By Rocky Tarantello
Investors Will Proceed at Tempered Pace
Along the Road to Economic Recovery
LIKE MANY IN THE INDUSTRY, I HAVE SPENT YEARS
attempting to perfect my knowledge and understanding
of the commercial real estate and financial markets. The
foundation of our views rests upon years of experience
and education that now appear to offer little help in making accurate predictions about when we may expect a
reasonable recovery in the markets.
Much of the difficulty is a result of conflicting signs
of continued decline and indicators of recovery. Take,
for example, the current default and foreclosure rates.
Residential data show the rate of default at 12%, with
subprime default rates as high as 50%. Home prices
have declined as much as 40-50% in some markets.
Commercial defaults are running near 6% and are
expected to rise throughout the year as borrowers face a
Balance sheets have been decimated and
this will have a profound effect on the psyche
of those charged with decision making.
shortage of willing lenders to refinance maturing debt.
Clearly, price adjustments in the commercial, industrial
and investment markets are beginning. Institutional investors are finding price adjustments as high as 20%, with
further deterioration in values expected as the demand for
space declines and companies postpone hiring. The most
recent unemployment figures are also at a 25-year high,
nearing 10%, with little chance for a job recovery until next
year at best; hardly a recipe for increased demand for real
estate at any level. Yet at the same time, home sales are
picking up, demand for unemployment benefits are finally
declining and consumer confidence is on the rise.
In the short run, it is hard to imagine that the demand for
real estate assets holds much attraction for homebuyers
or investors. Real estate is suffering from the dual impacts
of declining demand for space and capital shortages. Until
vacant space shows tangible absorption and inventories
decline, there can be little hope of price stabilization. Yet
with residential resale inventories showing signs of recovery and unemployment leveling off, demand for homes
and commercial space is likely to rise within the next year.
The availability of mortgage capital to fund the recovery
is less certain. First there is the question of how the new
regulatory regime will impact mortgage underwriting and
credit availability. Congress and the Administration have
yet to define their intentions other than to say that it must
and will be restructured. How this will affect debt to equity
requirements, rates and risk tolerance is not clear.
And until the surviving regulated lenders are able to
meet their new capital requirements subject to remaining
TARP commitments, it’s unclear if lenders will re-enter
the markets in any meaningful way for the next several
years. If so, where will borrowers find the necessary funding to finance the recovery? With massive federal deficits
and unprecedented spending, the Federal Reserve is
charged with an almost impossible scenario of money
management. Unless Congress is willing to substantially
cut spending, or increase taxes to retire the debt, inflation
is sure to be a significant factor in future investment decisions. Should that be the case, real estate offers one of the
best alternatives for prudent investors. And therein lies the
dilemma—the uncertain risky short-run versus the likely
and prudent long-run benefits of property investments.
Fear and greed are two words often used to describe
the emotional basis of investing. But I would hasten to
add a third aspect to the current economic climate facing
investors: wealth destruction. Through declining home
values, stock prices, wages, business or investment
incomes—no one has been immune. This will have a profound effect not only on the availability of capital, but also
on the psyche of those charged with decision making.
Against the further backdrop of federal intervention in
mainstream businesses from banking to manufacturing,
it’s nearly certain that investors will proceed with extreme
caution. Just how this will impact the recovery is difficult
to say, but it is unlikely to speed things up. Balance sheets
need time to be restored, albeit slowly, and uncertainty
regarding government intervention must be removed.
Neither of these things is currently evident. Things are definitely getting better, but the road ahead is a rough one. ◆
The views expressed in this column are those of the
author and not necessarily REAL ESTATE FORUM.
Rocky Tarantello is president of Tarantello & Associates,
which is based in Canandaigua, NY. He may be contacted at