Pushing Dirt

Real estate commissions are fully negotiable, and it’s dangerous to engage in a dialog in a public forum about specific rates charged. It could be perceived as price fixing which is not kosher.

Speaking generally about the shift in market conditions, I think it’s safe to speak to the following trend: In the “landlord’s market” of a just a year or two ago, landlords would typically offer 1/2 of the the commission they would pay to a broker that brought a new tenant to them.

Now we’re seeing brokers asking and getting a “full” commission on renewals. The landlords are more fearful of losing tenants and are doing what the can to keep the broker that “controls” the tenant happy.

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As the market continues to struggle we will continue to see the amount of sublease space available to grow. Tenants with unneeded space are especially motivated to move sublease space. Their goal is not to create value in a building or positive cash flow but simply to “stop the bleeding” of rent that must otherwise be paid for unwanted space. As such they slash asking rents and make vicious competitors to owners with space to move.

Landlords competing with sublease space can highlight some of their advantages including an ability to offer renewal terms, to fund tenant improvements, and to offer expansion or relocation within a larger portfolio.

Tenants should take a hard look at sublease opportunities on the market
as they can offer a phenomenal opportunity for savings. Tenant brokers may not push these options as subleases can be more difficult to transact, and may offer smaller commissions (owing to shorter lease terms). It may also be more challenging to collect commissions from sublandlords. As such you may need to push your broker to seek out sublease opportunities on your behalf and make sure your broker collects the fee he or she has earned.

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Square Feet Blog picked up a story on a story about a class action law suit accusing Marcus and Millichap and a businessman of colluding to sell net leased property at inflated prices and and then close the businesses renting the space.

Sophisticated owner-occupants of space can use sale-leasebacks to their advantage. These sale-leasebacks are effectively financing transactions, allowing the user of space to get cash without racking up debt on its balance sheet. The transactions unlock “trapped equity” that a business can deploy to grow its business.

Sophisticated buyers of net leased property in most cases are careful to set leaseback rents at market and to avoid paying more than the “replacement cost” of the asset, i.e. the market value of the land plus the construction cost of the building in today’s dollars.

What is true is that most ‘individual, freestanding ’single tenant net leased properties” have been and remain grossly overpriced to this day. buyers  of freestanding triple net retail buildings at the peak of the market were paying $500 per square foot or (much) more and tolerating yields of 6% or lower for a 20 year lease with a drug store in a tertiary location. The buyers have typically been private buyers often with 1031 exchange dollars to invest.

Some groups like Cardinal Capital made tens of millions by buying well “wholesale” from users and then selling to these private buyers at “retail” prices.

Whether there was intent to defraud these private buyers in the case the LA Times story highlighted is unclear. In most cases these private buyers have simply just made poor decisions by overpaying for these properties. They’ve paid well over replacement cost and made bets on companies with questionable credit all in the name of deferring capital gains taxes. I don’t begrudge the brokers representing sellers in these cases; they were doing their job by fetching the best prices for their seller-clients. In the realm of commercial investment real estate, there is generally a presumption made that the parties to the transaction are sophisticated. Transaction timetables typically allow for a significant due diligence period during which buyers are expected to study to the building, the market, and the tenant.

Unless it’s a distressed or “value add” scenario, I’d never recommend a single tenant net leased asset to one of my clients in need of 1031 replacement property. I’d rather see them pay their taxes.

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Econometric forecasting, or the use of mathematical or statistical models to predict the future of some sector of the economy, is pretty much a bunch of garbage, pure voodoo. Anyone who predicted the timing of current downturn got incredibly lucky. And the so-called experts mostly missed the boat. Among them Raymond Torto of CBRE’s Torto Wheaton Research who said back in 2006, “”We’re not predicting a crash, not predicting a disaster” and went to predict ‘investment in real estate remaining healthy, with a solid amount of liquidity in the market, and prices for assets remaining high.’

Even in October 2007, in the midst of the residential subprime implosion and when the CMBS market was already closed down for the foreseeable future, Torto Wheaton wrote, “the volatility in the markets has created buying opportunities, especially in sectors that are no longer priced for perfection yet continue to have a favorable outlook.” The truth is that most who bought in late 2007 and into early 2008 are regretting it.

