What do MB 6th graders want at ‘the Hollywood’?

I was invited to speak to the 6th grade class at Mountain Brook Elementary to discuss our redevelopment  of the former PT’s/Mexico Lindo property aka ‘the Hollywood’ and to conduct a survey of the type of tenants they’d like to see in the project.

The kids were prepared with great, insightful questions.  They each took home a survey prepared by Ms. Millhouse for the kids and their parents to vote for a restaurant catagory they’d like to see in our center.  A week later, they presented me with the results.

You can see their report by clicking here:

*****the Hollywood MB Class results*****

Thanks to all the kids, parents and their teachers for your input.  Keep watching this blog and we’ll keep you updated on our progress!

Learn From Past Mistakes

A couple months ago a local broker emailed this document to me: Trammell Crow-Lessons Learned (click here to download) He said it was a must read, very applicable to our current state of the market.   After digesting the 90 pages, I felt like someone from the past had just sent me a ‘How to Survive in a Real Estate Slow Down Manual’ with the subtitle of ‘learn from my mistakes’.  For CRE nerds like me the info contained is pure gold and amazingly prescient.

The Background: during the late 80’s Commercial Real Estate in Texas and the Southwest went though a complete melt-down.  I won’t go into the history of that event, but right in the middle of it all was Trammell Crow.  They had offices in all the major cities with an inventory of hundreds of properties suffering.  In 1989 the head honcho at TC sent a memo around to all operating partners in the Southwest requesting a brain dump of all the things they did right and wrong during the slowdown.  Essentially a list of lessons learned. 

After reading this I was struck by how quickly our industry forgets things (20 yrs) and how history always repeats. I encourage all of you who are owners, brokers, bankers or investors in CRE to read this document and benefit from those that have already walked down the path we are now on.

For those of you who don’t have the time or would like the ‘Cliffs Notes’ version, here are my top take aways (quotes from the many memos):

• Pride kept us from cutting projects, debt, rents, and overhead in a timely manner (psychologists have proven that human psyche will take enormous risks before it will admit to a loss – “press the bet on the last hole” – “hidden odds for the house in Vegas” – etc.).
• Certainly, a good market tends to hide ones mistakes while a bad market overly dramatizes them.
• Doing or buying marginal deals because the money was available.
• Keep a conservative strategy as to bad times.  Generally, we did not know we were in a bad market until it was very bad.  Remember, it doesn’t pay to say “it can’t get worse or last much longer”.
• Make every deal at the best rate you can.  The deals we made in the early months of the downturn now look like great deals in retrospect.  At the time we did not feel good about most of them, but today they are our best deals.
• Lease, lease, lease – keep your building lease.  Occupancy helps cover taxes, insurance and other costs that we pay during vacancy.
• Don’t believe that just because rents have gone up at 5% per year for five years that they can’t or won’t drop 25% in one year.
• Don’t put too much faith in a single lender.  Despite the myth, large banks do fail and the new guys are not necessarily fair to you just because you are their customer.
• Don’t buy too soon when things are going down.  For example, we offered a contract for $22 per square foot in 1987 that we’ll probably get for $17.50 per square foot this year.
• First markdown is the smallest.
• Do not lag a market decline in rental rates for signing leases.  If rents are falling, address it quickly.  The longer you wait, the more expensive it gets.
• Work renewals hard and early.
• Do not do a project just to do something – maintain careful underwriting standards.
• Take more aggressive position with banks and other lenders sooner as opposed to later
• Be willing to make the tough decisions on projects and personnel.  The first markdown is the least expensive.
• One bad project can make up for five good ones.
• When the office, retail and industrial absorption softens and rental rates decline, the land values decline at an even greater rate.
• Do fewer deals and do them better.
• One way to stay financially healthy is to “sell too soon”.
• We made a bet that the market would come back in 3 years and tried to bottom fish.  When you don’t have staying power and the market stays bad, you turn into the fish.
• We made a bet that there is a reasonable sale market at all times in any market.  We have found that just when you most need to sell there is no market.

