Thursday, December 17, 2009

Commercial Real Estate Jingle Mail

'Tis that time of the season.  As per the linked article from LINK, Morgan Stanley has sent an early Christmas present to lenders who financed five buildings owned by Morgan Stanley in San Francisco.  Morgan Stanley has opted to hand the keys and building titles over to these lucky banks and investors (no doubt there's public and private pension money in the debt structure).

We've seen some bullish declarations about the housing and commercial real estate market lately.  The most recent coming from Bill Ackman, who runs Pershing Square Capital, a hedge fund with a successful track record.  Recently Ackman gave a presentation to investors which made some very bullish projections for commercial real estate.  In that presentation he has some very questionable assumptions about the ongoing "strength" of the current economy and for economic growth in 2010.  He characterizes the current economy as being "recovered from recession"  and makes some incredulous assumptions for growth in the retail industry for next year.

Based on all of the data that I look at, it would appear to me that the current economic "boom" has been fueled exclusively by direct Government stimulus in the auto, housing and defense/military industries.  The first two are unsustainable even with direct Government intervention; the latter only with continued support of skyrocketing Government debt issuance by those financing our Treasury auctions.

My hunch is that after the holiday season is over, we are going to witness an unprecedented amount of bankruptcy filings in both the retail industry and the white collar service businesses that tend to occupy urban commercial buildings.  This will not be bullish in any way for commercial real estate, as vacancy rates at shopping malls and metropolitan office buildings will spike even higher.  This doesn't even begin to address the growing inventory of multi-family housing units (apartments/condos).  I can say for sure that in the Denver area several have completed development and are begging for tenants.

Back to Ackman, he has made a huge bet on the post-bankruptcy success of General Growth Partners by taking a huge position in its unsecured debts, which will make him one of the largest shareholders when it emerges from chapter 11.   In fact, just today GGP announced that:  "General Growth Properties Inc., the mall owner seeking to emerge from bankruptcy next year, will consider all offers for the company and may sell shares to the public to raise capital" (LINK).  My hunch is that Ackman, sensing the possibility of holding something no one wants (i.e. GGP equity), designed his presentation to throw lipstick on a pig, right before the pig puts itself on the market like a NYC 11th Avenue Princess of the Night ("GGP will consider all offers." Translation:  "I need a fix, I'll do anything you like for some money").

My bigger hunch, based on the empirical data I look at - plus observing actions of smart, inside money like Morgan Stanley - is that Ackman may end up holding the bag with his equity in GGP, especially if the economy drops off a cliff in 2010, as I suspect it will.  The moral here is that if your favorite financial advisor from Wachovia, Wells Fargo, RBC or Raymond James calls you up to pitch REIT stocks, or even this "hot new stock issue from GGP," hang up the phone and change your number as soon as possible.  There is no doubt in my mind, if the Morgan Stanley jingle mail event is any indication, that Wall Street and insiders, who have already dumped billions of REIT paper into mutual funds and retail investors since March, will devote a lot of resources in 2010 trying to unloading even more commercial real estate onto the investing public.


  1. Dave: I still see a number of vacancies in retail space, warehouse space and office space in my area--we have a 162k sq ft new office building finished for a year and zero occupancy, and across the street from that about 360k warehouse space mostly vacant, more than a year old.

    a) wonder what the cash flow ROI is on that and b) when does the bank and/or owners rollover?

    we will put aside what this space available does for rental rates in the area.

    This cannot end well.

  2. Hal, I see vacant commercial buildings all over Denver now. And there's some big projects that still being finished.

    Who the hell is going to occupy all this space? The Chinese?

  3. Here is something else--the other day there were comments about new residential construction.

    The disconnect is when we are out we actually comment when we see a home, or townhomes under construction in that its really rare. So where are these homes being built.

    Also in our area are the two strip centers that housed Wickes, Circuit City and Home Expo-big spaces now empty for a long time now.

    The Village has "given" 1 million to the owner of the center to spruce it up.

    So the problem is multi faceted and now of the actions are positive.

    We have all done discounted cash flows. We know that if you are underwater for an extended period of time especially in the real estate business your ROI never really recovers. Would need some serious appreciation to make things come out right and thats not happening anytime soon based on the bloomberg article you linked.

    I wonder who the lender was on the MS buildings rolled over.

  4. Hal, the lenders to the MS buildings are probably a combination of banks, pension funds and hedge funds.

    The housing starts and permits data is "seasonally adjusted." Don't ask me they can't just report the actuals. Every single county in the country compiles that data on a very timely basis.

    To be sure, I would expect that homebuilders increase their starts a bit, given the uptick in home sales that is directly related to the massive Obama tax subsidy for homebuyers.

