CA - Blackstone And Brookfield: Only One Of These Is A Strong Buy

2023-10-30 20:00:00 ET

Summary

• Brookfield Asset Management and Blackstone have seen their stock prices plummet lately.
• We examine the reasons why these stocks are plunging right now and reassess their long-term outlooks.
• We also look at their individual strengths and valuations and share our view on which one is a Strong Buy at the moment and which one is not.

Brookfield Asset Management ( BAM ) (the asset management pureplay that was recently spun off from Brookfield Corporation ( BN )) and Blackstone ( BX ) are the top two alternative asset managers, with nearly $2 trillion in assets under management between them. However, both have seen their stock prices plummet in recent weeks:

In this article, we will take a closer look to see if either stock is worth buying on the dip and explain why we think that only BAM is a Strong Buy right now.

Why Are BAM Stock and BX Stock Crashing?

Both BAM (when including the pre-spin performance of the original BAM) and BX have delivered very attractive long-term total returns for shareholders that have significantly outperformed the broader market.

However, both have crashed recently due to the rapid rise in long-term interest rates in recent months. The reason for this is that alternative asset managers - which handle investments in non-traditional assets like private equity, real estate, and hedge funds - are negatively impacted by rising interest rates for the following reasons:

1. Cost of Financing : As long-term interest rates rise, the cost of borrowing increases, squeezing profit margins and potentially reducing the attractiveness of certain alternative investment opportunities.

2. Valuation Impact : Rising long-term interest rates can lead to a revaluation of alternative assets, especially assets like utilities and real estate which are commonly viewed as bond substitutes. Furthermore, the present value of future cash flows from an investment is discounted at a higher rate when interest rates rise, leading to lower valuations for virtually all businesses.

3. Slower AUM Growth : Higher interest rates can make traditional investments, like bonds, more attractive relative to riskier alternative assets. As a result, investors might redirect capital to these traditional assets, leading to capital outflows from the alternative space or at the very least providing a strong headwind to fundraising.

4. Economic Slowdown : Rising long-term rates often weaken economic growth, which can in turn negatively impact the performance of various alternative assets, particularly those sensitive to economic cycles.

Why Both BAM and BX Have A Bright Long-Term Future

That being said, we remain bullish on both BX and BAM over the long term for the following reasons:

1. Strong Appeal of Alternative Assets: Alternative assets offer low correlation with traditional markets, act as effective inflation hedges, and provide consistent passive income, attracting institutional investors who are looking for ways to diversify their portfolios and generate more stable returns than what stocks typically provide.

2. Ownership of High-Quality Assets: BX and BAM own mostly high-quality and in some cases even world-class assets across the alternative asset spectrum, positioning their businesses for long-term, durable success across market cycles.

3. Diversified Business Models: Their diversified business models across numerous segments within alternative assets and geographies give them multiple avenues for growth and product innovation.

4. Powerful Brand and Network: Both companies have strong global brands and expansive relationship networks, making fundraising and client retention much easier.

5. Strong Long-Term Demand Tailwinds: Regulatory initiatives, including carbon emission reduction targets, are driving massive investments in renewable energy, positioning BAM in a particularly strong position to benefit from this trend. Moreover, the critical need to upgrade existing and build new infrastructure gives both businesses - particularly BAM - considerable growth potential here as well. Direct lending is also a booming industry right now, benefiting both BX and BAM who have considerable platforms in this business segment. Last, but not least, there is rapidly growing interest from long-term-oriented institutions like pension funds and insurance companies that are looking to increase their allocations to alternative assets, providing a huge tailwind to fundraising efforts.

Why Only BAM Stock Is A Strong Buy Right Now

With that being said, we believe that BAM is a 'Strong Buy' right now in contrast to BX which is merely a 'Buy' for several reasons:

First of all, BAM's valuation and growth profile are more robust, underpinned by its diversified asset base and a stronger growth outlook in sectors like global infrastructure, renewable energy, direct lending, and insurance. On the other hand, while BX has significant exposure to direct lending and insurance, it also has greater substantial exposure to real estate and private equity than infrastructure and renewable energy relative to BAM. Given that we are less bullish on the growth outlook for real estate and private equity than we are on the growth outlook for infrastructure and renewable energy, we think that BAM's growth outlook overall is stronger than BX's. Analysts seem to agree with our assessment, forecasting a Distributable Earnings CAGR of 12.2% through 2026 for BAM compared to a 6.1% Distributable Earnings CAGR through 2026 for BX .

Moreover, BAM has an advantage over BX in fundraising due to its extensive use of public vehicles across virtually all of its strategies in addition to private funds. For example, it leverages public vehicles like Brookfield Infrastructure Partners ( BIP )( BIPC ), Brookfield Renewable Partners ( BEP )( BEPC ), Brookfield Business Partners ( BBU )( BBUC ), and Oaktree Specialty Lending Corp ( OCSL ) along with various related preferred equity issues to raise capital efficiently and opportunistically from public markets. This flexibility amplifies its ability to capitalize on emerging opportunities and deploy capital in high-growth areas.

In contrast, BX is mainly confined to private vehicles, with its public vehicle exposure largely limited to its direct lending segment through Blackstone Secured Lending Fund ( BXSL ) and commercial real estate mortgage lending through Blackstone Mortgage Trust ( BXMT ).

Third, BAM's earnings exhibit less volatility compared to BX's. While BX recently reported Q3 2023 earnings that missed expectations by a significant margin due to a slowdown in fundraising and poor performance fees, BAM's earnings outlook is a bit better. This is because BAM has a higher percentage of its earnings stream stemming from management fees rather than performance-related earnings. Given that we are in a rising interest rate and slowing economic growth environment, we expect managers with greater exposure to management fees compared to performance fees to outperform relative to more performance fee-heavy peers.

Finally, from a valuation standpoint, BAM's NTM dividend yield of 4.7% is on par with BX's at the moment. Given that both BAM and BX operate in a very capital-lite manner, the dividend is a pretty fair way to compare them from a valuation standpoint. Given that BAM is expected to grow at roughly twice the pace of BX in the coming years, BAM's valuation looks much more compelling by comparison.

Investor Takeaway

BAM and BX are leading alternative asset managers facing recent steep stock price drops due to rising long-term interest rates, which in turn are increasing concerns about how it may impact their long-term growth potential. However, despite near-term headwinds, both businesses have a promising long-term outlook due to their diversified business models, strong brand power, global fundraising networks and business relationships, and growing demand for alternative assets driven by the strong need for infrastructure and renewable power production as well as robust institutional investor interest in alternative assets.

That said, BAM stands out as a 'Strong Buy' compared to BX's 'Buy' rating given BAM's superior valuation and growth profile, especially in high-growth sectors like global infrastructure, renewable energy, direct lending, and insurance, compared to BX's substantial exposure to slower growth sectors like real estate and private equity. Additionally, BAM's extensive use of public vehicles for fundraising provides a strategic advantage over BX, which relies mostly on private vehicles. Finally, BAM's earnings profile is likely going to be less volatile in the coming years and will likely outperform BX's in a weaker macro environment. As a result, we are buying BAM aggressively instead of BX on the latest dip in their stock prices, though we do think that BX is beginning to look interesting as well at these prices.

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