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Where’s the dry powder for real estate secondaries?

The supply of real estate secondaries is increasing dramatically, but it remains to be seen whether there’s enough demand to absorb it all.

About a month ago, I wrote that the California Public Employees’ Retirement System (CalPERS) planned to sell $3 billion-worth of real estate fund interests, which industry insiders thought might prompt other LPs to follow suit.

Whether or not CalPERS was the catalyst, more supply is definitely on the way: earlier this week we broke the news that sovereign fund GIC may be selling as much as $1 billion in real estate fund stakes.

It’s a trend expected to continue. During the first half of the year, advisory firm Greenhill Cogent estimated $3 billion-worth of real estate fund stakes had changed hands, while full-year volume is predicted to eclipse $9 billion for the first time. That compares to just $4 billion-worth of real estate secondaries deals completed in 2014.

The surge in volume is in large part due to much more attractive pricing. During the first half of the year, the average high bid for real estate funds was 92 percent of net asset value, up from 90 percent in 2014.

While it’s almost guaranteed that deal volume will reach a new record this year, it doesn’t mean that everything put up for sale will actually close.

“The question is how it’s getting absorbed because there’s not that much dry powder,” one investor told me. “There’s more supply than demand.” Just $2.1 billion was raised during the first half of 2015 for dedicated real estate secondaries funds, with some $3.6 billion raised in 2014, according to PEI data.

There’s the handful of usual buyers, of course – Landmark, Lexington, NorthStar, Goldman Sachs, Partners Group – plus a few others that do real estate secondaries opportunistically, like Strategic Partners. And there are large alternatives managers that have acquired teams to start a dedicated fund (like StepStone’s purchase of Clairvue Capital and Carlyle Group’s picking up Metropolitan Real Estate Equity Management).

Still, the firms that can deliver on large, $1 billion-plus transactions aren’t as plentiful as they are on the private equity secondaries side, which also counts institutional investors as regular buyers now.  There were some examples of LPs making acquisitions last year – like Dutch pensions taking over part of a CBRE portfolio and the Maine Public Employees’ Retirement System’s purchase of a $25 million stake in a Westbrook fund – but they remain outliers, and a reminder that the private equity secondaries sector has become much more mature and efficient than its much younger real estate counterpart.

Another reason why some assets won’t find buyers – which is a factor on the private equity side, too – is pretty simple: they aren’t great assets. In some cases, that’s because a repeat seller may have already sold its best stakes in top-tier funds and is left offering the lower-tier funds the second time it comes to market. Or, as we uncovered in the case of Harvard’s recent process – which saw the university sell only half of the $1 billion portfolio it’d put up for sale – sometimes the seller ‘throws everything to the wall to see what sticks’, as one source put it. And not everything does.

Our take-away? The firms and institutions equipped with specialists to evaluate real estate secondaries – and with dry powder behind them– will be well placed to capitalise on what’s still a very inefficient, but growing market. Watch this space.