Goldman New Madrid Landlord as Investors Return to Spain

Marcelino Calvo Sanchez and his wife, Maria Luisa, had never heard of Goldman Sachs Group Inc. until last year, when the global investment bank bought the four-building housing estate where they live in Vallecas, on the southern outskirts of Madrid. Marcelino, a 71-year-old retired truck driver, isn’t impressed by his new landlord. 

Goldman Sachs picked up the 289-unit complex in August 2013 as part of its purchase of 3,000 low-income apartments from the regional government of Madrid for 201 million euros ($269 million). With the sale, some subsidies for tenants disappeared, and, according to Sanchez, a small problem with squatters has become a larger one. 

“We don’t want to live with squatters,” Sanchez says. “This has become a business -- it’s not a social program anymore.” 

That’s exactly right, Bloomberg Markets will report in its October issue. Though the housing estate looks like one of the last places in the world smart-money Goldman Sachs bankers would bet on -- glass doors are shattered, broken mailboxes hang open, and graffiti mars the courtyard walls -- this is where Goldman has touched down in the Spanish real estate market. Blackstone Group LP, the world’s largest alternative-asset manager, bought a similar low-income-housing portfolio from the city of Madrid in July 2013 for 125 million euros. 

Turning Point 

These bets on Spain marked a turning point in investor sentiment. The country, for five long years a toxic no-go zone for foreign investors, is now at the top of the list for private-equity firms, hedge funds and sovereign wealth funds hunting for cheap assets in Europe. 

Many investors thought Goldman was wagering that Spanish real estate prices -- which are still more than 40 percent below their 2007 peak -- had finally hit the floor. 

“It was the first time we stepped in to buy assets of this size in Spain since the early 2000s,” says Jim Garman, global co-head of real estate investing at Goldman Sachs in London. “The reaction was surprising. We got many calls from clients and other investors asking if we were calling the bottom.” 

That wasn’t the bank’s intent, Garman says, even if the Goldman-emboldened rush of investors did put a floor under the market. Nor does the improved outlook for real estate lessen the challenge of making this particular investment work. Goldman’s local partner, Madrid-based private-equity firm Azora Capital SL, is fixing up the buildings and trying to confront the squatters, but it’s not the sort of thing that will happen quickly. Millions of jobs disappeared during Spain’s financial crisis, and squatters have become a persistent feature of the urban landscape. 

Prescient Timing 

As a macro bet on the Spanish economy, Goldman’s and Blackstone’s timing was prescient. In the third quarter of 2013, the Spanish economy grew -- slightly -- for the first time in two and a half years. In the second quarter of this year, gross domestic product grew 0.6 percent, its best performance since the last quarter of 2007. Retail sales finally began picking up in April. 

The government of Prime Minister Mariano Rajoy, who leads the conservative People’s Party, forecasts the economy will grow 1.5 percent this year and 2 percent in 2015. After coming to power in 2011, Rajoy implemented the toughest austerity measures in more than 30 years, cutting spending on education and health care and freezing public-sector pay. He has pledged to trim the budget deficit to 5.5 percent of GDP this year from 7.1 percent in 2013. 

Markets are rallying. The yield on 10-year Spanish government bonds is 2.18 percent, lower than the yield on U.S. Treasuries of the same maturity. Total return on the Ibex 35 Index of Spain’s most liquid companies is 34 percent for the 12 months ended Aug. 28. 

Broader Recovery 

Now Rajoy, who faces a general election at the end of 2015, is trying to secure a broader economic recovery. That means turning from austerity to stimulus and focusing on jobs. In May, he announced an $8.3 billion stimulus plan designed to boost job growth and increase loans to industry. He also outlined plans to trim the corporate tax rate to 25 percent from 30 percent. Rajoy will have the support of newly crowned King Felipe VI, who took the reins from his father, Juan Carlos I, in June in a low-key ceremony. 

“We have to send a message of hope, particularly for the youngest,” Felipe said in his coronation speech. “Enabling them to find jobs is a matter of priority.” 

Rajoy is betting the economic rebound and his stimulus measures will help bring down Spain’s unemployment rate of 24.5 percent, the second highest in the euro zone, after Greece. Youth unemployment is a staggering 52 percent, partly as a result of many people leaving school without degrees to work in construction during the property boom. Spaniards ages 20 to 24 saw their gross annual salary drop 15 percent from 2010 to 2012. The average annual wage has declined 0.3 percent since 2010. 

Chasing Deals 

“Spain now is a tale of two cities,” says Ismael Clemente, chairman and chief executive officer of Merlin Properties SA, which raised 1.25 billion euros in June in the largest initial public offering in Spain in three years. 

