Response to Robert Knakal, Why Buyers Should NOT Buy Today

Buyers Beware!!

Photo by Alex.ch

I read Robert Knakal’s weekly blog post today and thought this would be an excellent post on the kinds of things that should be going through a commercial real estate investor’s head if she is interested in making an offer in today’s market.

Bob’s article is, “Why Buyers Should Buy In Today’s Market”. I’m usually very impressed with his thoughtful and well-researched analysis. But in this post, I couldn’t find very much to hold on to that had substance. Read below for my thoughts or see my comments in the body of the original post:

I will first say that I am interested in buying today. That I look at commercial properties and make offers on a regular basis.

But I don’t think the logic of this post is rooted in investment fundamentals. The real estate market is not analogous to the stock market because they behave under different structures. The bottom in the stock market is difficult to predict because of day-to-day and week to week uncertainty on collective momentum of many transactions. But transactions are made everyday… in seconds. The real estate market is different. Market makers decide to buy or sell over many days, weeks, and months because of the complexities and idiosyncrasies of the transaction itself. The number and frequency of transactions, therefore, are not the main contributors to opacity. Rather, the opacity comes from the increased complexity of each transaction, and knowing how, why, or why not this particular transaction is representative of where the market is headed.

Low Supply is the calm before the storm.

The great uncertainty holding seasoned investors on the sidelines is considerations for political uncertainty. The recently released report from the congressional oversight panel on February 11th makes a strong case for far reaching negative effects of distressed commercial properties coming to market in later 2010 through 2013. The panel suggests bluntly on p. 139 of the report, “The Panel is concerned that until Treasury and bank supervisors take coordinated action to address forthrightly and transparently the state of the commercial real estate markets – and the potential impact that a breakdown in those markets could have on local communities, small businesses, and individuals – the financial crisis will not end.” This means that unless the government does something, the panel expects the recession to continue (sounds like indefinitely).

In addition, Sam Zell recently suggested at the annual REIT conference at NYU that sellers are not selling because they have no equity, which leaves a decreased supply of opportunities for buyers. Interestingly, the fact that sellers have no equity also means that many properties that would not normally be distressed are now underwater due to the likelihood of poor refinancing opportunities through 2013. The oversight panel suggests that many of these properties will not be able to be refinanced, which further indicates that a lot of distressed properties will go into default. How much? They say half of the $1.4 Trillion in debt to be refinanced between now and 2014 is underwater. Half.

This may suggest that many of the distressed deals we see occurring right now at par are not even appropriately priced.

It is nearly Impossible to call the bottom.

I agree with this statement but the reasoning you suggest afterwards for investors who “feel” is purely emotional. It is unlikely that investors will miss the buying opportunity. Actually, the opposite is more likely to be true –that investors jump the real recovery by too much.

Inflation.

Inflation is a threat in the medium to long term, but right now the government dollars being spent are for the most part not being circulated throughout the financial system to contribute to multiplier effects. It’s fairly easy to consider that a paralyzed lending system to small businesses will put a hold on some inflationary pressures.

If we are not at the Bottom, we are Very Close:

We have hit bottom for the first recession, but if we head into another recession, than the absolute bottom may be both far off in terms of time and price. As far as your client goes. Us investors all have different timelines. If your timeline is 20 years than the marketplace should be your oyster. If, on the other hand, your timeline is more like 5-10 years than you have to be much more careful about when in a market cycle you invest your money. Flat or negative values for the next 3 years is not very beneficial to any present value analysis of future cash flows.

Values are Likely to Hit Record Highs in a New Peak:

Why this does strike one has an appropriate rule of thumb, it is disproved in rigorous empirical research. Robert Shiller, infamous author of the notorious Case-Shiller Index has shown that the last two cycle happened pretty smoothly, but look further back than that and you’ll see that there’s really no bottom. Like between the 50s and 70s. If you wait for a true bottom, you might have wasted 20 years. Also, he has shown that as recently as mid 90s, there’s a dead cat bounce. There are also many dead cat bounces between 50s and 70s.

Robert Shiller demonstrates this by creating a housing index that goes back to the 1890s.

Shiller Housing Index

In summary.

A lot of investors may “feel” like they need to get in. But the seasoned ones I speak with, who make choices based on 5-10 year horizons, don’t feel like the market is there yet. That is not to say that no one should buy. It’s that the price they would buy at right now is based on the possibility of far worse market conditions in the future. And that price is in many areas a good 30% – 40% lower for most core properties.

