Bloomberg Wealth with David Rubenstein: Blackstone's Jon Gray

I think it's still pretty good time for real estate. Texas and Florida are well-positioned. You should stay away from buggy whip businesses. John Gray went from aspiring journalists to become one of the top real estate investors in the world. When I met my wife in English class I showed up wearing a suit and tie. Everyone else was in Birkenstocks. It was clear I'd made a decision which path I was on. John joined Blackstone in 1992 and was the second employee in its real estate division. I say to my kids all the time luck is a core competency but it wasn't all luck. I've had the opportunity to do John and work with John since I think his second day of Blackstone when he had just gotten out of Penn. Well I think to a degree luck is you know involved in anybody's success. I think with John it's a gross overstatement. I think it is. It is just simply raw talent. By 2005 John was running Blackstone's real estate unit and spent the next 13 years building it into a behemoth with about one hundred and nineteen billion dollars of assets. I think he has a very unique ability to combine tremendous amount of vision and understanding trends generally ahead of a lot of other people and conviction. And he turns that conviction unlike few people I have seen into very bold big moves that have generally paid off. What put John on the map was Blackstone's 26 billion dollar deal to buy Hilton on the eve of the financial crisis. There were a lot of things going really really wrong. I'd say John's leadership throughout was what I would describe as sort of a steady hand on the wheel. The Hilton deal ultimately became one of the most successful private equity investments of all time reaping more than 14 billion dollars in profits and catapulting John to the number two job at Blackstone. Sort of the natural. He's just got it all seems that journalism's loss has become private equity gain when you're growing up in the Chicago area. Did you say one day I want to be the greatest real estate investor in the world. No I. I got here as an accident. I had grown up in suburban Chicago. I've never really been to the East Coast prior to going to college. And when I got to college I decided that I really wanted to be an English major. I wanted to be a journalist is what I thought. I wrote for the Daily Pennsylvanian and about a year into school I realized a bunch of my friends fraternity brothers liked business. They were in Wharton and I owned a few stocks. I liked numbers. So I decided to get a dual degree. And that was really important for me because my senior year in college I met a young woman who was an English major. Also in a few weeks later I got a job working for a small investment advisory firm and that was about 30 years ago. And that was Blackstone and that was my wife Mindy. So that really set me off. And so I went from Philadelphia. I came to New York and I started at Blackstone in the private equity area and in the MBA area. And I was mostly running numbers doing pitch books for clients in ordering dinner. I had to make sure the associates got their food by seven o'clock and about a year. And two things the real estate market had collapsed. And the visionary founders of Blackstone Steve Schwartzman and Pete Peterson said look real estate is a place we should go. They found a guy in Chicago John Schreiber a terrifically talented investor and they formed a real estate business and they had no people. I had been helping them draft the private placement memorandum for the first real estate fund. And they said you seem like a reasonable person. Do you want to move over and join this group. And I talked to Mindy I talked to my parents and I came back and said yes and that's how I ended up in the real estate business. OK so what did you all do in the beginning that you have money to invest because you didn't have a fund I presume in real estate. So what did you do for money. We had to raise the money and we also just did very little deals to begin. So the first deal I worked on was a shopping center in Chesapeake Virginia. The great bridge shopping center. It was a six million dollar transaction. We borrowed force. It was a two million dollar equity check. And you would have thought I was buying the island of Manhattan. I mean I I was down there for three weeks. I met every tenant. I was counting the car traffic. I was learning the business. And it was an amazing experience because I was the chief bottle washer. I was the waiter. I was the maitre d because we were this tiny little business and I was learning it firsthand. Let's talk about two deals that you did eventually that became two of the best known deals in the history of U.S. real estate I would say. The first is EOP built by Sam Zell. Can you explain what that deal was and why it was such a risky deal and why it turned out to be for you a very good deal. I stumbled on the public real estate markets where there were companies that owned real estate that were trading well below where these buildings traded out individually. And then we said there's this new commercial mortgage. Security's debt which is much lower costs than leverage loans and high yield that you typically use in a buyout. And we convinced the banks to let us use that to go buy real estate companies. And beginning in late 0 3 through 0 7 I think we did 12 of these deals where we started buying these big public real estate companies. We used the public CMBS stack and then in many cases we would sell off pieces. Think about it as a fruit basket. You'd sell the grapes to the people who wanted dad and the bananas over here. And that's what Equity Office was all about. We bought the biggest collection of office buildings in the United States. And so it's like running a store where in the front end you're taking in the merchandise in the back and you're selling it. And so within 60 days we ultimately