Tuesday, December 22nd, 2009
2010 is almost here! I pride myself on being an optimist and always looking for the good in life. Therefore, I am heading into the new year with hope that even though 2009 was a difficult year for everyone, I think 2010 will be an improvement. I am not suggesting that the economy will come out of this crisis overnight, but I do think that we have bottomed and that in 2010 will see the start of a recovery.
This is the first in a series on what to expect in 2010. The post below was written by Joel Levy. Joel is the Vice Chairman and former President of the Adler Group. He has worked with my family for over 25 years and has been a significant mentor to me. Having managed dozens of commercial real estate acquisitions and dispositions over three decades, Joel is uniquely qualified to offer thoughts for the new year. I intend on posting my thoughts and other guest posts over the coming weeks.
Some Thoughts on 2010 — Part 1
By Joel Levy
There are no lack of issues to discuss about commercial real estate and countless opinions as what to expect in 2010. In Matthew’s previous blogs, there has been a lot written about “Distress”, whether it be distressed assets, debt, owners, lenders, etc. etc. I however want to focus on one of the areas Adler Group intends to emphasize in the year ahead.
In 2009 we attempted to acquire properties from certain sellers who we did not believe were distressed, but who appeared ready to shed assets for various strategic reasons. It could have been a need to raise cash, a desire to sell an asset not core to their business or a desire to exit from a particular market. Let me report that as of now we have not been successful in this pursuit. Why you ask? It is really simple, an insurmountable spread between bid and ask. However, we now think that a narrowing of this spread is on the horizon. Are we being too optimistic or naïve? I hope not.
We have heard many opinions from various real estate professionals, and based on their and our own opinions we look to the new year with some optimism as to the narrowing of the pricing differential. Some of the issues are as follows:
- There is a very large amount of capital that has been on the sidelines or is currently being raised. We are believe that buyers will lower their return expectations and be more active acquirers.
- All signs are pointing to their being more available debt at better rates and slightly increased loan to value ratios.
- Sellers will be under more pressure to dispose of assets to fulfill their strategic goals as noted above. Many of the assets have recently been marked to market, making it easier to justify disposing of assets at lower prices.
- Although gradual in its impact, economic signs are improving and there will be an ability to underwrite a bit more positively.
While we intend to continue to pursue this path, we will also be in a pack of investors looking at distressed assets and debt.
Stay tuned for another interesting ride in the year ahead and more posts about the new year.
Tags: 2009, 2010, acquire, Acquisitions, Adler Group, assets, bid and ask, capital, commercial, Commercial Real Estate, crisis, debt, dispositions, distressed, hope, improvement, lenders, loan to value, marked to market, market, new year, optimist, owners, predictions, Properties, recover, return, sellers, spread, thoughts, year
Posted in Commercial Real Estate | 1 Comment »
Tuesday, September 29th, 2009
On September 15th the IRS issued new guidance on the modification of commercial Mortgage backed securities (CMBS) loans. Though, largely unnoticed outside of real estate circles, this was an important first step in addressing the pending maturity of hundreds of millions of dollars of CMBS debt in the coming years. I wanted to post something on this topic but before I got a chance an attorney of ours, Wythe Michael with Hirschler Fleischer in Richmond, Virginia offered an article he wrote as a guest blog. I hope this is the first of many guest posts.
Modifying Securitized Real Estate Loans - New Guidance Provides Flexibility
By G. Wythe Michael
Over the past decade, many commercial real estate owners financed the purchase of commercial real estate with loans that were securitized by the original lenders as commercial mortgage backed securities (CMBS). Although these loans offered advantages such as lower interest rates, limited recourse and limited guarantees, the tax regulations governing the associated conduits severely limit the ability to modify the terms of such mortgages. In general, the tax regulations prohibit loan modifications unless the modification is due to a default or a reasonably foreseeable default. The tax regulations can impose still penalties - including the possible loss of favorable tax status - on the conduits (but not the borrowers) if the regulations are violated. Because there was little guidance from the IRS concerning what constituted a “reasonably foreseeable default,” loan servicers have been reluctant to discuss loan modifications until an actual default occurs.
With the collapse of the CMBS market and the lack of other financing options, borrowers attempting to negotiate with loan servicers prior to the maturity date of their loan have been ignored by the servicers or told that nothing can be done until loan maturity - when the loan defaults. The servicers generally blame their unwillingness to negotiate on the tax regulations. Given that approximately $150 billion of CMBS loans are scheduled to mature between now and 2012, numerous industry participants asked the IRS to ease the regulations.
The IRS responded to this situation by issuing guidance on September 15, 2009 concerning modifications to CMBS loans. In general, the guidance allows servicers to modify loan terms if the servicer “reasonably believes that there is a significant risk of default of the loan at maturity or at an earlier date.” A servicer must document this belief by written facts provided by the borrower. In such a case, the servicer may modify the loan if the servicer reasonably believes that the modified loan will substantially reduce the risk of default.
(more…)
Tags: bondholders, CMBS, commercial, default, foreclosure, IRS, loan, maturity, modifications, real-estate, servicer
Posted in Commercial Real Estate | 1 Comment »
Friday, September 18th, 2009
I may have published my last post a few days too early. I spent this week at the Young President Organization’s (YPO) Real Estate Round Table. It was a gathering of members of YPO who are in the real estate business. After being around people from all sectors of the industry for three days, my take away is there are two clear distinct camps.