I agree that buyers should buy today. But if they do not consider the context with which they’re buying than they will find themselves wishing they hadn’t.

Unending Losses Predicted in Commercial Real Estate

Via Congressional Oversight Panel

The Congressional Oversight Panel’s February oversight report, “Commercial Real Estate Losses and the Risk to Financial Stability,” expresses concern that a wave of commercial real estate loan losses over the next four years could jeopardize the stability of many banks, particularly community banks. Commercial real estate loans made over the last decade – including retail properties, office space, industrial facilities, hotels and apartments – totaling $1.4 trillion will require refinancing in 2011 through 2014. Nearly half are at present “underwater,” meaning the borrower owes more on the loan than the underlying property is worth. While these problems have no single cause, the loans most likely to fail are those made at the height of the real estate bubble.
The Panel found that “a significant wave of commercial mortgage defaults would trigger economic damage that could touch the lives of nearly every American.” When commercial properties fail, it creates a downward spiral of economic contraction: job losses; deteriorating store fronts, office buildings and apartments; and the failure of the banks serving those communities. Because community banks play a critical role in financing the small businesses that could help the American economy create new jobs, their widespread failure could disrupt local communities, undermine the economic recovery and extend an already painful recession.

It is particularly daunting to consider what kind of downward pressure these future defaults will have on commercial real estate asset values.

Anatomy of Social Media

This is the Internet.

Photo taken by this guy

What really got to me in this presentation was the suggestion that human nature stays the same while human behavior changes.

Social media is giving people the tools to behave and interact differently.

The Micro-Sociology of Networks

View more presentations from David Armano.

I ran into this while browsing Joe Stampone’s Blog A Student of The Real Estate Game The slideshow was originally produced by David Armana, VP of Experience Design at Critical Mass.

Why the Future of (Making Money) Office Space is Social

Seats at the table are in high demand

Photo by Roland

The future of making money in real estate is closely tied to building communities.

Original Article Via Paul Bubny of Globe Street:

“NEW YORK CITY—Among the many changes wrought by the economic downturn has been a shift in the role of the office as a workspace. Aside from layoffs, there’s been a move by employers away from full-time, in-office employment. All of this has meant a rise not only in home-based businesses, but also in coworking facilities that provide office-like support for entrepreneurs without an office-like situation.

Among the city’s newest, and possibly largest, such facilities is the Hive@55, recently opened by the Alliance for Downtown New York at Rudin Management’s 55 Broad St. The 4,000-square-foot space provides shared workspace for more than 30 people at a time, plus three private workrooms.

The Hive@ 55 offers WiFi, fax, printer and copier machines and conference rooms. People can also host a business meeting there, or a meet-up, networking event, workshop or class. The space is intended to provide an alternative to working out of a living room or coffee shop, and to facilitate connection and collaboration between businesspeople.”

The need and acceptance for more flexible, community-orientated office space has existed for some time. One of the largest and successful companies in the field is Regus, whose assortment of reasonably priced shared offices, virtual offices, meeting rooms, and business lounges have long been one of the few visible options for start-up businesses or road warriors. Originally founded by British entrepreneur Mark Dixon in 1989 with a single location in Brussels, Regus now “operates over 1000 business centers across 450 cities in 75 countries”.

This scale has afforded Regus with a tremendous reach that has made it an unparalleled resource to the nomadic business entrepreneur.

But the market is increasingly being segmented as a host of new players, driven by falling office rents and decreasing vacancy, have sought ways to maximize their revenue per square foot while better targeting nascent needs. A few examples range from These Guys (http://newyork.olx.com/share-east-village-office-for-entrepreneurs-independents-iid-11139315) to Jonathan Fader of City Space Suites who offer a combination of flex and shared office space. Prices usually range from $100 to $500 per month, With City Space Suites offering premium accomodations for $1,000 – $5,000 per month.

The Bottom Line

Consider a 1,000 square foot open loft divided into 25 workstations that can be rented for $500 each per month. On a per square foot basis you are making about $150 PSF gross on your office space. This is not bad in a market where many landlords have seen price cuts of 30% – 50% and rents in comparable bulk leases ranging from $30 -  $50 PSF. Provided you know how to target the right community and get them excited about what you do, this is an excellent opportunity to make money by providing great space.

