I’m a bit late in posting this, but in case you missed it, it’s worth reading. Tom Barrack, Chairman of Colony Capital caused a bit of a stir last week when he called the real estate market “tired and boring.” In his latest “Chairman’s Corner” newsletter he clarifies what he meant and writes a great update on the current state of the commercial real estate market. Here are some of the highlights, but I recommend you read the entire newsletter yourself.
- His tired and boring comment was intended to “properly align expectations with reality – something we do not do often enough in the global investment world.”
- US commercial real estate fundamentals are still poor and recovering slowly, if at all. This is of course a generalization; however, with soaring deficits, weak GDP growth, massive unemployment and continuing corporate contraction of G&A, it could be no other way.
- According to Moody’s All Property Real Estate Index, US values are still off 40% from their peak in late 2007
- Zero interest rates and the regulatory relaxation of mark to market requirements for banks has all but abated the flow of troubled commercial debt to be recycled through the system. Rather than a tsunami, it has been a knee-high wave.
- Capex has been scarce in many projects since 2007 and the amount of deferred capex in most property types is significant. Thus cash flow for leasing commissions, tenant improvements, key money and deferred maintenance is nowhere to be found in a still opaque and weak new real estate lending environment.
- The disposition of distressed commercial mortgages has not happened at a scalable level as a result of relaxed mark-to-market regulations.
- Many funds have been frustrated by the lack of product at what they believe to be attractive discount pricing. As a result, there are very few market clearing transactions for non-strategic, long-term buyers.
- Many owners realize their equity value is gone but in many cases, due to historically low floating interest rates, can still make debt service if the term of the loan is extended.
- Commercial banks feel no pressure to mark the loans to market value because the regulatory requirements have provided a relaxation of LTV mark-to-market tests if sufficient debt service is still available (He provides a great example detailing exactly how this works).
- Real estate equity is moving slowly because a substantial disparity between most buyers and sellers still exists.
- With the cost of their liabilities near zero, banks have been earning money in recent quarters and reserves are building.
- In an environment where the government continues to print money and create massive accumulating deficits, inflation will surely return at some point. However, the deleveraging cycle in real estate must first run its course.
- The only non-printable currency is hard assets and over time hard assets will carry the day.
- In summary, solid risk-adjusted returns will be made by true real estate professionals with the tools and the
teams to plow and hoe. - This business is about showing up, doing a good job, harvesting reasonable returns for investors, and waiting for the repricing moment.
- It is an era of what real estate is supposed to be – singles and doubles. Home runs will be few and far between.
- Thankfully, the business has finally returned to the real real estate business.
What do you think?
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