Sign up for our "Real Estate Investment Trends Newsletter" for monthly market insights and to gain early access to our next investment opportunity.
I've been in the real estate business for three decades now. I got my start coming out of college in New York City, big money center bank, and I was a lender to real estate developers and saw that the other side of the table looked a lot more exciting than the lender side of the table. And so, I moved to Los Angeles in the late eighties to go to business school. I met my bride there. It's probably the best thing that came out of business school. But, also be became a real estate investor at that time and it really started in '89 when I started a business, a property management business with a college friend. We convinced his folks to let us take over and manage the family's real estate holdings here in Los Angeles, which were essentially all the Class B, C apartments, all run-down. A little astonishing that they would do that because we were complete rookies at the time, in our mid twenties. But we learned as we went along and we renovated and repositioned each property and we upgraded the units and we increased cash flow. And it's been an ATM machine, for that family, ever since. And my friend, Brent, continues to manage that portfolio for the family. I wanted to really forge a business as an investor, and so I partnered with Jim Worms, back in 1995, and started Paladin Realty. And Jim had been a veteran of two large global real estate firms, Salomon Brothers and Eastdil.
And, we've built Paladin over the last 30 years into a pretty sizable business. We're an SEC registered investment advisor. We're an institutional fund manager, but we focus mainly on workforce housing, all across the Americas. And our first investor was Bill Simon, the former Treasury Secretary and he made a fortune as a pioneer in the leveraged buyout business. And he was our very first investor and we've now grown it to a client base of hundreds of institutional and family office investors. We've invested in over 6 billion of real estate in eight countries. We have five regional offices, 30 employees. So, it's a pretty big business. It's been fun to grow, with Jim over the years. I learned the real estate cycle there. I came into the bank in 1986, which was really, a peak of the market. And, the team that I was working on, was focused on the high-net-worth real estate developers. And, more than one transaction - we were doing loans that were over 100% of costs. So, if it cost you $100 million to develop an office building, and you had an appraisal that, when it's leased up, it'd be worth $150 million, we would loan $120 million on that. And, more than one transaction was that way. And so it was quite an education because my job was to come up with the analysis on how it was going to get repaid.
And it seemed to be very dependent upon some vision in the future and not on cash flow today. And so, when I came out to business school, I had aspirations, well, I can do that too. And by the time I was in business school and launching my real estate career, the S&L crisis had completely pulled the plug on the abundant availability of debt capital. But it was really helpful to get an education on just how capital flows, whether it's equity driven or debt driven, affect the fundamentals of real estate. And, that was a lesson that Jim Worms had brought from leading the investment banking group at Salomon Brothers and also at Eastdil. And so, as we were growing Paladin together, over the last 30 years, we really tried to focus on sectors that that weren't as vulnerable to capital flows, in fact, which had barriers to entry, for one reason or another, for institutional capital. We don't like competition, and that's why we've ended up focusing in the sectors in Latin America and also here in the United States that are are less competitive, from an institutional capital perspective. Oftentimes those, and particularly development deals, it's all based on an optimistic scenario of continued rent growth and economic growth. And as you know, real estate is so dependent on employment trends, on economic growth. Obviously, supply side factors as well. And, a lot of those deals ended up not performing well at all, for the bank.
One of the lessons we learned, as we grew our business at Paladin, and we were joint venturing with - we act like we're an operator in many of our sectors, but we were also providing joint venture equity to third party operators. Having skin in the game - having a sponsor, who has real skin in the game is critical. And, none of the developers that we were financing, when I was at bank, really had skin in the game. Even that doesn't work because a lot of real estate developers have lost a lot of their own money. So, skin in the game alone won't work. And to really understand the cyclical nature of real estate and how different markets and different sectors will weather, how resilient they are during market cycles, that's something I was way too green, in the eighties to understand that. Most lenders should be relatively risk averse. That's why you're a lender. That's why you shouldn't be lending 100% of the construction. And we were lending 120% of the construction, at that time. So, it was a time where, I think, relatively early in a 30-year wave of liquidity that was fueling all kinds of business opportunities, not the least of which was real estate. And, you know, you would have thought we would have learned our lesson after that. But those conditions of easy money, very - not too long after, from the nineties arrived in the early 2000s and brought us the global financial crisis that was a completely debt driven, lack of any kind of common sense credit underwriting phenomena.