Torto and Wheaton are widely respected and extremely bright; this all goes to show that even the best and the brightest can’t make successful predictions about when and how dramatically the market will turn for better or for worse.

All that’s safe to say is that the economy is cyclical, and clearly we’re in the “down” portion of the cycle, and that means it’s time to buy, when no one else is willing buy. In 2006 and 2007 I was pushing my clients to sell sell sell! Admittedly not with purely altruistic notions, but it was clear pricing then was not sustainable. Now that we’re in an unrivaled buyers markets, I’m finding most buyers are sitting on their hands, waiting for what they perceive as the “bottom.” Unfortunately, you can’t time the bottom. You just have to dive in and start buying.

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Most investors that bought commercial real estate in 2007 and 2008 (along with some that bought in 2006) have seen their property values drop 20 to 30 percent. As such, they’ve seen their entire equity investment in the property wiped out.

if these owners have stable cash flowing property, there is no immediate distress. The pain will come when these loans come due: they will join the ever-growing ranks of commercial borrowers that have loans coming due and are unable to refinance. What remains to be seen is whether lenders will extend the terms of these defaulting loans.

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When business is down and you need to downsize, you might consider a sublease. Also consider approaching your landlord about a lease buyout or rent reduction of some other sort. The leasing market is miserable and your space may not lease at any price. Your landlord, on the other hand, would rather have some income than no income at all and may be amenable to giving you some relief. Work both ends to identify the best opportunity for savings. A broker can help.

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In this soft leasing market, free rent is a win for both landlord and tenant.

A dollar today is worth more than a dollar tomorrow. Likewise a dollar saved by a tenant is worth more than a dollar saved later. So as a tenant, I’d rather have free rent upfront than a lower rent later.

Free rent for the landlord means a higher rent later, everything else being equal. A higher rent later means a higher net operating income. A higher net operating income will result in a higher sale price on exit, all else being equal.

So both landlords and tenant should recognize the merit of using free rent.

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Yes.

In The Huffington Post, Jim Randel wrote  (in a story with the same title as this post) that he does not see wide scale defaults in the world of commercial mortgages. He also wrote that commercial borrowers have much more equity in their properties than do homeowners on general.

Unfortunately he’s wrong. Many (if not most) investors that bought stable commercial investment property in 2007 are “under water.” Property values have fallen that much, at least in the short term.

He was also wrong about commercial real estate being a market devoid of emotion where real estate values are a pure exercise in evaluating cash flow and solving for a target return. There is a tremendous amount of fear and uncertainty among commercial real estate investors, and this emotion is keeping buyers on the sidelines despite some exciting opportunities to buy at spectacularly low prices.

I’m also not sure I buy his assertion that it’s an easier decision for a homeowner to make to hand over the keys to his or her property to the lender, that they have less to lose than a commercial investor.  A home is the biggest investment most individuals will ever make, and most (though I acknowledge certainly not all) put down a significant amount of hard-earned cash to buy those homes they are now losing.

He was right about some things, though. Mounting tenant failures will grow the amount of sublease space on the market dramatically in 2009, putting major downward pressure on rental rates.  He’s also right that as commercial debt has been tight lately, it’s pushed property values down.

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Transparent Real Estate predicts a huge wave of refinancing in 2009 as as sell-off in Treasuries begins and those rates climb. Sorry mortgage brokers, I just don’t see it. Certainly things will improve from their current ugly depths, but many property owners — commercial and residential alike — just can’t refinance their current mortgage. Their property’s value has fallen so much (often 20 to 30 percent or more) that it just won’t “appraise out” any longer.

Homowners with 30-year fixed rate mortgages won’t need to worry. Homeowners with adjustable rate mortgages can start worrying now. So can commercial mortgage borrowers - their loan terms often are as short as three to five years, and many commercial mortgages will come due in 2009 with no new debt available to replace it. Some lenders will extend these loans, desiring to buy themselves and their borrowers some time to resolve the dilemma. Others will foreclose.