The Social Future of Office Space and the Bigger Picture

Encourage and Empower Community.

The trends we are seeing in office space are being played out in various capacities in residential sectors as well. As we see continued trends towards a eco-friendly and socially responsible communities there is a rippling effect that occurs within the waters of the real estate industry. The Iran political elections –using twitter to provide community sourced news serves as strong reminder of the interconnectedness that people’s live/work experiences now encompass.

Especially in Manhattan, where there is a heavy concentration of freethinking ideals, there is a strong commitment within many neighborhoods to live as you believe and communicate dissent with companies and institutions that are not evolving.

Internet platforms are helping to enable this further. With social ranking services like Yelp and Citysearch, property managers like this one can no longer hide bad reviews.

If you were a tenant would you rent from them after reading the review in the above link?

Listen to What your Tenants Want.

If one of the mainstays of business is to listen to your customer, what online social communities have enabled more than anything else, is a soapbox for that opinion.

This also means, as real estate professionals, that we have an opportunity to maximize our returns by creating environment that provide the tools for community interaction.

The niche working spaces that are sprouting up focus on the often idiosyncratic needs of the tenants. But in doing so, they are getting a potentially new source of tenants by providing comforting realities that bring them away from their home bases.

Almost all of these potential tenants are entrepreneurs – people that very often were frustrated with the corporate paradigm, and who look forward to beginning a new, freer existence. This is a group where working hard and networking with like-minded individuals is extremely important.

Other creative spaces other than the Hive include: New Work City on Varick Street, the Brooklyn Creative League in Park Slope and the Treehouse in Flatbush.

Via The City Room Blog at The New York Times:

“It is like buying a gym membership: you get to wear down someone else’s expensive machines that are too large to have in your own home and rub, albeit less-sweaty, shoulders with the like-minded. Amenities range from standard office features like vending machines, conference rooms and copiers to sliding miter saws and water jets for design-oriented spaces. Memberships range from a day fee of $25 to about $500 for 24/7 access to the space for the month.

The Brooklyn Creative League was started by Erin Carney and Neil Carlson, two stay-at-home parents who opened the 11,000-square-foot space on President Street and Fourth Avenue last April to provide a creative work space without the distractions of working in a living room. But they see their site as more than just a place to have access to services at a shared group rate.

“We are trying to build a sustainable, professional community,” says Neil Carlson, founder of the Brooklyn Creative League. “We don’t insist that people come to the Kool-Aid, and come to all of our events, but one of the things that people really value about us is the culture we’ve created here, the idea-sharing that goes back and forth, that brings people together, but allows them the space and discipline to get high-quality work done.”

Social Office space Via The New York Times

Co-workers at the Creative League include not just individual consultants and freelancers, but also small companies and nonprofit groups at various stages of development.

“It’s a great way to get high-quality green space,” Mr. Carlson said. “Part of what we offer is an alternative to a direct lease.”

Is your property social?

Why Improved Unemployment Figures are not Comforting

Wall Street's Symbol of Optimism, Courage, Hope.

Owners and Investors in real estate can’t be consumed by day to day emotions. As we see improvements in the economy and weigh changes in Unemployment, GDP, or Residential Investment from week to week, we must be cognizant of the endearingly local and forward thinking character that real estate engenders.

From the Bureau of Labor Statistics:

The unemployment rate fell from 10.0 to 9.7 percent in January, and non-farm payroll employment was essentially unchanged  (20,000), the U.S. Bureau of Labor Statistics reported today. Employment fell in construction and in transportation and warehousing, while temporary help services and retail trade added jobs.

Because job losses are affecting different sectors and industries of the economy differently. In New York, we feel poised on the brink of a large bonus season on wall street even as restauranteurs and many other small businesses suffer from limited credit conditions. Some have taken being laid off as an opportunity and have founded thriving businesses. Many others, still, continue to struggle.

However, despite the similarity to past recessions, we should not hold ourselves under the same illusions -illusions that there could be a V-Shaped recovery in the same manner that many post world war II recession have demonstrated.

I maintain this point because THIS RECESSION will define the winners and losers starkly and profoundly. Individuals who are unemployed are more likely to be unemployed for longer:

People who have lost their jobs are struggling terribly to find new ones. Since the downturn began in 2007, companies have been extremely reluctant to hire new workers, and few new companies have started. The economy and the job market are churning very slowly.