“You have a number of people who are structurally unemployed because they are unqualified,” Clemente says. “At the same time, you can already see companies that are exporting and thriving in the current market. They have recovered a lot of competitiveness because salaries have been cut.” 

Clemente, 44, is sitting in the art deco lobby of Madrid’s five-star Villa Magna hotel, which these days is crawling with investors and bankers chasing juicy deals. A 14-year veteran of Deutsche Bank AG, Clemente says the opportunities are enormous as Spain emerges from the depths of recession and banks continue to unload real estate assets. 

Eager Investors 

Foreign investors eager for exposure to Spanish real estate lined up to invest in Merlin. Within a week of the IPO, Clemente paid 740 million euros to buy a portfolio of commercial properties, all under longterm lease to Banco Bilbao Vizcaya Argentaria SA, or BBVA, Spain’s second-biggest bank as measured by total assets. 

Merlin’s IPO capped a dizzying six months of Spanish real estate deals. In January, the New York–based private-equity firm Apollo Global Management LLC bought the real estate unit of Banco Santander SA, Spain’s biggest bank by assets, for 664 million euros. In March, the Madrid-based REIT Hispania Activos Inmobiliarios SA raised 500 million euros from investors, including George Soros’s Quantum Strategic Partners LP and John Paulson’s Paulson & Co. In June, Texas-based private-equity firm Lone Star Funds and JPMorgan Chase & Co. bought a 4.4 billion euro portfolio of Spanish and Portuguese commercial property loans from Commerzbank AG of Frankfurt. 

Suddenly, “Spain!” 

“It was as if at some point late last year every private-equity and hedge-fund guy suddenly thought, ‘Spain!’” says Lane Auten, an American who moved to Spain two years ago to invest in real estate through his fund ARC Barcelona LP. 

In the U.S., Auten was a managing director at Waypoint Real Estate Group, an Oakland, California-based investment firm that buys up foreclosed homes across the U.S. Auten says a lot of investors are looking at Spain, a country of 46 million, as if it’s a carbon copy of the U.S. market, where investors such as Blackstone and Waypoint have scooped up hundreds of millions of dollars’ worth of homes and rented them out. 

“The fundamentals here are poor,” he says, sipping coffee in a cafe in Barcelona’s uptown business district. ‘Spain is about the size of Florida, but the demographics don’t push the rental market. You have an aging population, 50 percent-plus youth unemployment and negative immigration.’’ 

The lack of jobs drove 700,000 people -- 1.5 percent of the population -- out of the country from 2008 to 2012, according to the left-leaning Spanish policy institute Fundacion Alternativas. Spain is likely to suffer from high unemployment for years. Goldman Sachs expects the jobless rate will still be 23 percent at the end of 2017. 

Black Economy 

“The economy had become overly reliant on property before the crisis,” says Huw Pill, chief European economist at Goldman. “When the bubble burst, unemployment in the construction sector rocketed up. We shouldn’t expect miracles overnight.” 

Spain may be in better shape than it looks. The so-called black economy -- people working off the books, for cash -- may be masking the real rate of unemployment. This underground economy amounted to the equivalent of 24.6 percent of GDP at the end of 2012, up from 17.8 percent in 2008, according to Spain’s Finance Ministry. Many of the country’s economists and bankers reckon the real unemployment rate is more like 15 percent. 

The big prize for foreign investors is finding a way to profit from the structural shift in Spain’s housing market. Even now, Spain has one of the highest home-ownership rates in Europe. About 76 percent of houses in Spain today are owner occupied, significantly higher than Germany’s rate of 53 percent or France’s 64 percent -- a legacy of the days of easy credit flowing from Spanish banks. 

Battling Squatters 

Developing a professionally managed rental market in a country more used to owning is no easy task. Blackstone, like Goldman Sachs, has battled with squatters in Madrid as it tries to clean up its portfolio of apartments. Fidere, Blackstone’s local management company, has installed lamps in the courtyard, painted over the graffiti on the exterior and erected a fence to try to keep out trespassers. 

No one expects immediate results. 

“It takes six to seven months to get squatters out,” says Miguel Onate of Magic Real Estate, Blackstone’s partner in Spain. 

On a sunny day in July, Rosa Diaz Martinez, a 39-year-old woman in a flower- print dress who works as a cleaner for BBVA, walks into the courtyard with her mother and small child. She says the improvements haven’t fixed all of the problems. 

“There are a lot of squatters,” she says, pointing to one of the buildings. “Things aren’t great at the moment.”

Source: Bloomberg