My feeling is that while we may see a “bottom,” property values are not going to get measurable better in the next 24 months. Neither are the floodgates of commercial financing going to re-open to the point where we are going to see 80% financing on investment commercial real estate anytime soon.

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My commercial real estate practices focuses primarily on representing sellers of commercial property like office buildings and warehouses.

That said, I spend a lot of time online, and I stumble across MANY residential brokers claiming to be peddling VERY large portfolios of foreclosed properties owned by banks, or that claim to represent buyers of such property.

Most of these folks roam real estate forums, and hide behind a cloud of secrecy. They generally seem like scam artists to me.

My experience tells me that banks disposing property have a fiduciary responsibility to their shareholders and depositors to make sure these properties are marketed widely and efficiently. I just don’t believe that any sophisticated seller peddles property through REOBIZLADY on such-and-such random investment forum.

So what do these scam artists have to gain by working this way? Are they working with a long chain of brokers, trying to squeeze in for a bit of a fee? I’d be interested in hearing your thoughts.

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Square Feet Blog posted an interesting read where they redlined their commercial real estate market forecast from last year.

They hardly went out on any limbs in early 2008 (for instance, predicting a ‘50% chance of recession’ or that the ‘homeownership rate may slip further’) but it was brave of them to highlight predictions where they really blew it (’not a single enclosed mall will fail in 2008′).

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AMB just recently announced that they will lay off 22 percent of their work force. First Industrial laid off something like a third of their salaried work force. Anecdotally, I’m seeing both commissioned brokers and salaried professionals being laid off left and right - it’s ugly out there.

The only way to hang on to your job in this environment is to be a net revenue generator - not an expense. And with “desk costs” (the overhead associated with keeping someone employed) often in the six figure range, you’ve got to create a lot of revenue just to break even.

A lot of firms are trying to create that revenue by creating consulting practices, i.e., consulting on distressed property. I just don’t believe there will be enough fee income to be had there anytime soon.

I do believe that the volume of distressed sales will ramp up considerably in 2009 which will be a boon for investment sales brokers that made a lot less money than usual in 2008. I foresee capitulation from sellers that were trying to hold onto 2007 pricing levels and didn’t get their sales done. The forced selling has begun!

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If you’re a buyer or broker, focus on finding deals where assumable financing that provide an acceptable amount of leverage.

Owing to the relatively frozen credit markets, a full one-half of all investment sales in 2008 involved assuming in-place financing. The buyers and brokers that successfully concluded transactions last year sought out those transactions to market or acquire.

The few 1031 exchange buyers out there will need to replace the debt and equity components of their trade. These buyers in particular benefit from assuming attractive in-place financing.

The many CMBS (conduit) loans that were originated up until 2008 were typically non-recourse. That sort of non-recourse debt is difficult to find today. The life companies that originate this sort of debt have their choice of many deals — and there is much more demand for this sort of debt than there is supply.

2009 shows no sign of significant thawing of the debt markets. The level of distress is increasing dramatically. As a good portion of sales that conclude successfully in 2009 will involve assumable debt.

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In the current economic client, it’s a fine opportunity for all parties to a lease transaction to explore an early renewal of a lease:

The landlord can address near-term lease rollover and help stabilize his or her building, creating value immediately. Look over your rent rolls and approach tenants now to firm up your tenancy. Things won’t be rebounding dramatically over the next 12 months so you don’t stand to gain by waiting.

The tenant can often secure very attractive concessions in the form of tenant improvement dollars, a lower rent, or even rent abatement. The tenant’s knee jerk reaction is to keep lease term down to keep their options open for the future. This may be the right move, but if you don’t expect to grow or shrink, take advantage of this very tenant friendly market.

The broker can earn a fee for advising either party in this climate where the volume of sales is down dramatically. If you’re not already, approach any tenant with less than two years of lease term remaining about the prospect of politely approaching their landlord to negotiate an early renewal. This is a pipeline of income that you may be missing out on.

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In the course of one of my transactions I was presented with the following quote from a bank for a user to acquire a warehouse to occupy. The contemplated transaction was in the $7 million range:

• 80% loan to purchase price
• 25 year amortization
• 10 year term
• Rate fixed at 300 basis points over the 10 year treasury
• 50% recourse

With the 10 year treasury at around 2.6%, that equates to a phenomenally low fixed rate of 5.6% and a 7.4% loan constant!