We were pursuing a strategy in the late nineties developing creative office up in an area of San Francisco called South of Market or SoMa. And, we were among the first investors and developers in that market. And, we had brought in one of our institutional partners, a major pension fund, for $100 million commitment. And we spent about half of that, and asset prices, in less than a year doubled, in that market. And, we just couldn't underwrite, with a straight face, the kinds of returns. So we had, another $50 Million of dry powder and we went to that investor and said, we can't. The party is over. We cannot find good deals anymore. Let's focus on the four that we've done. And we gave them back their unfunded commitment of $50 Million. It was probably the first time, that that particular head of real estate had ever had anything like that happen. And it's one of the reasons they've been, I think, a trusted and valued partner of us, in our business ever since. A longtime resident of Los Angeles had been investing in apartments privately, the core business was in medicine, not in real estate. And the father and the mother had been investing, buying apartment buildings, for a couple of decades, in lieu of putting money in the stock market for a variety of reasons.
And, by the time that Brent and I ended up here in Los Angeles together, in the late eighties, and both of us were aspiring real estate investors, we persuaded them to let us take over the management of these assets because it was clear that they were not performing as well as they could. They were run-down. We showed the parents that current rents were well below market and we gave them a business plan of upgrading properties and really creating more of a durable cash flow stream. And it worked. We spent five years, one by one, renovating each one of those properties, upgrading the tenant bases, really modernizing the properties, dealing with all the deferred maintenance. And it has been an ATM machine for the family ever since. But again, it was astonishing that they would let - we didn't have control. We reported to them on a weekly basis but still handing over the reins on day-to-day execution to two 20-somethings who really knew very little about real estate at the time, was a leap of faith, if you will. But it was a great education. I mean, this was before websites existed. And so, we had these things called beepers. Half the audience looking at this, wouldn't even know what a beeper is.
But, I had one, when my wife was pregnant, 30 years ago with our first child. But, the beeper is what all of our residents had. So, if you're a tenant in one of our buildings and you had a leaky toilet at 2 a.m., you would call the number on the beeper. And Brent and I would swap beeper duty on a weekly basis. I had it one week. He had it the next week and go back and forth. I got plenty of beeper calls at 2 a.m. and I'd either have to arrange for one of our maintenance people to go over and address the situation. if I couldn't get a hold of them, I went over. So it was a great education in what, in just the day-to-day operations of - there's probably nothing more management intensive than residential real estate. And, we got a lot of dirt under our fingers. We learned everything that can go right and go wrong when it comes to structuring leases and relationships with tenants and so forth. It was just an incredibly valuable education.
We formed Paladin in partnership with the family office of William Simon, who was Treasury Secretary back in the seventy's. He was a leverage buyout pioneer in the eighties. So, we managed the family's existing holdings with an agreement that we would redeploy it in a more - a real estate strategy with more of a vision behind it. And, the first deals that we did were buying existing older apartment buildings across the US and renovating them and increasing value-added apartment investments, which is exactly what I was doing with the other family office that I had opened up, formed a property management business around in 1989. Actually, we were looking at buying opportunities from S&L. So, we were seeing growing portfolios of REO or properties that have been foreclosed. And so, we were eyeing those for acquisition opportunities. The biggest lesson learned, and it was a carryover from my days working in New York at the bank is, you know, is conservative capital deal capitalization in the long-run works best. That's a lesson that Jim and I have taken to palate over the last 30 years. We always start, whenever we are looking at a new deal, we don't look at - I don't want to hear about what the debt structure is. I want to know what is the asset currently generating, unleveraged, and where are we going to take it and how much is it going to take to get there? So, it has to be a deal that pencils attractively on an unleveraged basis. We always do that. And then we decide what is the appropriate amount of debt financing to put on it, always with an eye that, in all likelihood, that investment is going to go through some market disruption. There's going to be some event unforeseen, whether it's a recession or an earthquake or something, that we don't want to be overleveraged because all it does - I mean, in good times, it's great.