won the auction. We sold almost two thirds of the real estate. We paid down our debt and we ended up owning really great real estate. One thing people don't focus on is we kept the assets in California and New York and Boston had we kept suburban Chicago in Stamford Connecticut. It would not have been so good. So at the end of the day it was a wholesale to retail arbitrage. But the key was what we kept. And then we held it and ultimately tripled investor capital. In the end it turned out to be a great deal for you. Yeah right. That people you sold the real estate to. It wasn't so good for them because the real estate market collapse more or less run. You completed the deal. So ultimate you ever buy some of that stuff back from the people you sold it to before we ended up buying some of it back. And a lot of those people are my friends. No one knew at the time the music was going to stop. Let's talk about another deal you did that. Also turn out the probably the most profitable buyout of all time. It's real estate related right before the market crashed in 0 7 0 8. You bought the entire Hilton Hotel Company. What was your thinking about buying Hilton Hotel. Was it a real estate play or a corporate play. I'd say it was a bit of both. We did the transaction with our real estate private equity funds and our corporate private equity fund because Hilton known great real estate like the Waldorf Astoria the Hilton Hawaiian Village but it also had this amazing management franchise business. And when we bought the company it was similar to the Equity Office transaction in that we thought we were able to buy something because of the scale and because it was in the public markets more inexpensively than we could buying these assets individually. And we also believe that the multiple was reasonable. We were paying 13 or 14 times cash flow for what we thought was a great business. Our mistake of course was that our timing was terrible. We closed down the transaction at the end of 07 in less than a year. Of course Lehman would collapse. The global economy would be melting down global travel would decline dramatically. This company's revenues would go down 20 percent. Cash flow would go down 40 percent. And we marked our largest investment ever as a firm down by 71 percent. That was not a good feeling. But but what I would tell you is we believe the decline was cyclical in nature. And so we invested eight hundred million dollars more at the bottom. We stuck with the company. It started growing. There was a cyclical recovery. We ultimately took it public. We've broken into three different companies. A man has been franchised timeshare in real estate business and we made 14 billion dollars for our investors. So it ended well when it wasn't looking so good that you go home to your wife and say you knew told me to go into real estate and maybe it wasn't a good thing. You didn't say that. You know it's funny in all seriousness. My wife and my children. And that that was really important. As you know in a period of time when things are stressed having people you can rely on and talk to and who still believe in you is really important. And it was hard because you felt terrible. You felt badly with your colleagues with your investors. But we never lost faith in and really for me that experience that searing experience. And Hilton was probably the most important thing for me as an investor because what I learned was we bought it the worst time possible and we ended up having the most successful deal of all time. And what that said is we had bought a really great business in what we call a great neighborhood had terrific tailwinds people global travel to growth industry. These brands were super valuable. And so what it's led me to think is too often when we invest capital we focus on. I'll call it the individual house not am I in the right sector. Do I have those tailwinds. And in this case this was a fundamentally great business and we could afford to have paid too much and do it at the wrong time. But ultimately with the right management team the right financial support. We made a bunch of money and that really impacted everything I've done since then. I think this shortage in housing will become more acute. And so we continue to like it as a sector to invest in. Call it the incredible shrinking office building. As more Americans work from home demand for office space is plunging. The result. Big investors are putting their money into warehouses that have centers and studios and other production spaces used for streaming. In January Blackstone took a majority stake in dozens of warehouses most of them in California and Seattle. The rise of online shopping has made warehouses and other logistics properties more valuable. Last month Blackstone bought data center operator UTSA Realty Trust for roughly 10 billion dollars. The numbers tell the story. Office space in the U.S. made up 90 percent of Blackstone's portfolio in 2015. Now it's 4 percent. Hotels where twenty three percent of the firm's portfolio in 2015 now 6 percent. But logistics properties have surged from 9 percent in 2017 to 38 percent now. Let's talk about different two different types of real estate is residential and there's commercial. So is residential less risky or more risky than commercial. Well if you talk about for sale single family housing there's probably more risk in the sense that you're building something and you're selling it and it's a function of the market. If you're talking about rental housing. Think about an apartment complex that tends to be less risky because it's less cyclical. People don't give up their apartments when there's some volatility but nothing like say office buildings or hotels. So I would say residential rental rates in real estate safer less volatile. And then commercial real estate involves office buildings warehouses which has been the biggest theme for us over the last 10 