In this particular circumstance, we have a seller willing to sell at a price that is arguable 20% or more below 2007 levels. Combine that with amazingly cheap financing and it’s a wonderful opportunity for an owner occupant.

Investor financing tends to be more expensive but not as bad as investors think. The catch is that some recourse is generally being required by these banks and leverage is somewhat lower. Overall for borrowers willing to deal with banks and share some of the risk, there is still acceptable financing out there.

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I spend hours a day talking with buyers and sellers of commercial property. Here is some of what I take away from this ongoing dialog:

• If you look at the graph on this post, we’re clearly in the “despair” phase. This is evidenced by qualitative evidence, ie the tone of investors and brokers I talk with, and also by quantitative evidence: Many buyers think an appropriate capitalization rate today in the Washington Baltimore area is 10% or higher no matter what the product. I don’t believe those buyers are going to be successful buying product around here anytime soon and they are missing out. Those cap rates may be found in Richmond VA or Cincinnati Ohio or some other secondary market, but not in a top 10 market market with an ever-growing federal government that will soften the edges of the downturn.
• That said, many brokers representing sellers are 6 months behind the market, and are telling their clients that pricing in the 8% cap range is still achievable. It’s just not.
• For a savvy buyer willing to be a bit more aggressive than the herd, it is clear that bargains abound. There are owners in a must-sell situation. Those sellers will have to sell at prices that are 20% to 30% lower than peak levels. Buyers that can forget about current yield and focus on buying in the middle of the range, in the high 8%s, low to mid 9s and at an attractive “price per pound” are going to be rewarded with some amazing yields in the long run.
• The best buys are for those who are willing to take on significant vacancy risk. I am marketing several empty buildings right now in the Washington DC area and I can tell you it is very much a buyer’s market. I’m also seeing more buildings go vacant, and tracking vacant buildings that are moving toward foreclosure. If you control a tenant that you can drop into one of these empty buildings, your yield potential is going to be off the charts. The opportunities also abound for users of space to buy buildings and push their effective rent (mortgage payment) below current market rents.
• Multifamily is the one sector where product continues to trade as financing is more readily available in that sector. I say that if this product is continuing to trade, stay away. Look in sectors where there is more distress: retail and hotel being the ugliest right now, with office and warehouse right behind.
• Watch for the Federal government to grow dramatically and increase demand for office space. Obama plans a massive fiscal stimulus in the very short term, and democratic spending won’t be the sort of checkbook stimulus we saw under Bush: it will be accompanied by a big increase in the bureaucracy and and associated demand for more space in the DC area. This will happen rather quickly.

I wish I convince more buyers that I believe we’re at or near a bottom already, but most are on the sidelines. Some are on the sidelines because they don’t have the necessary cash but there are others waiting for the sky to fall. Once we’ve passed the bottom — whether it is today or a mere 9 to 12 months from now — and the media and bulk of investors recognize this, it will be too late to make truly opportunistic purchases.

The following is what I wrote for my company’s annual market report. It’s a bit heavy on the jargon so if you need clarification or have questions drop me a line.

This past year saw a dramatic drop in the number of investment sales. This was primarily the result of the collapse of the commercial mortgage backed securities (CMBS) market. Up until 2008, roughly 70 percent of commercial real estate acquisitions were financed by these CMBS lenders which originated loans, packaged them into pools, and then sold bonds backed by these pools. CMBS lenders originated nearly $137 billion worth of debt through the first six months of 2007 alone.

In the fourth quarter of 2007, as a result of the residential mortgage meltdown, investors became hysterical about anything related to mortgages. Despite the fact that commercial real estate leasing fundamentals remained sound, these CMBS bonds stopped selling, and as a result CMBS loans could no longer be originated. The volume of CMBS loans originated dropped by over 90 percent.

