There have been several articles published recently which are touting a commercial real estate recovery. Many are based upon recent investment grade office properties bought by institutional investors many of whom are foreign. This reporting can only be considered wishful thinking at best or a blatant disregard to the reality of the overall economic situation facing the USA and the World and its impact on commercial real estate.
For example, today Bloomberg published an article based on a report by Pricewaterhouse Coopers LLP to say the commercial real estate market will be improving due to increased sales of investment properties. This is totally absurd. There are factors that cannot be avoided which put this prediction in direct conflict with the reality of what is happening in the USA and Globally. Commercial real estate does not operate in a economic vacuum. Nor does investment sales tell the entire story of what is really going on in the commercial real estate sector.
The article refers to the MIT Center for Commercial Real Estate Statistic which shows a 19% increase in commercial prices in 2010. So how does that square with the fact that Moody’s (NYSE:MCO) just today released their report which shows commercial real estate prices have decreased for the second consecutive month?
“Commercial property prices in the U.S. dropped 1.2% in January, marking the second straight month of decreases, according to Moody’s/REAL Commercial Property Price Index. Despite the drop, prices remain 4.2% higher than Augusts’ eight-year low.” Which means prices have yet to recover beyond the amount of debt they are under for the most part.
Why would you use a small number of transactions to base your statistical results? They have no choice since real deal volume is still very low in comparative standards. There is no doubt there have been some very eye popping sales lately. This supports the fact the market by all indicators is what the Data Tracking Companies of the industry are calling a “Bifurcated” marketplace for investment sales. However, one has to take a very close look at the sales that have closed recently.
Many of the sales were bought with foreign money, so what may look like a great price here, is actually a cheap deal for the foreign investor taking into account the currency exchange. And because the Fed has helped keep the Dollar low to other currencies there is overseas demand for buying a good yield with well tenanted long term leased Class “A” properties. The only properties being traded at all are the in the Major “Gateway” cities which are leased to high credit worth companies on long term leases. In addition no one knows where the institutional investment firms are actually getting their investment dollars. The investment community is chasing yield which is not a good thing since that is one of the main factors that helped create the last bubble and this is directly due to the Federal Reserve keeping interest rates artificially low. Does this sound familiar?
CMBS delinquencies have not decreased rather they continue to increase. Banks are as fragile as ever, despite words to contrary by the Feds. “Commercial mortgage-backed securities are showing signs of recovery, but investors remain concerned about the quality of the securities. Many of the bonds are backed by shopping malls and office buildings, and the lack of diversity worries some investors. “That’s a concentration people may be concerned about because there has been no turnaround in this sector, said Darrell Wheeler, senior managing director of strategy at Amherst Securities” and further reported last week… “Moody’s: CMBS Loan Delinquencies Rise to 9.18%; The delinquency rate on loans included in commercial mortgage-backed securities (CMBS) conduit and fusion transactions increased 17 basis points in February to 9.18 percent, according to Moody’s Investors Service. Moody’s noted that while still rising, increases in CMBS delinquencies have been moderating since June 2010.
Gee that flies in the face of all the optimistic reporting going on!
The unemployment problem is still a major drag on the economy and will continue to be so. There is excitement over the fact the unemployment rate dropped to 8.9%. Sorry but that is nothing to get giddy about. The real unemployment rate is still hovering around 17% as the Government statistics don’t take into account those that have left the workforce and/or who have stopped looking for work. The retiring Baby Boomers will be left out of the employment numbers, but they will be counted in the entitlement payment obligations column. This is the Pink Elephant in the room which nobody wants to discuss never mind try and solve, and that is the unfunded pension liabilities and the Social Security entitlement obligations which are about to explode with the aging Baby Boomers.
The Federal Reserve just last week revised downward the last quarter’s GDP. Is the Federal Government gaming the numbers? You decide, but take in account after every major economic report by the government there is a subsequent revision most times downward. The rate in which the unemployment rate is dropping is not enough to impact vacancy rates, and certainly not enough to make a dent in the overall economy.
Now you have gas prices skyrocketing which is contributing to skyrocketing food prices. We all know that higher oil prices seep their way into almost every corner of the economy. Add to this the continuing fiscal irresponsibility of the Federal Government, the States and local governments slashing jobs due to their own budget woes, and you have a perfect mix for what, a recovering commercial real estate market. I don’t think so!
The retail industry had a good Christmas sales season, but it’s over and retail sales are dropping once again as people go back to their “new normal” spending habits. The ICSC (International Council of Shopping Centers) is pushing Congress to enact taxation for all states to charge sales taxes on internet purchases. This is their way of social engineering; by enacting Internet sales taxes they feel it levels the playing field and it will push people back to shopping in brick and mortar stores…That is not going to happen, and the lack of sales taxes are just a small part of the increased use of the Internet for retail purchases. Therefore if enacted there will be more money taken out of the consumer’s pockets to go towards taxes; that will really help the economy how? If you think there has not been a major paradigm shift just take a look at what has happened with Border’s and Blockbuster. The Internet taxation issue is a red herring.
Manufacturing is supposedly on the rise, the reality is this is due to a drop in inventories, and as soon as sales reflect lower demand, which they will, this sector will also slow down again. Just look at the ever increasing size of the USA trade deficit. Gas prices have much to do with that statistic, but nevertheless we aren’t producing enough.
The Federal Reserve and several of the “so called” economists, you know the ones that the media always refer to by the name “many economists” think the Fed has created what is now being called a self sustaining economic recovery. When the Federal Reserve ends its QE2, which has kept interest rates artificially low, interest rates will once again increase. Inflation is already a factor. But the Federal Reserve and the “Economists” discount this because they say if you take out the volatile Fuel and Food items inflation is relatively moderate. Well folks, how can you disregard these two of the most important ingredients of the CPI? What do people purchase most often just to live and work, right Food and Fuel?
The problem with the type of reports which are being released by such firms as Pricewaterhouse Coopers LLC is the fact they are not reflecting reality. They are providing a view of the market from a 30,000 mile distance from Earth. They are not reporting as to what is going on at the Street level of the commercial real estate industry. Investment sales are only a small part of the commercial real estate business. Leasing is one very major component which is most times discussed in passing. Vacancy rates have all to do with leasing, employment numbers and subsequently investment sales. The office vacancy rate has dropped by not even 100 basis points Nationally which coincides with the decrease in unemployment, except for maybe in a few of the major “gateway” markets such as Washington DC. But that is about to change as well. As reported by the WSJ today…” In Washington and elsewhere, government leasing has helped prop up demand in tough times. But now cash-strapped governments are moving to cut back on office space, even as commercial real estate struggles to recover. The Office of the Comptroller of …” What does this say about the commercial market? It says much more than a few high profile sales by large institutional investors.
Now add to all the above what has recently and tragically happened to Japan and the upheaval going on in the Middle East and you get more uncertainty which businesses just hate.
So how can the fundamentals be in place for a commercial real estate recovery of any sort? They aren’t in place is the short answer despite what the media, large advisory firms or large brokerage firms say otherwise. It is not in their best interest to tell it like it is.
We all would like to see the economy get back on its feet, that being said, the amount of damage done by Wall Street, The Rating Agencies, the “Too Big To Fail Banks”, along with the complicity of the Federal Government and the Federal Reserve, has created a sum total of problems which are too great to expect any sort of quick recovery. I know this recession is the longest since the end of WWII, and it will maybe take a few more years for the economy to get back to a fully functioning mode and that is a big Maybe! But to say Commercial Real Estate is on the road to recovery is completely delusional.