years. Hotels shopping centers senior living facilities and all of them have different risk returns depending on geography. Another way of looking at real estate are things that are already existing and things to be built. So is it riskier and higher reward to build something or are you more in the category of trying to buy things that already exist. We generally are in the business of trying to buy existing real estate at a discount. So we bought that cosmopolitan hotel and casino in Las Vegas and we bought it for less than half of what it built for because it was built during the financial crisis. So that to me is ideal. Occasionally we'll build things. But in general we like to try to get into real estate at a lower basis when it's already producing income. The problem with development is it's a bit like saying I'm an IPO three years from now. When you show up to lease up your building we could be in a different economic environment and therefore you may not have tenants you may not have revenue. So we've generally bias towards existing real estate. Now as a general rule of thumb over the last hundred two hundred thousand years real estate prices generally go up. Values increase generally. But why is it that sometimes real estate developers you read about them going bankrupt is it because of leverage or because the values actually went down. I'd say that the classic scene in real estate is you have long duration assets and people finance them short term. And so for developers who often rely on a lot of leverage that can get them into trouble. The other thing that could impact real estate particularly today are changes in technology the ways we live and work. So if you think about enclosed shopping malls. They were from really the postwar period until a decade ago. The best assets a large shopping mall anchored by department stores lots of retailers food court. They grew value 5 percent a year on leverage 40 50 years because they were very hard. They were really fortresses. And what's happened of course is the Internet showed up. E commerce showed up. And that's really impacted those businesses. And we've seen sharp declines. But that happened over a long period of time. So it can be secular changes in the way we live in work. But the bigger thing generally to your point has been leverage. Some people say that real estate is favorably taxed by the US government. I assume that's because of depreciation and other kinds of things. But now one of the most favorable parts of the tax code for a real estate has been something called a like kind exchange known as a ten thirty one exchange. The current president President Biden has proposed changing. That will not affect real estate very much or not. I think it will affect individual investors who've owned assets for long time will harvest gains and then buy a new piece of real estate for the institutional investors. It's less of an impact because we're selling we're paying taxes. What. The way may impact us is if there's less selling as a result the same thing could happen if capital gains go up. You could see some individual owners of real estate be more reluctant. But I don't think as much of an impact on the institutional market. Talk about geographies for a moment. We're in New York City now. New York City is seeing a lot of people leave during Cove. They're in the Hamptons or wherever they are. Do you expect that people will come back work five days a week and use all the office space in New York or similar cities that you did before. Or is it going to be a need for less office space. When we think about our company we know we're better together. Our business. We don't have the formula to Coca-Cola. We've a lot of smart talented people who are connected by culture. And so I think being together matters now. Yes. I think some companies will conclude they don't need quite as much space. And so that'll create some additional vacancy. People will be concerned about owning office buildings and that may create an opportunity because there'll be some headwinds for a number of years and then over time things will recover. A lot of people have moved to Florida and let's say Texas maybe for warm weather may because their states don't have income taxes. Do you think that trend will continue. And is that a good place to invest in real estate now because more people are moving there. I would say it's a bit of both. I think that the the weather the lower cost of living lower taxes particularly in a post salt world concerns about quality of life crime. I think that migration has. You know Texas is one of the fastest growing states in the country even though it's enormous. I think that will continue. And it was accelerated a bit by the pandemic. On the other hand New York City San Francisco. These are amazing places. And when you think about technology and innovation entrepreneurship immigrants people are going to come to these cities. Know my daughter's graduating from college. They want to live here. So I think there will be a rediscovery of these cities. But I think longer term the policymakers in these cities can have a big impact. We saw it obviously in the 60s 70s and 80s when these cities suffered. I don't believe that's what's going to happen. I think with the right policy I think these cities can really thrive. But yes Texas and Florida are well-positioned. But when you were growing up and certainly when I was growing up I'm older than you. People really wanted to own their own house. It was part of the American dream own your own house. But you've been buying a lot of rental housing. Now is that because you think young adults are not as interested in buying their own home and they want to rent now. No. I mean there could be some of that but if you look in the last twelve months during Kobe there's been a surge in people wanting to own homes. I think our investment or I know our investment in rental housing is based