Picking up the slack in financing commercial real estate today are life insurance companies and local and regional banks. With many more financing opportunities to choose from than in the past, these lenders can afford to be very selective. As such, the majority of new loans are being made on high quality, well located real estate. Terms of these loans have been tightened considerably: rock-bottom floating rate loans along with fixed-rate interest-only loans are largely a thing of the past. Where CMBS lenders regularly offered 80 percent leverage with no personal recourse, 60 to 65 percent leverage is the norm today. Amortizations in the 20 to 25 year range are now more typical than 30 year loans.

This dramatic change in loan terms and pricing has driven up loan constants — the annual cost of servicing a loan expressed as a percentage – by as much as 200 to 300 basis points. Further, yields on alternative investments such as corporate bonds are rising in this recessionary climate – into double digits in many cases. All this has pushed today’s yield expectations on suburban office and industrial real estate up 50 to 300 basis points from a year earlier. This change in yield expectations occurred much more quickly than in previous down cycles as the contracting debt market corresponded with – or rather effectively helped initiate – the recession that began in early 2008.

Today, many owners of commercial real estate that are taking buildings to market are doing so because they must, either because of near-term debt maturity or some other need for cash. So far there are few owners in the Washington-Baltimore area that “must sell” and as such the volume of investment sales in our region is down 37% year-over-year. Roughly half of the commercial real estate investment sales that occurred in 2008 involved the buyer assuming (typically CMBS) financing that was already in place. This fact highlights the dramatic drop in new loan origination.

Leasing fundamentals in the Washington-Baltimore area have weakened but thanks to the insulating presence of an expanding Federal government and tremendous land constraints our region should see comparatively less weakening in demand for space.

Investors expecting “fire sale” pricing in our region are being disappointed so far. Buyers depending on large amounts of leverage are on the sidelines. This leaves institutional investors and other low leverage buyers purchasing high quality real estate at more attractive capitalization rates than they could in 2007 thanks to the less competitive environment. Older, less-well-located real estate is seeing the biggest spike in capitalization rates.

As more high leverage loans become due in 2009, and owners fail to refinance, more forced selling will occur. Owners with attractive assumable financing in place, or those willing to consider seller-held financing, have the opportunity to sell and achieve pricing not too far off of 2007 highs. Expect seller-held financing to expand considerably in 2009, particularly to facilitate the sale of less than institutional quality real estate.

While it is a dangerous game to call a “bottom” the real estate market, we believe that we are in a sort of a “buyer’s market” seen only once or twice in a lifetime. The savviest investors will focus on buying now in markets that show dramatic historic rent growth and have weathered previous downturns relatively well. Industrial, multifamily and downtown Washington DC office buildings should fare better than retail and suburban office product.

NAI KLNB has brokered the sale of 9200 Old Annapolis Road, a 16,500 square foot project in Howard County that combines a mix of commercial office and retail space, for $2.9 million. Gil Neuman and Chris Kubler of NAI KLNB represented the seller, TIVIA LLC and Robert Smith of NAI KLNB represented the buyer, TSC/Old Annapolis Road LLC.

Positioned near the intersection of Bendix Road and MD Route 108 – just off MD Route 29 – the building was constructed in 1972 and is anchored by a branch of the Bank of America on the first level and features office space on the second level, which is currently 100% leased. The sales price was $193 per leaseable square foot.

“The sale was a multi-faceted transaction that responded to fast-changing capital market conditions and an unorthodox approach to our initial marketing strategy,” explained Gil Neuman of NAI KLNB. “Upon receiving the exclusive listing on the property, we made the decision to negotiate with a single buyer entity that offered the most appropriate and best-matched proposal for the asset. This occurred on the same day that we began marketing the building. The pricing of 9200 Old Annapolis Road was driven by the location of the project, the below market rents of the current leases and the high performance of the Bank of America branch office in terms of savings deposits,” he added.

“As the date of the closing approached, cap rates across the country rose dramatically, and we started to arrange a new, creative financing agreement for the buyer,” Neuman explained. “This package featured a mix of bank financing, equity and seller-held financing with a staggered pay-down schedule, collateralized by the buyer’s assets.

“In our current economic climate, it is becoming increasingly complicated to consummate sales transactions. Our targeted approach of knowing exactly who the appropriate and still-capable buyers are, coupled with our ability to creatively structure deals, represented our secret weapon in this deal. Suddenly the investment sale broker’s job has become much more than just a matchmaker,” he added.