And I love this one……

• Without question our perceived need to keep busy (working, deals, leases, etc.) caused us to spend and commit unnecessarily.  We would have been far better off to have played golf on some days rather than doing a deal.

Letter to the Editor

Below is a letter I sent to the Birmingham Business Journal to accompany their Annual Commercial Real Estate Deal of the Year Award:

“My nomination for the Commercial Real Estate deal of the year? The one that didn’t happen. This year has reconfirmed that old axiom that occasionally the best deal you did is the one you didn’t do.

I can think of a number of announcements I read nine months ago for new class A office buildings, retail centers, and industrial projects that were to break ground this year, only to be shelved for now. These projects may not have happened due to lackluster lease-up, difficulty in arranging financing, higher than expected construction costs, or just a negative “gut feel” by the developer. How smart do they look now? I can assure you that those developers and their lenders are thanking their lucky stars that they didn’t break ground.

Taking it a step further, the owners of the existing supply of buildings here in Birmingham are also thankful there isn’t more competition coming online. And that’s one of the great things about Birmingham, we’re not a boom/bust town like our larger sister cities. Our developments have been built by mostly home-grown folks who have a good feel for what our market will bear. We don’t seem to attract as many out of town developers and therefore have less volatility.

You’ll read a bunch over the next year about the coming Commercial Real Estate bust that will follow the residential melt down. While I can see how many of the Commercial Mortgage Backed Security Loans were aggressively underwritten over the past few of years, I don’t think we have an excess supply problem. To put it another way, in past CRE downturns, developers sewed the seeds of their own demise by overbuilding. This time is different as supply and demand were in equilibrium for the most part when we entered the recession. It will be interesting to see how this plays out.

It is my belief that if you were a smart shopper during the past 5 years, you didn’t overpay based on rosy rental assumptions and you didn’t over-borrow, you should be fine. Conversely, if you bought a deal that only works if rents grow, you are going to feel some pain when your loan renews. It all goes back to being conservative, planning for the worst and hoping for the best.

So congratulations to all the winners listed in this edition and an honorable mention to those of you who had deals that you didn’t do!

Derek Waltchack is a principal at Shannon l Waltchack Investment Real Estate, a local company that aquires, develops and manages commercial real estate. He can be reached at dw@shanwalt.com.”

A new buyer class is emerging in CRE

Sovereign Wealth Funds (SWFs) are expected to become one of the most significant investors in the world’s commercial property markets, potentially investing as much as $725 billion during the next seven years, according to a new global report from CB Richard Ellis Group Inc.

Although more than half of the SWFs are believed to already hold direct commercial real estate investments, allocations to the sector are expected to rise substantially. The potential impact on the global real estate market is significant.

“With nearly $4 trillion of total assets currently under SWF control, a 7% allocation would mean worldwide commercial real estate investments totaling $280 billion,” said Ray Torto, chief global economist at CB Richard Ellis. “To put this number in context, the entire U.S. institutional-grade property portfolio owned or managed by investment managers and plan sponsors is valued at approximately $330 billion today.”

“Looking to the longer term, the SWFs’ potential for future property investment is even more significant. It has been estimated that the SWFs could reach total assets of $12 trillion by 2015,” Torto added. “A 7% allocation implies SWFs would make approximately $725 billion of net property investments over the next seven years.”

The influence of SWFs should be felt across the world. In order to achieve target allocations, SWFs will need to diversify future investment widely across geographies, sectors and investment vehicles. Thus far, SWF property investments have been largely concentrated in the U.S. and the Middle East.

“Although SWFs are likely to continue to focus on core real estate product in major markets, they will have to put capital to work in new geographies and emerging sectors. Favored future destinations are expected to include Japan, the U.K. and other countries with currencies that are not held in the SWF’s foreign reserves,” said Michael Haddock, director EMEA research at CB Richard Ellis.

