02 July 2010

Fortress is Buying while Real Estate is Down

The Wall Street Journal

Fortress Investment Group LLP is raising its commercial real-estate bets while that market remains down.

The New York private-equity firm on Thursday said its funds have acquired CW Financial Services, one of the largest servicers of souring commercial mortgages packaged into bonds.

In recent days, Fortress also closed on a roughly $250 million investment in daVinci Holdings K.K., a high-profile and struggling Japanese real-estate firm.

Though the two Fortress deals are relatively small—the firm is paying about $300 million for CW, according to people familiar with the acquisition— they highlight the opportunities distressed investors see in sagging commercial-property markets around the globe. In both the U.S. and Japan, the values of hotels, office buildings and other commercial property are at or near multiyear lows, attracting bargain hunters. There are now $230 billion of troubled real-estate assets globally, according to Real Capital Analytics.

Fortress would appear well positioned to exploit the distress. Although the firm, with $42 billion in assets, has an array of investments, from ski resorts to nursing homes to global currencies and commodities, much of its top management have backgrounds in real estate. Wes Edens, the firm's chairman, was a top Wall Street mortgage trader before co-founding Fortress. The firm's chief executive is Daniel Mudd, the former CEO of Fannie Mae.

Despite that promise, Fortress's stock price continues to struggle. The firm, the first U.S. private-equity and hedge-fund firm to go public, has seen its stock price drop 84% since its February 2007 initial public offering. Fortress has been buffeted by billions of dollars of paper losses in its private-equity funds and questions about its ability to raise money in the future.

In acquiring CW, Fortress enters a hot, niche business attracting attention from big-name investors. Needham, Mass.-based CW, known as a special servicer, acts as coordinator for bondholders holding about $160 billion of debt backed by properties should these properties go into default. Among the largest troubled loans in the company's portfolio is the roughly $3 billion of debt on New York apartment complexes Stuyvesant Town and Peter Cooper Village, which are facing foreclosure.

Fortress is acquiring the company from Otera Capital, a subsidiary of Canadian pension manager Caisse de Dépôt et Placement du Québec. A number of other firms bid for CW, including Vornado Realty Trust and Starwood Capital Group. Representatives of Vornado and Starwood declined to comment.

Investors are keen on special servicers because of the rising default rate of commercial mortgages that were packaged into securities to feed Wall Street's deal-making machine and investor appetites. According to Fitch, more than 11% of $536 billion of loans packaged into commercial-mortgage-backed securities are expected to be at least 60 days past due by year's end.

Special servicers also have the option to buy the troubled assets they manage for bondholders, an attractive proposition for distressed investors like Fortress. In recent months, there have been several deals for special servicers, including a joint venture between Berkshire Hathaway Inc. and Leucadia National Corp. that acquired Capmark Financial Group Inc.'s commercial mortgage-servicing business. Real-estate investor Andrew Farkas also recently completed a deal to acquire Centerline Holding Corp.

Another market that distressed investors are circling is Japanese real estate. The property-related sector has had among the most bankruptcies in Japan in recent years.

DaVinci Holdings has been among the harder hit, having borrowed heavily at the market peak in 2006 and 2007 to acquire four large office buildings in Tokyo for 543.5 billion yen ($6.15 billion).

Fortress is acquiring a $250 million loan originally made to daVinci's by BNP Paribas, according to an email sent to daVinci's investors. Though a debt play, the investment gives Fortress a foothold into the struggling Japanese real-estate market.

The investment is reminiscent of the 1990s, when a number of foreign firms, such as Dallas-based investment firm Lone Star Funds and Goldman Sachs Group Inc., scooped up real estate on the cheap after Japan's stock and real-estate bubble burst.

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