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NAI KLNB has brokered the sale of 501 Prince George’s Boulevard, a 91,500 square foot office/warehouse building in Upper Marlboro, MD for $5.5 million. Chris Kubler of NAI KLNB represented the seller, a Bethesda-based investor group and Jones Lang LaSalle represented the buyer, Linemark Printing. The new owner, a full-service printing company founded in 1985, intends to relocate its operations to the building from its current location in Largo.

Built in 1982, the project is located within close proximity to US Route 301 and the Central Avenue exit of the Capital Beltway. Features include 24 foot ceiling heights, five dock door ports, generous surface parking and approximately 10,000 square feet of office space.

“This building will be owner-occupied and was the perfect match for Linemark Printing, a company that was in search of a large combination office/manufacturing facility to house its printing operations,” explained Chris Kubler of NAI KLNB. “It is positioned within a prominently located and well-maintained business community featuring excellent access to the greater Washington, D.C. and suburban Maryland markets,” he added.

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While I often claim I threw out my crystal ball a long time ago, I will now go out on a limb and make a prediction: retailers are going to feel a lot more pain through the holiday shopping season. I predict more bankruptcies, more store closings, and more alternatives for your existing tenants that might have expiring leases.

If you’ve been thinking about selling that strip center, now’s a fine time to take some money off the table. Cap rate won’t be as attractive as in 2007 but who can time the market? And remember you’ll be buying into the same market you’re selling into.

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Ameribank of Northfork WV bit the dust on September 19. This is the 12th community bank that went down for the count this year.  Five have tanked since August 1 alone.

This is unfortunately the fault of a regulatory environment that did little to stop predatory lending practices targeting subprime borrowers.

My world, the commercial world, has been dragged down simply by association.  There is little-to-no non-recourse debt financing available to fund commercial real estate acquisitions, despite sound market fundamentals in my area. The volume of CMBS loan originations — the primary source of non-recourse debt up until 2008 — is down 90% over last year.

My answer to a linkedin question:

The American Seniors Housing Association generates a range of reports that you might find useful, albeit at a cost.

Links:

• http://www.seniorshousing.org/Bookstore/

As a result of extensively marketing a car wash in Maryland, two other car wash owners have tracked me down and asked me to market their own car wash…leaving me the possibility of handling six car washes for three different owners…an unusual prospect for me, primarily a warehouse broker. Running these takes some effort, so it is often a change in life circumstances, eg a move, health issues, etc that leads to a sale.

but the 10 year treasury off which commercial mortgages are set was up 7 bips today. Spreads are still rather wide in the commercial world too.

Headlines today: foreclosures up 79% over last year! Time to panic! Oh my!

The facts? More than 1 percent of U.S. households were in some stage of foreclosure in 2007, up from about half a percent in 2006.” ONE PERCENT. Comparisons drawn with the great depression abound.

Hogwash. Take a deep breath. The national foreclosure rate during the depression was 3.9%. On top of that the depression saw a bunch of distressed sales.

I was walking through a mortgage broker’s space yesterday and heard a training seminar in progress.

The teacher was saying, “start your calculation with how big a commission you want to make, and price the loan accordingly.”

There are honest mortgage brokers, and then there are crooks. Ask your friends for referrals, and check your terms against bankrate’s averages for your state. Don’t be afraid to ask if you’ve been offered the best deal.

I often say I threw out my crystal ball a long time ago, but I’d say now’s the time to put a commission in your favoriate mortgage broker’s pocket and look at refinancing your house. I managed to catch a 5.375 rate several years ago, and that was close to rock bottom. We haven’t seen it in some time, but we’re just about there, with Bankrate showing the average 30 year fixed conforming mortgage at 5.44 percent. Don’t quibble over a few basis points.

See my story in the Baltimore Business Journal today. Or at least part of it.

Joe Burke, a great mortgage broker in Maryland wrote the following about the commercial mortgage market. A great read. Let me know if I can put you in touch with Joe.