A fair amount of people are convinced that great opportunity in the distressed real estate market is right around the corner. Others believe that the opportunity is years away, if ever. I am trying to reconcile these seemingly divergent opinions.
Most of the confusion is being caused by the great unknown, what happens to the trillions of dollars of commercial loans that need to be replaced in the coming years. Obviously, we are experiencing a significant de-leveraging of assets. The loss of leverage will need to be replaced with a combination of equity and/or loss in asset value.
The big question is: How does de-leveraging impact property values now and into the future? The lack of an answer to this question, I believe, is largely the cause for the present lack of transaction volume. The spread between the bid and ask price is still wide because buyers must project this future distress into their pricing. In addition, lenders are not yet prepared to realize significant losses. To date, banks and special servicers who control CMBS debt are not selling distressed assets or loans in any significant way. Property owners who purchased assets from 2005 - 2007 either have lost most of their equity or are holding off hoping things will improve.
So will transaction volume increase in 2010? I think we will see activity and more assets and notes trade. I am not expecting the RTC 2 frenzy that some have been expecting but there will be deal flow. The only way to participate is to be conservative and stay in the market. Only while in the market can one ever hope to participate at the bottom.
Tags: 2010, assets, CMBS, commercial, de-leveraging, distressed, equity, leverage, loans, opportunity, real-estate, value
Posted in Commercial Real Estate | 3 Comments »
Tuesday, September 15th, 2009
Today, real estate companies fall more or less into two categories: ones crippled with distressed assets and those trying to purchase those assets at steep discounts. We are fortunate to be in the latter.
Every day we hear of a new company forming a distressed real estate fund. Just last week Sam Zell announced the latest of these ventures. We are also in the process of raising our own commercial real estate investment fund. However, while we plan on having a distressed allocation, our acquisition strategy will primarily focus on performing assets in the core plus and value add category.
At the Adler Group, we have a saying about this market: “we don’t want to buy distressed assets. We want to buy high quality assets, from distressed sellers”. Today at the Adler Group, we are focused on performing assets for a number of reasons. Our primary rationale for adopting this investment strategy is our experience. We have been successful in developing, acquiring, managing and leasing multi-tenant, management intensive commercial real estate for generations. Distress in the market place isn’t a reason to depart from our core competency.
Our other reason is risk. The investment management business is primarily about diversity and asset allocation. We believe that all the money raised targeting “opportunistic” returns will compete for many of the same deals. The competition for distressed deals may lead some to overpay for properties, thus over estimating the potential “risk adjusted return”.
On the other hand, with many focused on distressed properties and other historic buyers having left the market, few are focused on performing assets. We project the targeted return on core plus and value add acquisitions to be 400 to 600 basis points higher than these same categories in 2007. These higher targeted returns are theoretically intended for the same corresponding risk category. However, there is no question that with less leverage and more conservative underwriting there is actually less risk. So in this cycle, we hope to make acquisitions taking less risk than years ago while targeting a significantly higher return.
Our company culture has always been to focus on singles and doubles rather than the home run. We believe that the potential return on the acquisition of performing assets in the coming years will be attractive, particularly when compared to other investment alternatives. We would be very happy to make relatively conservative acquisitions and achieve a return above sixteen percent. If that turns out to be a single, I’m happy to be Ichiro and hit for average and leave the home runs (and the strike outs that inevitably accompany them) to others.
Tags: Acquisitions, asset allocation, assets, commercial, core plus, distressed, fund, opportunistic, real-estate, value add
Posted in Commercial Real Estate | 2 Comments »
Thursday, September 3rd, 2009
The cliché I hear most often these days is that “commercial real estate is next.” I assume it’s being used to make a direct comparison to the distress in residential markets. I just don’t see a lot of similarities between the current residential and commercial markets, however.
Residential real estate is largely the cause for our international economic crisis – commercial real estate is merely a symptom. Over-building, investor speculation and insane lending were the catalysts for a global recession, the likes of which the world has never seen.
Yes, commercial real estate owners face significant challenges. The triple threat of cap-rate deflation, maturity defaults and tenant performance are daunting. However, commercial real estate doesn’t have close to the same absorption issues residential is facing. We just didn’t see excessive speculative development in the last 20 years.
In addition, although lenders got carried away in commercial, we are not talking about negatively amortizing 100% loan-to-value (LTV). At its worst, commercial lenders were originating debt with interest only at 80% LTV. However, those loans still had debt service coverage ratios. The threat in commercial real estate, by in large, is with maturity defaults; an inability to replace debt at the end of the term. This is far different from the 50% or worse write-downs we are seeing with some residential projects.
This is going to be a challenging time. Commercial properties will continue to lose occupancy and experience lower market rents. Retail and Class A offices will certainly be the hardest hit. Although the distress in commercial real estate will be painful, it will be nothing like the disaster we have seen in residential.
This economy is challenging enough and simplifying conditions to cute clichés may serve the needs of the commentators and pundits, but doesn’t serve the public good. No, commercial real estate is not immune from the economy, but it certainly isn’t next.
Tags: commercial, economy, real-estate
Posted in Commercial Real Estate | 1 Comment »
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