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Will Anything Stop The Decline of CRE Prices?
From The Daily Capitalist
Fitch reported today that commercial real estate (CRE) values continue to decline giving rise to greater loan losses on CRE. On the average throughout 2009, lenders recovered 43 cents on the dollar on distressed loans. They see the loss rate only going up.
The average loss severity rate or the ratio of realized loss to liquidation balance for U.S. commercial mortgaged-backed securities (CMBS) loans resolved with losses in 2009 was 57% compared to the 43% rate in 2008, according to new data from Fitch Ratings. Those losses outpace the cumulative historical average of 37.2%.
"Loss severities are expected to remain above the current cumulative average through 2011," said Fitch managing director Mary MacNeill. "Assets liquidated in the current economic environment will be those not likely to see cash flow improvement from an extension or modification."
"Assets will take longer to resolve as special servicers continue to see high volumes of underperforming loans," added Fitch senior director Richard Carlson. "Continued high inventory and the declining frequency of modifications means there is no relief is in sight." ...
"Property value is the barometer of potential losses for CRE debt," [Xiaojing Li, senior debt analyst for CoStar Group] said. "In the first quarter of 2010, there were already $270 million in losses via liquidation. Among the $17.7 billion in loans newly added to special servicers this year, 7% have already had appraisal reductions, threatening a new wave of losses."
Losses by property type were:
* Hotel: 81.9%.
* Multifamily: 58%
* Office: 56.9%
* Industrial: 48.8% and
* Retail: 48.2%.
I am reprinting this refi timeline chart to give you a better idea of the problem:
As you can see, there is a huge problem through 2013. Which translates into fall CRE prices. This price index from Moody's in March:
There are factors that are positive and negative at work in the economy with regard to CRE.
First, lenders are in trouble. CRE is held mainly by local and regional banks. However the very large loans are held by many insurers. S&P and Moody's recently downgraded some insurers as a result of this, despite the fact the insurers had raised $32 billion in capital. Downgraded were:
NLV Financial Corp. and subsidiaries, Pacific LifeCorp and subsidiaries, and Principal Financial Group Inc. and subsidiaries. The ratings on MetLife Inc. and subsidiaries remain on CreditWatch, where they were placed on Feb. 3, 2010. Standard & Poor's affirmed its ratings on Teachers Insurance & Annuity Assoc. of America (TIAA); the outlook on TIAA remains negative.
Only New York Life Insurance Co. was upgraded - to stable from negative and its ratings affirmed. ...
Basically S&P argues that current economic conditions in commercial real estate are tantamount to a 'BBB' scenario and insurers must have fundamentals to withstand even worse economic conditions to get a higher rating. For an insurer to rate a 'AAA' financial strength rating, for example, it would have to withstand the Great Depression - not the one that just past but the one of the early 1930s.
Second, this is why regional and local banks are in trouble. See my article, "How Bad Economic Theory Caused Santa Barbara Bank & Trust To Fail
The other side of the coin is that the vultures are gathering. For example, insurers who have licked their wounds clean are ready to jump back in:
Hartford Financial Services Group Inc. Chief Executive Officer Liam McGee, who promised to reduce risk when the bailed-out insurer hired him eight months ago, is comfortable enough with his work that he’s looking for deals in the U.S. property market.
“We’re no longer on our heels when it comes to real estate,” McGee said in an interview yesterday at Bloomberg headquarters in New York. “Our bias going forward would be less about selling and more about realizing value.”
Read this as cherry-picking.
Add to that the pools of capital that local investors are putting together on the sidelines, waiting to jump in as they see values making sense. Based on my knowledge of these markets, this phenomenon is nationwide, and represents a huge pool of capital in the aggregate.
What these buyers will do is act as a backstop to the CRE market. I can't guess what that level will be, but I believe the vultures are getting impatient. I believe there is still a lot of risk in this market, but then I am very adverse to risk. Most of what I hear is anecdotal but investors are chasing yields, and in the right market with the right property that makes sense.
I just don't think we are at bottom yet. And this will continue to harm the small banks. Without the small banks recovering I believe we will continue to have problems with a lack of liquidity, a credit freeze, deflation, and a slow recovery.
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Good link, Joe. I don't see this as an either/or argument. It seems to me that both factors contributed to unsustainable consumer credit, massive over-consumption as well as lower relative income.
Mr. Reich speaks from the (waning) viewpoints of labor and the middle class. He is a smart guy whose views are to be respected even in disagreement, especially since they are vilified and discarded as "socialist drivel" by the neo-right and the elite.
Thanks Joe for sharing this link.
Socialist drivel is single payer health care, aka Obama Care. Do you think Barracky is not part of the elite?
thanks for setting the record straight there Mr...er...Mr....uh.....
Robert Reich has led the anti-Kudlow, anti-Steve Moore element of the CNBC line-up.