on the fact that we just haven't built a lot of housing since 0 8 0 9. So we've averaged less than a million homes built in the United States during that period versus probably the million five. We need to keep up with population and obsolescence. And so that's created support for single family values but also rental values. And I think now as the economy reopens here I think this shortage in housing will become more acute. And so we continue to like it as a sector to invest in go where the creative and technology types are because those are the markets where they'll be the most economic activity. So what's the pleasure of being a real estate investor which you've been doing for almost 30 years as opposed to being a private equity investor or being some other type investor. What is it that you liked about real estate that kept you in it for 30 some years. I would say I love the people I love learning about all these different places. I mean I got to see all of the United States virtually all of the developed world. You know when you're investing in you know pharmaceutical businesses or or other companies it's harder to say. I have real expertise about the efficacy of this drug versus that drug. But as an individual you can say I've been in the neighborhood here. I'm in Oakland today. Gosh it feels a lot like Brooklyn did. Is it start to gentrify huh. I'll connect the dots and do that. So I think the tangible nature of it the experience if you love to travel if you love to see places I think real estate's hard to beat. So let's suppose somebody is watching this and I say OK this guy has done a great job of building a great real estate business. I want to invest with him or I won't invest in real estate for the individual investor. What is the best way to invest in real estate. So for the individual investor I'd say there are a couple of ways. One is there's a public reap market where you can invest in some excellent companies here in the United States. Their reach frankly around the world. That's one way to do it. Another way to do it today is we have things called private rates. We have Blackstone have a vehicle called Beat which today owns primarily logistics and rental apartments across the southeast and southwest the United States. And that's another way to do it. There are others who offer similar products for some who are more adventurous. They can partner with local developers. Let's say the challenge I worry about that is just misalignment of interests and liquidity. How do you get out at some point. You know investing and you're generally not getting a lot of diversity in that approach. Are you worried about the economy now. It's economy's been pretty good but it probably will head down at some point. Economy's always correct. So if I say I won't invest in real estate is now a good time or should I wait a while before the economy. Correct. I think it's still a pretty good time for real estate. And I'd say it for a couple reasons. One is that the warning signs for real estate are twofold. Too much leverage too much capital. And we don't really have that in the real estate system today. The other too many cranes too much building and we're actually below historic levels in terms of new supply. The other thing I'd point out if you looked at the S&P 500 it's delivered something like four times the return of a public reach since the beginning of 20 before Cove. So real estate is lagging coming out of the recovery because obviously people are being concerned about the physical world. I think real estate here as the economy reopens. People go back into spaces is going to see a little bit of a bounce. I think the risk is you know do interest rates move a lot. That's a bit of a threat. I would say one positive thing about real estate also is inflation. Remember drives up the replacement cost of buildings and that gives you a little bit of a cushion on existing real estate. Where should I not invest my money. You should stay away from buggy whip businesses. You should stay away from landline phone companies and some of the legacy retailers some legacy media businesses. You want to focus on the future. And I would just say this on real estate in particular if I had one piece of advice where geographically is go where the creative and technology types are because those are the markets where they'll be the most economic activity. So the west coast of the United States Austin Texas Cambridge Shenzhen London Amsterdam Tel Aviv Bangalore Tech is driving so much of the growth in this global economy. Those are the most interesting places to invest. OK. Two people come up to you at cocktail parties one member of cocktail parties where when people we used to get together they ask you for any investment advice and you always say just invest with my firm or what do you give people advice. You know people it's funny. They often ask me residential home prices which is not my area of expertise. And you know what I tend to tell people is focus on the longer term. Focus on you know I think the danger the world we live in the sort of Snapchat tic tac mean stock thing is dangerous. And what you want to say is is this fundamentally a good business. Is it in a good sector. Is this a good piece of real estate where supply is limited demand is favorable. And if you own something good hold it for a long period of time. So to me find those right neighborhoods to invest in deploy your capital and then be patient. John thank you for a great overview of the real estate investment world and I appreciate you're giving us this time. Thank you David. It's been terrific.

Channel: David Rubenstein

Views: 98,997

Rating: 4.9019499 out of 5

Keywords: jon gray, real estate, office, offices, commercial real estate, private equity, blackstone, investing, real estate investing, reit, investment trust, hilton hotel

Id: UKkykksZHOU

Length: 24min 6sec (1446 seconds)

Published: Thu Jul 08 2021