Everything is Relative in 2010

By MICHAEL GOTTLIEB
California Real Estate Journal Editor
The forecast season is upon us. No doubt you are parsing through the dozens of forecast events and reports - our own month-long series of statewide forecasts commences Feb. 1 - to build your basis of understanding of the topsy-turvey commercial real estate market.
The most important thing to remember when sifting through the data and pundtry in shaping your business decisions this year is that everything is relative and that traditional ideas of real estate relativity may not apply.
Looking long has been the safe fallback in setting one's future expectations of the market with the understanding that markets have a tendency to return to historic ranges for a spectrum of important measures ranging from interest rates to capitalization rates. Yet the market we just came out of was off the charts from a historical perspective and the resulting hangover will hinder the market forces seeking to return to the norm.
It is hard not to notice the renewed optimism today.
"The recession is over!" wrote Peter Linneman, chief economist for NAI Global, in the most recent Linneman Letter.
"For all intents and purposes the recession is over," said Christopher Thornberg, principal of Beacon Economics, while speaking at a joint program of the Los Angeles chapters of CCIM, CREW, the Counselors of Real Estate and American Society of Appraisers.
But Linneman, Thornberg and others point to a host of risks on the horizon that could slow the pace of the economic recovery or possibly cause the U.S. to dip back into recession.
The outlook is even more divergent for commercial real estate.
For example, NAREIT reported that real estate investment trusts bested the Dow Jones Industrial Average, Russell 2000 and S&P 500 in 2009 with total returns of nearly 28 percent. That's noteworthy considering the run-up in the stock markets last year, but in line with long-term trends where REIT returns have dominated the other major indexes the past 35 years.
Yet, the fundamentals that underpin REIT performance are eroding. According to the latest data from Property and Portfolio Research, average real estate vacancy rates for all property types have reached levels not seen since the early 1990s and rents are following course. Meanwhile, Real Capital Analytics data shows quarterly sales of properties $5 million and greater remain the lowest since the beginning of last decade, while capitalization rates are still rising.
The manic outlook continues in the finance world when in December the first nongovernment-supported CMBS deal in 18 months was completed, offering hope for conduit financing's future, while the CMBS delinquency rate passed 6 percent for the first time. With outstanding commercial and multifamily mortgage debt remaining near record levels, according to the Mortgage Bankers Association, it is hard to expect anything other than severely constrained lending in 2010, especially as interest rate risk increases.
While speaking at Jones Lang LaSalle's recent 2010 forecast event, Colin Dyer, JLL's global chief executive officer, anticipated that sales volume would increase 30 to 50 percent in 2010 and noted that in some global markets like London the window for acquiring assets at significant discounts has closed. But that outlook had to be framed against the reality that in the first quarter of 2007 U.S. commercial real estate investment sales were equal to the combined sales from the rest of the world. Today, the Asian investment market, which boasted the largest sale of 2009, is equal to the rest of the world combined.
City National Bank Chief Investment Officer Richard Weiss said the recovery is underway, while noting that seven out of 10 of the nation's worst cities for unemployment are in California. This too is relative, however, since Thornberg notes that California "enjoys the best of the booms and the worst of the busts."
This will be a tough year for the real estate industry, but it could be worse.
"In the Great Depression if you lost your job your children might starve to death," Thornberg said. "In this recession if you lost your job you can't buy a 50-inch TV."
In a world where "asset markets have lost their mind" be patient when formulating your outlook for 2010, but don't ignore a good opportunity when you know it in your guts. Informed instinct may be the best guidance you have when everything else is relatively suspect.
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