    Having said that, HOV just reported the other day and they had horrible yr/yr numbers and were not optimistic in their outlook.

  5. Dave,

    I question whether its appropriate to use five office towers in San Francisco purchased at the height of the bubble as a basis to conclude the outcome of GGP's bankruptcy who has over 200 malls in 44 states.


  6. Justin, I'm not sure where you draw the conclusion that I'm using the MS situation as the only example of what is going on in CRE. Have you read thru Ackman's presentation? Some of his best examples of retail concepts that he's projecting to expand their store base are actually concepts that are in serious same store sales downward spirals, like Abercrombie.

    What I will defend is that what MS did is going to become a very common sight in 2010 and it will exert serious downward pressure on occupancy rates and rents. I would argue that we'll see some very high profile malls across the country file chapter. Prove to me where my thesis wrong. And the commercial disaster is in all 3 sectors, retail, office and multi-family.

    As for how GGP turns out for Ackman, I'm sure based on where they'll try to price the equity "exit," I'm sure he has a nice paper profit built in from where he started buying the unsecured paper. HOWEVER, it remains to be seen whether or not he'll be able to find enough liquidity to exit a significant amount of his equity. If you read thru his presentation (60 slides), I think you'll be in disbelief regarding the rosey outlook for retail that he portrays. Paper projections are what they are - where the hell is middle America going to get the money to spend the amount of money required ot fulfill Ackman's vision?

  7. And Justin, I'm not the only one who sees a trend developing, I read this after I posted my piece:

    "The researchers argued that the pace of strategic defaults is increasing - and that is terrifying for lenders.

    This is what I wrote in 2007:

    One of the greatest fears for lenders (and investors in mortgage backed securities) is that it will become socially acceptable for upside down middle class Americans to walk away from their homes.

    And that remains the greatest fear - and it probably doesn't help that companies like Morgan Stanley are walking away from commercial buildings. As the researchers noted, the more people hear about strategic defaults, the more willing they are to walk away. Zingales was quoted in the WSJ earlier this year:

    “Our research showed there is a multiplication effect, where the social pressure not to default is weakened when homeowners live in areas of high frequency of foreclosures or know others who defaulted strategically”

    We're going to see abandonment of real estate across the board. We're not evenly remotely close to the bottom. I'm sorry if you don't like this view, but I have yet to find someone who can present a case, backed up by data, that things are improving.

  8. Where there is smoke there is fire and there is no better indication of CRE problems than CMBS/REITs being hot right now and the MS walk away news. Classic pump then dump by the banks. Of course the pension/unions in on this crap will come to the taxpayer for a handout, but that it not surprising.

    Leverage can make you go "BOOM" really fast. At a 50% haircut on these properties alone this would wipe out any holder in for a 5-10% stake leveraged up.

  9. From a macro standpoint, i don't disagree, there are certain things to consider that could cause the opposite, specifically in New York City:

    While the dollar remains cheap and global economies begin to recover faster then the US, New York has seen a major uptick in hotel occupancies, which has a direct impact on tourist retail (i.e., 5th ave, times square, etc.). In fact, we estimate that well located retail rents have stabilized and are going to increase in mid-2010.

  10. It's possible NYC is seeing an uptick in foreign tourism and it's helping hotel occupancy rates there, country-wide just the opposite is occuring:

    NYC no doubt got a bit of a boost from all the trillions handed over to Wall Street by Geithner and Bernanke, but it won't lead to sustainable recovery. In fact, I would argue, and the data supports this, that 2010 and has the risk of experiencing and even bigger financial/economic dislocation here and globally than we saw in 2008:

    Calculated Risk is only one of my many sources of data/information, it just so happens that CR had those 3 articles today and yesterday.

    In addition, not sure where you're seeing a "global recovery" occurring. The EU/UK is back on the verge of collapse. Have you looked at the euro/$ action lately? The euro has literally done a cliff-dive. We know what's happening with Greece, Ireland and Spain...

    So between the US and Europe/UK, you're talking about a significant portion of global GDP.

    I'm holding firm to my view that the major risks lie to the downside.

  11. What a double standard. MS sends jingle mail, but they would sue all the way to the supreme court, anyone who did that to them. Since everyone now knows that they will stiff their creditors, why should they expect less? Maybe a good short?

  12. According to my buddy, who is a real estate project valuation consultant in NYC, told me yesterday that MS piled in to commercial real estate in the last few years. I'm sure they'll turn over many more buildings to the banks and pension funds who financed the deals.

    He also said MS typically reduced its cash equity exposure by taking fees for putting together, arranging financing, and managing its property deals.

    He said BofA, Wells and Citi are still sitting on a shitload of construction loans that are marked at par.

    I'm trying to bait him into writing some more stuff so I can turn it into a blog post.