Op-Ed: Suite Surrender
Recovery depends on your perspective. For many real estate professionals, recovery of their bottom line will be measured not by increases in value or market rent, but rather by the velocity and volume of transactions. For the first time since Lehman’s collapse, tangible signs have emerged pointing to that return. The key word in the recovery of the transaction markets is capitulation. The dearth of transactions to date in 2009 has been the direct result of a pervasive disconnect between the holders of assets (properties, loans or vacant space) and the potential buyers/consumers for those assets.
Toward the end of summer, a subtle but critical change occurred in New York real estate circles. Prior to that point, it seemed that no major real estate owner would acknowledge publicly or privately that current property values had declined. Around Labor Day, however, that obvious fact started to slip out in private conversations. By October, the CEO of a New York–based REIT was mentioning to a large conference audience that even properties on which his company had borrowed conservatively seemed overleveraged—an implicit acknowledgement of the decline in values.
There is, of course, a further evolution required to move from the tacit acknowledgement of a current decline to the development and implementation of strategies based on a belief that current values have become the correct baseline for future activities. The former merely creates the environment for trades to increase, which would in turn create the comps that would provide the hard evidence so desperately sought throughout the industry. Nonetheless, the softening of the sell side clearly began and is continuing.
Indications of change come in various forms, and capitulation must occur on both sides. Manhattan office-leasing brokers are on pace for a record quarter, as a result of landlords dropping asking rents to levels that make prospective tenants think twice when considering further delay. Appropriately priced apartments in good buildings in both Manhattan and Brooklyn are generating solid interest, and the number of closings and new contract signings is getting more impressive by the week—at all price levels.
For loan originators, the looming end-of-quarter and end-of-year have dramatically changed attitudes with regard to both legacy assets and new business. In recent days, conversations with portfolio lending officers have shown the great paradox of the 2009 real estate finance market: Notwithstanding frequent public proclamations of the market’s disappearing liquidity, those lenders who do have funds (and there are many, with plenty) have not been able to put that money to work.
There has been far less demand for money than supply of it, and many originators are starting to fear that if this money is not put out by year’s end, 2009 will be considered a failure in an environment where it seems the originators should be overwhelmed with new business opportunities. While this will not translate into dramatically higher leverage offers, it has resulted in both a significant decrease in loan pricing and in the willingness of a few institutional lenders to make loans as large as $150 million on their own.
Fund operators face a similar quandary. In successive meetings in mid-November, the investment officers for two major real estate funds told me an identical story: They have raised enormous sums (more than $3 billion available in these two funds alone), have found virtually no attractive investments year to date and now have relatively short periods of time to put the money out. The clock is ticking in their heads—if they don’t make investments, the opportunity to earn significant fees and enormous profits will be lost. As with the loan officers, they are keeping their discipline with regard to avoiding high-risk situations, but their return thresholds and expectations appear likely to drop.
For legacy assets, some special situations groups (formerly known as workout) are now getting pressure to conclude asset dispositions by year’s end. This may be the most significant factor in getting more transactions concluded in the near term. In recent weeks, the term “end-of-quarter-driven” has entered the dialogue—a signal that pressure is gathering on institutions to reduce their number of legacy assets through dispositions rather than extensions.
Practicality and resignation are taking the place of shame or discomfort over deals gone bad. It was impossible for a lender to be a market leader in the boom years without taking significant risks, and the post-Lehman decline punished all risk-takers. While a few who forsook a leading role in the boom years can tout their I-told-you-so’s, the vast majority were swept up in the frenzy, and a steadily increasing section of the industry now seems willing to admit the faults of the past and productively move forward.
Scott A. Singer is principal of the Singer & Bassuk Organization and a member of REBNY’s Commercial Division Board of Directors. He will be writing monthly for The Commercial Observer on real estate finance.