Uncertainty continues as we head through the ‘slog’
The Jan. 4 Wall Street Journal reported under the headline, “Real Estate Faces a Tough Slog to Recovery,” that 2010 is going to be an endurance contest for all practitioners of commercial real estate. To quote a few highlights:“The past year’s progress in the housing market has relied on government programs that are scheduled to be phased out. The commercial real estate market is faced with huge amounts of unoccupied space and a deluge of defaults and foreclosures that are putting new stresses on banks and other financial institutions. … The outlook for 2010 is uncertain at best. The underpinnings of the positive trends are fragile. Prices could fall by 15 to 20 percent if interest rates rise too quickly or too much.”In fact, prices have fallen 29 percent since their peak in July 2006. One key ingredient of the current situation is the inflated prices of the financed properties. Commercial property values escalated dramatically from 1996 through 2006-2007. Like the housing bubble, commercial real estate values were driven by cheap debt, and lots of it. So there are between $680 billion and $1.4 trillion of commercial mortgages that will either reset or roll over and need to be refinanced.Alas, the appraised value of these properties has and continues to decline. As Isaac Newton said (or was it Yogi Berra?), what goes up, will come down. If demand were stronger, then rents might stabilize and income could be allocated to cover the debt. But for many commercial properties, one or more of the key elements is weak, resulting in a gap.Unlike more recent recessions, when we had short “V”-type recessions, this Great Recession is ongoing, and while technically it may be over, we are not seeing measurable improvement across the economy. The huge stimulus, TARP and other bailout monies have extended the game to extra innings — how many, no one can say.Without a clear picture, there is inherent risk lurking. This concern puts a damper on things and softens the growth prospects ahead. So 2010 could be a more subdued version of 2009. A marathon Marc Louargand wrote in the fall edition of the Royal Institute of Chartered Surveyors’ Property World, an economic overview article, “Are we there yet?” The main takeaway was that it could take as many as five years to regain the jobs lost today. In fact, perusing financial back office space in and around Manhattan last week, a number of the local brokers questioned whether these jobs would ever come back. I came away thinking that is an excellent question.The world is not going to end. The sky is not falling. But there is a huge level of uncertainty. The short-term concerns are when we will come out of the recession. But right on top of that are some biggies:• Will health-care costs overwhelm us?• Will unemployment subside to 2000 levels or remain high?• Is inflation or deflation on the horizon?• Will deficits and unsustainable entitlements sink us?• Is political bipartisanship dead?• Can we afford two wars on terror at once?If inflation is in our near-term future question, then hard assets like real estate are good to own. If deflation and/or stagflation are ahead of us, then real estate is less appealing. The buzz phrase among Counselors of Real Estate these days is, “To get to heaven, survive till ’11”. The big picture should start to come into clearer focus later this year. Until then, just keep doing what you are doing. Commercial real estate is a marathon, not a sprint.Bill Norton, president of Norton Asset Management, is a Counselor of Real Estate (CRE) and a Fellow of the Royal Institution of Chartered Surveyors (FRICS). He can be reached at firstname.lastname@example.org.