Try thinking of it this way: All of the unemployed people in the country are gathered in a huge gymnasium that’s been turned into a job search center. The fact that this recession is the worst in a generation means that there are many, many people in the gym. The fact that the economy is churning so slowly means that there is not much traffic into and out of the gym.

If you’re inside, you will have a hard time getting out. Yet if you’re lucky enough to be outside the gym, you will probably be able to stay there. The consequences of a job loss are terribly high, but — given that the unemployment rate is almost 10 percent — the odds of job loss are surprisingly low.

This paints an interesting picture for property owners and investors as we weigh mixed news about the shape of the economy.

It means that now, more than ever, the owner must cater successfully to a niche. This does not mean that this niche is only the winning side – those workers who feel safe in their jobs. Everyone needs a place to live. But to be successful, we must understand why people are moving, and what they want to hold onto or gain as the relocate.

Via Calculated Risk:

This graph shows the year-over-year (YoY) change in consumer credit. Consumer credit is off 4.0% over the last 12 months.

Consumer credit has declined for a record 11 straight months – and declined for 14 of the last 15 months and is now 4.8% below the peak in July 2008. It is difficult to get a robust recovery without an expansion of consumer credit – unless the recovery is built on business investment and exports (seems unlikely to be robust).

For the current recession, employment peaked in December 2007, and this recession is by far the worst recession since WWII in percentage terms, and 2nd worst in terms of the unemployment rate (only early ’80s recession with a peak of 10.8 percent was worse).

The Worst in U.S. Commercial Real Estate is Just Beginning

Via Reuters

“The fallout from commercial real estate exposures for banks has yet to run its course, in our opinion,” S&P said in a report.

Although problems are already evident in the homebuilding and commercial construction sectors, they have yet to be felt in the larger mortgage lending and multifamily sectors because interest rates are low and cash flows are adequate to service debt, the rating agency said.

However, as interest rates rise and rent rolls decline further, delinquencies will rise and prices will fall further in these sectors as well, S&P said.

“Even though most highly exposed banks with weaker balance sheets are already rated below investment grade, more downgrades are possible,” S&P said. Indeed, S&P already has negative outlooks on about 75 percent of the rated banks with the largest commercial real estate exposures, indicating they are at risk of a downgrade.

Despite the potential for heavy losses, however, most banks’ capital is sufficient for them to pull through as long as the losses are realized over a few years and liquidity is maintained.

“Commercial real estate exposure generally tends to represent a higher proportion of smaller, largely unrated community banks’ exposures,” S&P said. “Therefore, there is a greater proportion of risks in the unrated banking sector.” (Reporting by Dena Aubin; Editing by James Dalgleish)

Also via Tony Wood:

The totality of US commercial real estate value equates to apx $6 trillion with 3 trillion of outstanding debt of which 2 trillion is due over the next few years. Currently there is no financing available for these maturing loans on properties over leveraged with high vacancies and falling values. These conditions are unprecedented in terms of the size of the problem and the timing coinciding with the desperate economic conditions we are currently facing. The new book The Commercial Real Estate Tsunami outlines these issues and offers up useful suggestions for getting through with minimal damage. We are in this for the next 3-5 years and need new methodologies applied to ebb the wave of foreclosures and bank losses ahead.

What does this mean for Real Estate Investors and owners in New York?

Cash is king…. for the next 3-5 years.

It also means there will be a heavy disconnect between those that can get deals financed and those that can’t. The stock market may rebound sporadically with its ebb and flows, but smart commercial real estate investors should realize that widespread property value increases are still in the distant future.

The Internet has Transformed the Role of the Broker

Shaun Osher Interviews Woody Heller

►

This is an interesting Video that I found via The Real Deal.

Core Group Marketing’s Shaun Osher recently sat down with Woody Heller, executive managing director and head of the capital transactions group at Studley to discuss where the commercial brokerage industry is headed. Heller said he believes the Internet has transformed the role of a broker and made the job more interesting and challenging.

It was all the more interesting because I recently had a conversation with a friend of mine, who recently founded a boutique downtown brokerage, about the true value of broker.

I’ve long felt that many brokers only add negligible value to a real estate transaction, except in truly complex commercial transactions or in instances where the buyer or the seller are largely uninformed.

This is because the internet is rapidly changing the nature of information and especially the nature of word of mouth. As real estate markets become more transparent, informational advantages that contribute to below market opportunities are becoming more rare.

