call transcripts, but I am mindful that I have also been urging my son to eat his peas for 26 years without much effect. The release and call contain some valuable information, so I will summarize for readers here, as I will also do with the Apollo (APO), Kohlberg Kravis (KKR) and Carlyle Group (CG) reports as they are released this month.
Stephen Schwarzman, Chairman and Chief Executive Officer of Blackstone, commented in the press release that the company "produced solid results for our investors in the second quarter with strong realization activity despite challenging market conditions." In other words, we are selling a lot of stuff and booking our gains. He added to his statement on the conference call telling analysts and investors that "I think if the market conditions of today are reasonably stable, you will continue to see a high level of realizations. Obviously, if the markets fall out of bed, they will go down. And if the market gets hotter, it will probably accelerate. But in today's markets, which the S&P is at about 16 PE, they feel not undervalued, but not peaky either in these equity markets. You will continue to see strong realizations." As I have become fond of saying, we can argue about whether the market is full or fairly valued, but we cannot even begin to discuss the market being cheap and Blackstone is taking advantage of that and selling appreciated companies and assets right now
Looking at the broader markets, Mr. Schwarzman said, "The public market backdrop, as everybody knows, has been volatile and challenged lately, largely driven by the drawn-out situation in Greece, as well as the sharp decline of the stock markets in China. In the case of the Greeks, we seemed to have a temporary solution now which has calmed markets. China's issues may have longer-lasting implications, particularly in commodities and related areas." Later in the call he added, "Once we buy an asset, we own it for a long, long time. So you have to be able to develop conviction around what's really going to happen and that's hard right now."
President and Chief Operations Officer Hamilton James also noted on the call that most individual investors cannot benefit from the very high returns available from using the private equity-like approach to investing and he is worried about that. He said, "Let's just start with that and frankly have been spending some considerable time on this. I have the view that the hidden crisis in America that no one is talking about is what's going to happen with all of these 20-, 30-, 40-year-olds who no longer have corporate pension funds of defined benefit, so they have got 401(k)s and they are making little contributions in there, which is earning very, very little. When they retire at 65 and they don't have enough to live on and it's an entire generation, maybe two generations of people, we are going to go, oh my God, what happened? And if they can't invest money at higher returns than 4% to 5%, which is all the public markets are going to give you, we are going to be in trouble as a country."
He pointed out that in many cases it is the exaggerated need for liquidity that keeps the public from enjoying the benefits of illiquid investing, telling investors on the call that "a lot of the returns we make come from the fact that we can free ourselves from the tyranny of daily liquidity and take advantage of these substantially enhanced returns that come when you can do that without taking more risk."
Mr. Schwarzman also said, "What we do at Blackstone can't be replicated by investors in the public markets and very few can do it anywhere or at our scale." I spent a lot of time considering that last remark and have concluded that while I agree with just about everything else Blackstone management said in the release and on the call, I do not agree that this is the case. I am running out of room for today, but tomorrow I will pick this back up and consider some ways you and I can replicate the private equity approach and returns.