He seemingly has a view that is more in line with the ZH consensus than most would expect.
Another way of putting that is "we don't need nearly as many workers as are provided with near-full eployment to produce the total amount of goods that consumers are capable of buying during the best of times...and during something closer to the worst of times we need even fewer workers." In other words a smaller, modernized labor force can produce more than enough crap than we can ever buy - which means massive unemployment will be the new normal.
I've already been out doing some recon to find the best corner to hang out on all day and determined that Night Train does suit my budget and is smooooth as silk. When my employer no longer needs my services, I'll be ready.
Future is so bright I'm gonna go buy me some new shades (on credit).
Please read this drivel that was just issued by RBS SP desk:
http://www.businessweek.com/news/2010-06-10/subprime-delinquencies-see-positive-shift-rbs-says-update1-.html
And compare it to the most recent data regarding sub-prime and ARMs, CC availability and deleveraging rate.
Pure science fiction; but HE.BBB [whole debt universe] surged since Fitch issued their data regarding DR 2 days ago.
And if I'm reading the charts on legacy CMBX structured tranches [those AA and lower]; 35%-50% retracement in price of the underlying collateral is expected by Q4.
So make of that what you wish; but with deflation that is staring us in the eyes; there is only one way for CRE prices to go.
Down.
Let me think ... why would RBS say that? Wait ... could it be that they are selling this crap?
Well of course they are selling the crap which is in their loan portfolios in order to get their balance sheet [somewhat] in order.
But there is also another reason they are trying to ramp the volume in new CMBS issuances; they have actually hit their growth limit with current services they offer.
And they need to grow, or plan for future growth by feeling the pulse in a market everyone thought of as dead. Will investments into these products see 2007-2008 volumes; probably not [and that is a good thing] but with these new issuances they will manage to squeeze a couple of hundred millions [cumulative value of the sector] in fees and whatnot.
This is nothing different than when, say, a manufacturer introduces new product to diversify and enhance its revenue stream. As of 2008 CMBS [new issues], ABS, RMBS [well sans FED agency paper buying] and any other new offering of a Structured Product has effectively caved in on itself and wiped out revenue streams for banks which market them.
This is just feeling whether or not there is still a pulse in that market, and judging by the interest in JPMCC 2010-C1; there is; but investors demand more rigorous structuralization process from said banks as well as more rigorous rating valuations by the rating agencies.
I just saw your comment on RBS hiring new SP traders for ABX and CMBX indexes. While the number of people hired is not high, it indicates to me that there is demand in trading these indexes and that future volatility is perceived as high and thus all of the sudden these indexes once again are becoming viable trading tools. But most of the collateral which lies in their legacy tranches, is at best, mis-priced due to lack of rigor in the structuralization of that paper.
2009 and 2010 were two years where there was practically no volatility in ABX.HE and CMBX.HE since they started to trade with correlation to equities and disregarded signals coming from the [naturally] correlated debt markets.
When ABX.HE and CMBX indexes start to trade correlated with debt markets and the market realizes how deceiving was the correlation with the equities you will se legacy tranches crushed.
This, IMHO, is already underway since late April, beginning of May.
Add to that the pools of capital that local investors are putting together on the sidelines, waiting to jump in as they see values making sense.
Yep, the smart money is, indeed, forming pools to buy. It has to all cash and no lender anywhere in the deal. Trouble is finding a property that has truly durable cash flow.
So far, agriculture has held up. The Swiss continue to have reps investing in the American farmland.
Nice work. This sure squares with my anecdotal observations around where I live in Providence and Boston/128. Downtown Providence has several brand spankin high end new condo complexes and class A office buildings that have been largely vacant ever since opening. Drive Rt 128 around Boston and you see several large office buildings with massive For Lease banners, beneath which you can see through the windows to the vacant floors inside. Just anecdotes, I know, but clearly there's no CRE recovery in this area any time soon with so much excess capacity and so little organic demand.
Same in NE Florida. One stark warning is the two brand new retail centers that were completed over a year ago and still stand empty. Those are within 100 yards of each other.
They're a mile away from an entire plat of cleared land, utilities and roads already installed, that's been busily growing weeds, er, I mean green shoots for the past year.
We watched one furniture store move from its old location in a strip mall to a brand new stand-alone building, only to shut down completely within 3 months. That building is still empty.
When the commercial wave hits, I truly think it's going to be beyond imagining.
Portland, Or is one big "for lease / for sale" sign. Seriously, some areas are entire block after block all vacant. Vancancy rates are as much as 25% + depending on area.
Commercial realtors are scared to death and most haven't made much $ in 2yrs now.
Same around Philly, 202 corridor, 476, Pa Turnpike, I95. Direct info from high level CRE Ins.Exec. says 40-50% haircut nationwide, reworks slow.