Leverage amplifies good news and bad news quite significantly. We would much rather - we've always described that our business at Paladin is a little boring because we're not swinging for the fences looking for home runs. We're really trying to hit steady single and doubles on everything that we do. But we want strategies where, when the market does turn, in an unforeseen manner, our capital is preserved. Preservation of invested equity is probably the single most important consideration that's on our mind. And that wasn't on anybody's mind, back in the late eighties and early 1990's. Wasn't on anybody's mind. Nor was it on anybody's mind in the early 2000's. If somebody offered you 120% financing, would you take it? And most developers would say yes. And I would probably even say yes to something like that. But, I'd be very careful about putting - we stress test. We try to run each of our investments through a simulated market cycle to try to determine, okay, if cap rates, if interest rates start going up, as they've been doing over the course of the first half of this year, that's going to have an effect on cap rates, in most markets. It's inevitable. Even in a market, like Los Angeles, where there are supply/constraint issues that caused cap rates to be a little bit more sticky and resilient compared to a market like Phoenix or Dallas or Atlanta, which are our beautifully cyclical markets.
It's all about market timing there. We try to make sure that the investments that we make are going to be able to weather that storm. If rents drop, for example, by 10% in a recession, which has been the last two market cycles here in Los Angeles, both of which were dramatic. Pandemic, and the global financial crisis of 2008 to 2010. Rents in the class A, B space here, went down about 10% in each of those downturns. They came roaring back, within a year or two, afterward. So rents, in 2020 across Class B, in multifamily here in LA, were down about 10%. Last year, came roaring back by about 15%. And this year, partly fueled by inflationary trends, is up close to 10% as well. So, we want to make sure that if rents dip, that we're going to be able to pay our mortgage - that we're going to be able to still fund the renovation plans that we have, meet the other capital obligations that we have.
We did it because we have, at our peak had, about a billion and a half of assets under management. The bulk of our capital is from pension funds, endowments, foundations, institutional investors, as well as family offices. It wasn't particularly a requirement but we felt it was best practices to be a registered investment advisor. We were already executing our business with a - we're big on corporate values at Paladin, and probably the most paramount one is integrity. Do the right thing, particularly for our investors. And, that's the essence of what being an RIA is, you are obligating yourself to a certain type of fiduciary duty and a scrutiny by regulators that your policies and the decisions you're making and the communications and so forth that are supporting that. So we just felt it was the right thing to do. It's the way we were running our business anyhow. Gave greater comfort to all of our institutional clients that Paladin was best in class in the way it was running its business.
There's a lot of them. I think that - do the right thing is the - I have. My kids will tell you. The Gortner family values are essentially the corporate family values. So, we have a little plaque on top of our stove, listing the various different corporate family values. Integrity and do the right thing is at the top. Perseverance is the second. Keep moving forward. Businesses, especially the real estate investment business, is so dynamic. I like it. A lot of people are frustrated by it. We get thrown curveballs, on all fronts, all the time. And if you're not thinking about where interest rates are going, where the economy is going, how does this new president in Brazil affect our business or not? What are the myriad of factors that can affect the fundamentals of a particular strategy you're doing. The dynamic nature of building and growing a business.
It's grown more dynamic over the last 10 to 20 years, compared to where it was back in the eighties. Things seem to move a little more slowly back then. Not now. It's too much information available. There's too much capital out there, looking to take advantage of friction in the markets, looking to take advantage of arbitrage opportunities, looking to step in, seeing our success in certain areas and moving in and trying to capitalize on that. So, keep moving forward amidst all of those circumstances that could go wrong is important. We just closed, last week, on a three property portfolio that we had tied up in escrow for seven months and we had two different lenders blow up on us, as a result of what's going on in the debt markets right now, as a result mainly of the war, but also rising interest rates and economic uncertainty. And, we had to recapitalize it with two different institutional equity partners. And, each one of those events where a lender blows up or an institutional partner says, I got to step out. We had a sense - we're pretty good at seeing red flags and warning lights.
And so, we always try to have a little backup plan. And fortunately we had those and we were able to put those in place and we ultimately got this deal closed. We had a very accommodating seller who I happen to know, which is rare, in this particular business, because we tend to buy from relatively unsophisticated mom and pop owners. But, this is a situation where I happen to know who the seller was so there was a level of trust there and that mattered. You know, focus is important I think. It's a corporate value that - we try not to be all things to all investors. We really do try to focus on strategies where the market opportunity is unique, where there are barriers to entry, where our particular skills lead to better execution - a particular competitive advantage. We've found that workforce housing that has strong demographic underpinnings, in supply constrained markets, where there's barriers to entry for institutional capital, those generally are good ingredients for superior returns. Part of the reason for the barriers to entry in the markets where we've been most successful is because the deals size tends to be smaller than institutions would prefer. And so it's very management intensive. So if you want to build a billion dollar portfolio, if you're doing it at Paladin, that's hundreds of assets. If you're doing it at Blackstone, it might be ten assets.