“What a market we have had over the past six months! It seems things change every day. Yesterday we saw the 10 year Treasury rate plunge about 15 basis points to 3.29% in the morning only to lose steam quickly ending the day at 3.60%, a 31 basis point increase in 4 hours time. I have been in this business for a long time weathering a lot of ups and downs in the market but I cannot recall experiencing the volatility we are currently seeing. It makes it tough on both lenders and borrowers trying to figure out where we will be tomorrow and when should you think about locking rates. The volatility creates many issues for lenders who don’t want to lock rate when the Treasury is approaching historic lows unless they are sure that it is a long term trend. The lenders try and hedge their bets and typically either widen their spreads as the Treasury rates go down this quickly or institute a floor rate that they will not go below regardless of where the Treasury goes. The philosophy behind this strategy is easier to understand when viewed in the context of what happened in the Treasury market yesterday. In the space of 4 hours they could have lost 31 basis points on their ultimate rate.

Pricing pressure for insurance companies come primarily from what alternative investments are available at spreads that are equal to or better than what is available in the commercial real estate mortgage market. Currently in the CMBS market in the Super Senior traunch [which has a 30%+/- subordination level] spreads of 200-235 basis points are available. Typically rated as high as AAA by the rating agencies one can see the relative value investing in these AAA CMBS bonds. The question all real estate developers would ask is “are they really AAA?” Time will tell but it does explain why CMBS all in spreads for new business can range from 275-350.”

I spoke with a REIT executive who confirmed my impression that the days of bidding wars for commercial real estate, even in the hot Washington DC market, are over for now. Where once brokers set bid deadlines and were assured of a dozen offers, brokers are now “quietly marketing” properties to a handful of buyers. The fear? No one wants to strike out, end up with no offers for their building, and be embarrassed.

The parallel is the residential side where once brokers could have an open house on Sunday, set a bid deadline of 7 pm on Monday, and count on a bidding war.

Costar runs highlights today of retail market reports from Grubb and Ellis, Torto Wheaton, ICSC, Marcus and Millichap, plus their own data.

As usual, looking for a story, the report paints a bleak headline ( “…bleak picture for 2008″).

The facts paint a different picture:

-”The U.S. retail vacancy rate stood at 6.6% at the close of fourth quarter 2007, varying only slightly throughout the year.”

-”During 2007, 111.8 million square feet of retail space net absorption was recorded, a significant improvement over 2006 net absorption of 58.6 million square feet.”

-”The average quoted asking rental rate in the U.S. has increased at a fairly steady pace over the last two years, creeping up 13.8% from $15.47-per-square-foot in first quarter 2006 to the current rate of $17.61-per-square-foot.”

-Grubb & Ellis predicts buyers will “return to the investment market in greater numbers” in 2008.

I’ll believe the gloom and doom when I see it.

Roost is “is betting that there’s room for one more real estate search service in an already-crowded market.”

Just read my post on Trulia. Same holds true. Bunch of tech guys with an old idea, no innovation, and an incomplete set of listing data. Oy! Maybe it’s too small of a market, but someone needs to do this on the commercial side.

As yields on U.S. Treasury securities wilt—the 10-year bond is at 3.38%!—in response to a continuing flight to quality and liquidity, spreads on commercial mortgage-backed continue to widen and widen and widen .

What does this mean? If you need to finance a commercial property, your cheapest loans may now be from a bank!

on the commercial side. Don’t expect the terms we saw from conduit lender to creep back in the face of recent falling interest rates. One of my clients tells me that he’s buying pools of commercial loans at 75 cents on the dollar. There are floors on conduit lender rates to ensure a profit. Interest only of more than a year or two is a thing of the past. 80% loan to value is hard to find. Things are different in the world of residential mortgages, where we are back down to four year lows (excepting subprime which is on life support!)

From The New York Times. The author was unwilling to proclaim it a recession, but it’s frankly been obvious on the streets for some time.

I sell a lot of warehouses to users. Things were frenzied here in the Washington DC area for some time: selling empty buildings to users of space was a cake walk for the better part of 2007. Now things are dead and I am hearing the phrase “cold feet” a lot more than I’d like.

Thanks to high gas prices, gas stations and their owners are struggling.