“However, SWFs will have to look to both the indirect investment market and the debt market to fully meet their objectives in the real estate sector,” Haddock added. It is also very possible that we will see outright acquisitions of property companies – listed and unlisted – as a way of assembling a significant direct real estate portfolio rapidly as well as acquiring the property management infrastructure to go with it.”

Based on the SWFs’ existing approach to, and established investment profile in real estate as well as the experience of other major real estate investors, CB Richard Ellis estimates that the SWFs’ projected new investment is likely to be distributed as follows:

“Direct investment is expected to continue to make up the largest portion of the SWFs’ real estate exposure, but as they venture into more locations and more sectors, they will increasingly follow alternate routes into these markets. In particular, unlisted property funds will attract a growing proportion of the SWFs’ real estate allocations,” Haddock said.

….Source Co-Star http://www.costar.com/News/Article.aspx?id=98DBFFA0C1EE3BCC5F0253B04DB438F3#num4

….buy when there’s blood on the street

CMBS Issuance Drops to 1996 levels

Issuance of commercial mortgage-backed securities for the first half of 2008 totaled just over $12 billion, a level last seen in the first half of 1996, Moody’s Investors Service reports. The first half issuance is also 91% less than the issuance of about $137 billion for the first half of 2007.

Not only is issuance of the securities down, the pipeline is also dry considering that conduits have to compete with portfolio lenders who are offering borrowers interest rates that are 1.5% below the rate necessary for conduit lenders to break even on deals.

Even then, nobody expects the CMBS vehicle to remain dormant forever. “Most market participants, including Moody’s, believe that the industry will survive, but in a simpler, scaled-down form. It will be a very long time, if ever, before the industry sees issuance volume in excess of $200 billion again,” the credit rating agency says.

So when will the market pick up again? There could be a modest uptick in the second half of 2008 after portfolio lenders use up the money they have allocated to commercial real estate for the year.

For a more sustained revival however, investors will need to feel comfortable with commercial real estate prices and be convinced that the worst is over for the sector.

Until the negative sentiment in the credit markets runs its course and a true bottom is discerned, investors will continue to remain on the sidelines. Considering that commercial real estate reacts to economic conditions and is a lagging indicator, it could take another year or two for investors to jump back into the game.

Source: National Real Estate Investor

 

Commercial Real Estate ain’t Residential Real Estate

The Wall Street Journal stated, despite declining property prices and the weakening economy, the nation’s commercial real estate sector appears to be holding up. According to Moody’s Investors Service, upgrades of bonds and structured products backed by U.S. commercial property mortgages outnumbered downgrades in the first six months of this year, although the vast majority of ratings actions were affirmations. Moody’s upgraded 234 portions, or tranches, of debt and downgraded 123, while affirming 1,452 tranches of such notes.

a monthly must read….

Overtime some advice and commentaries prove to be vastly more accurate and prescient than others.  One guy I follow very closely is Bill Gross, Managing Director of Pimco, a global investment management firm with more than $829.5 billion in assets.  He writes a monthly investment outlook that can be read on their website or can be downloaded on Itunes.   

You’ll find it not to be the easiest read, but well worth your time: http://www.pimco.com/LeftNav/Featured+Market+Commentary/IO/2008/Investment+Outlook+Bill+Gross+Mooooooo+August+2008.htm

How To Survive, and Perhaps Even Thrive, In a Bear Market

Click here for a very insightful article containing advice and perspective on investing in Commercial Real Estate during this down market. Incidentally, the vast majority of this article mirrors our investing philosophy. We’re very excited about the opportunities we are finding in this market.  

Some Hopeful Economic Signs

Are the new, higher prices for food, oil and metals here to stay? Or are these commodities in the middle of a speculative bubble? Unless you live in Houston, Dubai or Nebraska, you hope its a bubble. Below are two articles that argue these new higher prices aren’t here to stay. Let’s hope they are right.
Could oil mania be coming to an end?
Déjà Vu: The Fed’s Interest Rate Dilemma