So, we like that. I don't want to compete with Blackstone. I want to be a competitive complement, actually, in a portfolio where - many of our investors invest in Blackstone, but they invest with us because Blackstone gets them to a place that nobody else can, as do we. And when you combine them together, it actually provides nice diversification and a complement for a portfolio. The same way that I ended up persuading my wife to marry me, after several months of polite persistence. We were not proactively looking. Normally, we are, kind of, a combination of top down and bottoms up. Research-driven, but also opportunistic-driven in how we develop a business strategy and a sector that we want to focus resources on here, at Paladin. It was 1997 and a friend of mine brought me an opportunity in Costa Rica and we had been looking at master plan communities, here in the United States, very familiar with - had made a few investments, quite successfully. And the project level economics of this opportunity in Costa Rica were off the charts. I told my partner Jim, there's this great deal in Costa Rica. I think we should look at it. Jim said "no", two or three times, all appropriately. Fred, Why? What are you talking about? We have a great business here, in the United States. Why would we want to go abroad? I finally brought the developer in the room, told Jim to come in for a quick meet and greet.
Didn't tell him who they were. Shut the door, said, Sit down, just give me 10 minutes on this. And long story short, Jim flew down to Costa Rica that weekend. Was as excited about that opportunity as I had been. Came back. We had Bill Simon senior, former Treasury Secretary, was the chairman of our investment committee at the time. He harbored some pretty appropriately negative biases on the region, because of his Treasury Secretary days. Latin America didn't have the kind of stability and opportunity that it has today, back in the seventies. And so, Bill said, all right guys, you get this one. Because we were so excited about it, we said, look, all the money we're putting into our deals this year, we'll put it in this one deal. That's how strongly we feel about it. He said, fine, and we did it. It's ended up being a very profitable investment for us. It's called the Los Sueños Resort & Marina. It's on the west coast of Costa Rica, that we still own. But it opened our eyes up to the region, Adam, we ended up quickly focusing on more of the demand-driven opportunity in primary housing and building affordable housing for the local populations and the project-level economics that we can achieve down there are off the charts. Profit margins that are north of 20. We can target mid 20 IRRs with debt that averages in the 30% to 40% range on total development cost.
There are a million and a half new households being formed every year in Brazil. And I think the the maximum number of new housing units is a fraction of that, maybe 300,000. So, housing deficits in the millions that are growing because the capital markets are so inefficient and the barriers to entry for firms like us are so management intensive. They're not high, they're just management intensive. And so, none of the larger funds like the Blackstones want to spend any time building housing, down there. So, it's a great market for us. There's very little competition in what we're doing. And, we've built, I think about 40,000. We're the largest pan regional home builder in Latin America, over the last 20 years. Over 40,000 units in Brazil and Mexico, Colombia, Peru and elsewhere.
To me, it's low and middle income housing and it is, in the case of a rental property, it is a renter by necessity rather than a renter by choice. It's somebody who cannot afford to buy the median-priced home in Los Angeles County. That's about 80% of the market. This is one of the most difficult markets in the country, to afford from a home buyer and that was before interest rates went up by 150 to 200 basis points. Every 100 or so basis point, rise in interest rates, hits your - the value proposition, if you're a home buyer, by a good 10%. And so, it is somebody who is a blue collar or a mid-level manager, school teacher or a white collar kind of worker, but somebody who really is a renter by necessity.
It varies from market to market. In LA, the affordable rental housing here was built out right after World War Two. If you drive around Los Angeles, you see a sea of two-storey, low-density, courtyard style, walkup apartment buildings that were built in the fifties, sixties and seventies. And the other thing that you see here is that, they're smaller assets. I think 85%, 90% of the rental housing stock here in Los Angeles is 50 units or less. A fraction of the size of the typical apartment building that you would have in almost any other major US market, like an Atlanta or a Dallas or a Phoenix. And so therein lies the opportunity. There's very little institutional ownership of the assets here in Los Angeles. Instead, it's dominated by a huge pool of just mom and pop owners, smaller families. Most don't realize that what they own is underperforming market. Most are intimidated by rent control and don't see it as an opportunity. They see it as a regulatory nightmare. Most don't have the knowledge or the resources or the desire to want to invest in the properties.
