Trend: Commercial real estate, both retail and office space, have been hit hard by the financial crisis and the decline continues.
The ProShares UltraShort Real Estate (SRS) ETF can be used for short-term trading if you are confident that commercial real estate is headed lower.
Link: Mish's Global Economic Trend Analysis: Commercial Real Estate Time Bomb Goes Off But No One Notices.
America's love affair with the mall is not coming back. Boomers headed into retirement dependent on the real estate bubble have now taken a massive hit on both their houses and their stock portfolios. Neither is coming back soon. Retirement plans will be scaled back to include less travel, fewer toys (boats and cars), and less shopping in general. Moreover, a new wave of frugality has hit the children of boomers.
And so a tsunami of commercial real estate bankruptcies is just offshore, fueled by a change in consumer attitudes. Few have bothered to take note. Complacency in commercial real estate is not justified nor will it be rewarded.
Link: Ten Reasons Commercial Real Estate Won't Rebound - Minyanville.com
1. In prime office markets, closings for trophy properties are being done at 7.5-8.5 cap rates; anything other than “trophy” quality is above 9.0 caps. Against a backdrop of halcyon-era deals, which happened at nominal 3-4 caps (in reality cap rates were at zero since under normalized financing terms there would have been no cash flows), and leveraged 75% plus, this means that many properties have now lost approximately 50% of their value.
2. “CRE fundamentals will continue to worsen for the next 12-18 months; cap rates will rise another 3 to 5 points, to the low teens; secured financing costs will rise to the 8-10% range; unsecured financing will command double digit rates." (Goldman Sachs).
3. Because of the number of projects yet to be delivered in the next 6-18 months, absorption rates even in the best markets are likely to be negative for at least the next 18-24 months, putting pressure on rents.
4. To further depress prices, smaller landlords are finding “tenant improvement/leasing commission” too costly relative to falling rents. This means 1 of 2 things: defaults by those landlords, or investments to finance the TI’s and LC’s in exchange for very large chunks of equity. Incidentally, in selected areas/projects, we think this structure can create significant investment opportunities.
5. Goldman forecasts Funds From Operations (FFO) “growth” for their REITs coverage to be negative 20% this year and negative 9% next year. I'll add that beyond that, going into 2012-2013 and the teeth of the refinancing crunch, it's not unreasonable that there won’t be FFO growth, or distributable cash for years to come, rendering all investments in the last 3-5 years as worthless from a ROIC standpoint, or flat out losses.
6. Conversely, insurance companies and other institutional lenders that have kept their noses clean and have cash available for lending may find very attractive long-term opportunities.
7. The Goldman research note calls for 20-30% down year for REIT stocks. As a point of reference, the iShares DJ Real Estate (IYR) closed Friday at $32.38, down approximately 13% YTD.
8. Until the REITs can rebuild equity and their portfolios with properties that have positive ROIC using historical levels and costs of debt, the entire REIT class is likely to be dead money, and this process could take many many years.
9. And if anyone thinks that extending the TALF program to CRE financing is a solution to the REITs’ problems, careful what you wish for: REITs exist to generate fees for the REITs; the returns to investors are an unpleasant side effect of having to tap capital so that the REITs can generate their fees. Put the REITs' managements under the same scrutiny as banks and investment firms’, and the very reasons for REITs to exist will disappear.
At the same time, I’ll grant REITs this much: there's enough pork in the REITs' fees structures that if they chose to, they could prop up FFOs by slashing fees.
10. At the risk of being redundantly redundant, the ProShares Ultrashort Real Estate (SRS) remain an excellent trading vehicle to short CRE, and just as bad an investment tool to achieve that purpose. I continue to trade the former, but I've now started a short position in the IYR, looking for it to bleed slowly for an extended period of time.
So why does SRS keep tanking and REIT shares flying? If Goldman was so negative on the sector, why add SPG to conviction buy and now after going from 31 to 50 in a few weeks, replacing it with CBL?
Posted by: jo casson | April 25, 2009 at 12:50 PM
i didnt see the video why
Posted by: RealEstate | September 21, 2009 at 06:59 AM