While this may seem counterintuitive, gas station customers are putting less gas into their vehicles in each visit, are using their credit cards more often (and the gas station owner pays the credit card’s fee), and they have less cash left after pumping their gas to spend in the convenience store.

An investor underwriting a gas station should be wary: future cash flow could head down if gas prices remain high.

Here’s what I wrote for KLNB’s market report covering the state of the Office/Industrial market in the Baltimore Washington Corridor (but much of it holds true for the national commercial real estate market as a whole):

The last quarter has brought with it a dichotomy of sorts in the demand for commercial investment real estate in the Baltimore Washington Corridor. The appetite from institutions for well-located, quality real estate – particularly class A buildings in the most desirable business parks – remains strong and prices for this product have held steady or increased. Relatively older or less-well-located assets have seen demand from investors diminish, and yield expectations from prospective buyers of that real estate have risen commensurately.

Driving this dichotomy is the widely publicized cred
it crunch on Wall Street. Fears of widespread default on residential mortgages have irrationally spilled over into the commercial side, despite leasing fundamentals – particularly in our region – that remain strong. As a result, Wall Street-based originators of debt slated for securitization– the lenders that have offered the most attractive terms available and have financed the majority of investment real estate that has changed hands in the past several years – have much less money available to lend.

These lenders – popularly referred to as “conduit lenders” – have become much more selective about which properties they will finance, and their money is much more expensive to borrow. Spreads — the margin over treasuries at which these lenders set their interest rates– have increased today from a range of 95 to 110 basis points over the corresponding treasury before the crisis up to a 200 to 250 basis point spread today. Complicating matters further is the fact that the market is extremely volatile and pricing changes almost daily. The other major sources of financing for larger commercial real estate acquisitions – life insurance companies and banks – have always been relatively conservative; as such it is not surprising that these lenders have not moved to meet the unmet demand for inexpensive financing.

Institutional buyers (real estate investment trusts, pension fund advisors, and the like) are not as reliant on this sort of financing and as such have continued to bid aggressively on a very selective basis, focusing on the most desirable assets in the market with almost as much relish as before the credit crisis. Capitalization rates well below 7 percent still are the norm for the most sought-after “core” office and industrial assets in the Baltimore Washington corridor, despite a lending environment where borrowing is occurring at loan constants between 7.75 percent and 8 percent. In this range of pricing, where debt provides negative leverage (meaning financing lowers the cash-on-cash-return), financing-dependent private investors cannot compete with the institutional buyers.

Class B and C assets that cannot attract interest from institutional buyers are not changing hands as readily. There is market disequilibrium; many sellers have not adjusted their pricing expectations downward to meet the yield expectations of the private buyer that demands at the very least modest positive leverage from his debt. Practically speaking, at today’s interest rates, an investor needs to buy at a capitalization rate that is higher than 7.5% to 8.0% to garner positive leverage, and needs to do meaningfully better than that if the asset requires significant ongoing capital expenditures.

Owners that refinanced before the credit crunch with assumable financing – and secured record low rates and often an upfront interest-only lasting for several years– will benefit doubly when it comes time to sell: buyers will be thrilled to assume that financing and will be able to rationalize higher prices than they could if that below-market-rate financing was not in place.

User-buyers are paying the highest prices in the marketplace today, as (a) interest rates still remain near historic lows and (b) these users are more focused on the overall cost of ownership versus that of leasing and ownership frequently wins out in that analysis today. Many an owner of late expends significant time, energy and expense filling a building with tenants to ready it for sale, only to later learn the unhappy irony that the building would be worth more empty (to an owner-occupant) than full (to an investor).

More than a few would-be buyers and sellers are taking a “wait and see” attitude, with sellers expecting that the market “froth” will subside, and buyers boldly predicting greater crisis and opportunistic buying opportunities to come. Prudent sellers will price their assets appropriately and move to sell while rates remain low, rather than trying to “time the market.” Appropriately-priced and widely marketed assets still generate multiple offers from the investment community. Buyers looking for opportunistic buying opportunities are not yet finding them: there is little-to-no distress among owners of commercial real estate in the Corridor. Distress, where it exists, is nascent and primarily in the residential sector.