In fact, the typical owner here in Los Angeles, who's had an asset for 30 or 40 years. Oftentimes it's debt free. The mortgage has been paid off. They want to keep CapEx, capital improvements as low as possible. They want to keep unit turnover as low as possible. And that's actually a very rational way for - if they want to run it like an ATM machine and not have any cash flow disrupted. But it creates a great opportunity for a firm like Paladin who knows how to actually run properties better and increase cash flow. So there's just thousands of these tired, rundown properties all over L.A. And, the typical loss to lease, which is the difference between market rents and current rents, is 20 to 30% or more. Rent control actually contributes to that loss To lease. It keeps the current rents artificially down. We have yet to buy a building that has a RUBS program, which is a way that you pass through utilities cost to tenants. It's the first thing you learn in apartment property management is to put in place a ratio utility billing system. We have yet to buy an asset in LA that has one of those. It's just another indication of disinterested and unsophisticated management. So, that's one of the reasons we really have decided to just be a sharpshooter in this market. We've invested all over the US, in this strategy. And, we've seen how different markets respond and all of the other markets are - this is a competitive market. Not to say that Los Angeles isn't competitive.
But there's very few institutional players here. And so, who are we competing against? We're competing against mom and pops. And so, when a broker - and we have a reputation for protecting brokers. We have a reputation for closing on transactions when we tie them up. So, back to the integrity issue. We do not re-trade. We value our reputation and our brand. We've earned that over a 30-year period. And so when, you know, we don't do options. If a buying opportunity turns into two dozen people looking at it, we say, here's our price and we move on because we can't compete with somebody who has a time deadline to plunk down money for us to achieve a tax free exchange. But if a seller wants certainty of closing, at a fair price, we are one of the strongest buyers in the marketplace here because of our credentials and the scale of our track record and our institutional credibility.
When you do assemble, develop the land and build something, even if you're targeting a workforce tenant, and so you're building affordable housing. The last estimate I saw was over $750,000 a unit. So you have to build high density, five storeys or more, at great cost. Whereas, we're all in at half of that. And so our rents are all in. Half of where the Class A space is. And so, when a market goes through a cycle, which it is going through right now, we tend to see occupancy go up in the class, in the workforce space, the renter by necessity space, the Class B, class C assets, because that's the affordable housing. People can't afford to live in class A units anymore. And so they're not going to pay for free wi-fi, all kinds of amenities and so forth that you might have in a brand spanking new building. They'd rather live in - we offer great value in that kind of market. We see relatively slight adjustments in our rents in downturns relative to what the Class A space goes through.
First of all, I like to have pride in what I do. As I'm thinking about that Sinai Desert example. And I think one of the things that give Jim and me, and the whole team here at Paladin, a lot of pride, is the fact that, we have developed 40,000 affordable, badly needed, affordable housing units down in Latin America. And the last dozen projects that we've done are zero carbon footprint. And so, there's just a lot of feel good about what we do. And when I look around at some of the projects that we've renovated here in Los Angeles, we had two thirds of one building, existing tenants, voluntarily move into an upgraded unit and pay - we gave them incentives to do it. We don't really want to evict people. What we want to do is provide a nicer yet still affordable place for them to live. And one of the fallacies of folks who often look at workforce housing, particularly if it's an immigrant tenant base, the fallacy is thinking, Oh, they want to live in the cheapest place possible. No. They want to live in the best place and the safest place because they have families too. So, there's a lot of pride, frankly, in what we're doing here and we always underwrite to make sure that our pro forma rents are within reach of the median household income of that community. We don't want to be out of reach of that.
