Blackstone Group, billed as the world’s largest commercial property owner, said that even though a slump in real estate led to a 12% drop in the private equity firm’s earnings available to shareholders, it’s sticking to its strategy heading into next year.
The New York-based company remains committed to three property types — warehouses, data centers and student housing — and has sharply cut investments in areas such as offices that were hit by a lack of demand because of remote working. Blackstone’s closely watched earnings that fund dividends fell to $1.21 billion in the third quarter from the year-earlier $1.37 billion.
Real estate, Blackstone’s biggest business and traditionally an outperformer, was the worst-performing segment for at least the third straight quarter for the firm that reached $1 trillion in assets under management this year. Real estate’s distributable earnings dropped 27% to $557.2 million as higher interest rates and an uncertain economic outlook curtailed deal activity. Realized performance revenue in the segment slumped 88%.
The economy is less favorable, “so we've chosen to sell less,” Stephen Schwarzman, Blackstone chairman and CEO, said on a conference call. The quarter “was a volatile period for global markets, including a dramatic increase in bond yields. … Higher interest rates, along with a confluence of other factors, including economic uncertainty, geopolitical turbulence, high fiscal deficits, political dysfunction and labor unrest have adversely impacted investor sentiment.”
Blackstone’s $2.2 billion sale of Simply Self Storage to Public Storage was the only major real estate transaction of the third quarter that the company pointed out.
Schwarzman also said Blackstone isn’t betting on the Federal Reserve to lower rates by the end of this year as some have predicted, but he noted that rate hikes “will bring about the intended effect of cooling the economy,” eventually leading to “easing” of the cost of capital.
Slowing Economy
The economy is strong these days, but “decelerating,” Schwarzman said, adding the U.S. central bank has made “significant progress” on tamping down inflation. He said that “in our portfolio, we estimate input costs were largely flat year over year. Wage growth is moderating, and job openings are declining. But it will take time.”
Against that backdrop, Blackstone’s credit business is “thriving,” given higher rates and challenges with traditional lenders, Schwarzman said.
The company’s credit and insurance business, which involves lending, was the best-performing segment last quarter, with distributable earnings rising 7%.
“It is critical to own high-quality businesses with secular tailwinds or assets that benefit from higher rates, like floating-rate credit,” Jonathan Gray, Blackstone's president and chief operating officer, said on the call.
Besides the credit and insurance business, Schwarzman said, Blackstone sees “compelling near-term dynamics” and sector tailwinds in businesses such as infrastructure, especially “digital infrastructure” such as data centers, energy transition and life sciences.
On the real estate front specifically, Gray said most of its equity portfolio is in logistics properties, data centers and student housing, which “continue to benefit from robust fundamentals.” Blackstone’s QTS data center business, for instance, has been driven by “explosive growth in data creation that is being accelerated by the AI revolution,” he said.
Data Center Demand
Since Blackstone took QTS private two years ago, lease capacity has grown sixfold with demand driven by major tech companies, Gray said, adding Blackstone is “evaluating additional deployment opportunities in the space.”
In logistics, where Blackstone has the largest real estate exposure overall, Gray said trends remain favorable with rents in new leases at its previously occupied U.S. warehouses on average over 60% higher in recent months. He pointed out a similar “strong dynamic” in major logistics markets globally with rents moving higher.
Some other areas, including U.S. apartment buildings, are seeing “moderation in growth,” even though their cash flows are stable or increasing across the vast majority of Blackstone’s real estate holdings, he said.
“That said, higher interest rates are impacting valuation multiples in the sector,” Gray said. “This is also having the effect of meaningfully reducing the new supply pipeline, which is favorable for values longer term. Construction starts are falling sharply for virtually all types of real estate, including year-over-year declines of 30% to 70% for U.S. apartment buildings, warehouses and hotels,” he said.
“In the dislocated market, having $66 billion of dry powder [in] real estate is a significant advantage,” he added.
Blackstone has a record $200 billion across its various segments that it has on hand to spend. As higher interest rates have seized up deal activity industrywide, Gray said at an event last week that the higher-rate environment lends to the opportunity of buying at a lower price.
While higher rates have led to increased defaults in the market, he said Thursday that default rates remain “historically low” at under 0.5% among Blackstone’s noninvestment-grade holdings.
When “people need capital in a hurry, you can step in at this time and make attractive investments,” Gray said.