The kind of information that most brokers used to charge for is now easily found on the internet.

Why hire a broker when you can implement social media for free or most internet marketing for a fraction of the cost?

Thoughts.

The Secret to Property Value in New York City

Bring community feeling to your urban property

Do the opposite of what many landlords currently do. Bring what people love about the suburbs into New York.

Build Community.

Without actively engaging in the tenant experience – and making investments to improve that experience, landlords and owners neglect their greatest source of influence over rents and tenant turnover.

Let’s face it, in New York City buildings are commoditized like thumb tacks. This is because the average property neglects all the opportunities it has to differentiate itself.

Property Management is business management. And the greatest businesses focus first on meeting the needs of their customers. Ask any good VC such as —-this one— and they will tell you that a great business model is a great need solved.

But what does this mean for real estate and real property? Well, this means that great real estate owners and managers are similar to other types of businesses. It means, as well, that their success is not always accidental or lucky because they focus on bringing real value to current and future tenants. In real estate this value is the ability to live and work in a supportive environment.

In a place like New York City, this is where there is an opportunity for a property to differentiate itself.

Keeping costs down is a sure way to increase NOI, but the reckless allegiance to this principle ignores the reason why anyone chooses to live in your property in the first place Originally you tenant made the choice to live in your building over others they could have lived in. Consequently, anything that you can do to make them like living there more will make them more responsive and collaborative community members.

Know & engage your community

One of owner’s surest routes to increasing the value of their property is by taking an active interest in their tenant’s experience. Regular notices and encouraging the interaction of management and tenants cuts down on illegal sublets, unauthorized residents and pro-longed maintenance issues.

Changing building decorations with the holidays and holding informal meet and greats are excellent ways to get tenants more invested in living in your building. Hold a bulletin board so that your building can be a community.

Invested tenants will be willing to pay higher rents and less likely to leave.

Photo Credit

How can Community Increase Property Value?

How can community increase the value of a property?

Increasing a properties sense of community can lead to low turnover, and lower operating costs -making a happier and more profitable community.

We speak of community all the time. Whether it is our high school football team, college fraternity or religion. Our communities are where we are and where we choose to belong to find comfort.

Living in New York City, I often observe that contradiction of being almost suffocated by other bodies on the morning rush hour 5 train and at the same time feeling alone.

At the same time, it seems to be one of the most American values to have a safe and protected group of individuals living together. Much of the growth of the suburbs over the last 50 years has been due to to rapid popularity of a protected community. Westchester county exists because it wanted to keep the essence of the city out. It refused to be annexed by the city around the turn of the 20th century in order to protect “its” community.

A community is strength.

It is a responsibility to stay embedded in something. For property owners who support community in their buildings there is a higher liklihood that tenants will stay longer and take better care of their property. Being in a place where there is consistent interaction and a sense of shared responsibility makes people feel comfortable.

When I work with clients to increase the community engagement of their properties, I focus on highlighting the organic strengths of communities that already exist and facilitating increased membership. That is one of the great abilities of social media and the internet – we can allow people to find what they’re looking for easier. This is important anywhere. But it is especially important in a place like New York City where one can feel surrounded by people and completely unconnected at the same time.

How to get a sense of your property’s Community?

Community is always an ongoing conversation. It is the here and now. What events are happening everyday and how your tenants react. Properties in second tier markets as especially able to differentiate themselves by facilitating and supporting events in the neighborhood. Consider Harlem in New York City. There are many different sub markets in Harlem. However, many buildings within these markets can be distinguished by their sense of community and culture. The feeling of community can add or detract from safety, cleanliness, and ultimately, the ongoing value of the property.

1. Ask Tenants how they feel
2. Pay attention to commitment to policies you put in place
3. Observe level of participation in community message boards

Photo Credit: Pinguino

Middle Ground Property Management

Conflicting insights on the economic prospects for 2010 suggest that property managers must take a middle ground in order to get the most from their properties. This uncertainty is what makes it difficult for leases to be signed and properties to be sold.

I began to think of this in a recent conversation I had with one of my friends who works for a large, U.S. based corporate bank about the prospects of NYC commercial real estate for 2010. He gave a rosy, if not overly optimistic view of commercial real estate for 2010. It struck me as interesting how well his general attitude seemed to reverberate common held beliefs in his industry.

Certainly, the urban Land Institute has cited some recent healthy indicators…