I think that there's a way to accommodate both in a manner that doesn't create a conflict. That's super important to us. We do not like and believe in conflicts of interest. We don't want one Paladin fund to buy from another. It's just one of the reasons - it was very easy for us to become an RIA, because I think those things are no-nos for registered investment advisors. Although there are some options and we always try to deliver what our investors are looking for, first and foremost. And historically, we've done $800 million of value-added apartments, over the last 30 years, 90 investments, over 15,000 units. The vast majority of our investors want us to harvest, once value has been created. So we typically take 2 to 3 years to upgrade a property. And there's a typical, kind of, process that we go through to improve the operations and correct the physical deficiencies and really optimize the operating performance in the market potential of a property. And after - I think on average, we've held for, somewhere in the 3 to 4 year range, even though we might underwrite to five years. Some of our investors are increasingly asking us to - don't want us to return the capital and would rather have us refinance and then clip coupons because they recognize because, many of them are cash-flow oriented, but they recognize the inflation hedge protection that real estate in general, but in particular this little sector of real estate provides. So, we may end up finding - having different buckets of capital with different objectives. More of a value-add, IRR driven, total return driven, 3 to 5 year hold, bucket of capital, and then a longer term hold, not indefinitely, but maybe a 7 to 10 year hold where there might be a value pop. But once, rather than sell, we refinance a property and turn it into an attractive annuity until we ultimately sell it. I think we'll end up actually, with both types of investors because we've been having ongoing conversations and our investor base is kind of bifurcating into those two interests and we try - there's opportunity for both and we'd like to accommodate both if we can.
Well, you know, there's the headlines that you have to read through. So if you get Elon, a billionaire wants to take his business to Texas to save taxes or whatever, fine. Go ahead. But if you're starting up a new company, particularly in the tech center, you're going to go to the Bay Area, even LA. now. Silicon Beach area is similarly attractive. But California is the place to go. We build, what, 20,000 housing units in a city this big. We're not coming anywhere close to the demand that's needed, even if there's no population growth. Obsolescence creates the need for additional housing units, and we're not needing that. So, you know, all the folks who are predicting the doom of California, we've been doing it for 20 years. We've been the most overtaxed, most over-regulated state in the country and we keep rising up in terms of our economic performance. Part of it is, it's a beautiful, as you know, it's one of those most beautiful places in the world to live. Even with traffic and some of the other things that detract. There's a reason that so many people are living here. Part of it is economics, and part of it is lifestyle.
Let me start macro and then I'll drill in. So we're coming up on the 30th anniversary of the firm. We've done to date about $6 billion of real estate investments in eight countries. Just under $5 billion of that is in Latin America. Vast majority of that is focused on for sale, affordable, low and middle income housing. We've developed about 40,000 housing units in seven countries down there with great success. It's just a huge, demographic-driven opportunity that withstands the election of questionable presidents. So it's a very politically resilient strategy as well. Because one thing that the countries do well down there, they recognize that housing is so key to economic development, and it is here. House ownership. That's the single most important investment that most families can make and the single most important legacy that you can leave to your children, is the home that you live in. So, here in the States, we've done just under a billion in apartments. Which has by far been our most successful strategy. We've made 90 value-added apartment investments, all across the US. Half of those were in prime institutional markets like Atlanta and Dallas and Austin and Phoenix and elsewhere. And the other half were here in Southern California. The Southern California portfolio has been among our best performing assets. We've round tripped 83 of those 90 investments. We've generated mid 20 IRRs net to our investors. In SoCal, we're among the best investments here. Knock on wood, never lost money in Southern California.
So it's been one of the most successful and resilient strategies for us, here in the States. Just under 15,300 units. Most of the 6 billion has been backed by institutional capital. And I have two institutional investors and are the last three properties that we've acquired. But I think that this strategy, particularly the downside protection aspect of it, appeals more to a high-net-worth than to an individual investor than an institutional investor. Even the institutional investors will tell you, they're keen on downside protection. I don't think - it's not really their money and they're not really compensated because if the market goes down and everybody goes down, they're not going to get penalized. Nobody's bigger than the market. But, if it's your own capital, if this is your retirement that you're putting into it as an individual, you place a lot more value on that. And because of the fact that Jim and I and the other partners here at Paladin, we have to put our money where our mouth is. The lion's share of our net worth is alongside our investors in every one of our strategies. I can't afford to lose that. I want to be able to send my kids to college and I want to be able to leave, have some, at least choice, to retire. I doubt that I ever will or will be able to or will want to because I'm having too much fun, as as Jim is.