Friday, June 19, 2009

Don't Be Fooled By Housing Start Uptick

The Commercial real estate market is in a heap of trouble and I think this is going to be the next big shoe to drop. How many "For Lease" signs are you seeing in strip malls, and just about all over in general? How many more chain stores are filing Chapter 11 or simply going out of business?

In an eye opening report, David Fessler says this:
On April 17, I wrote about the massive train wreck coming in commercial real estate.

As it turns out, my estimates of the coming devastation - which seemed outlandish to some at the time - have actually turned out to be too conservative.

The problem is far worse than anything that’s been reported so far, particularly when it comes to our icon of consumerism: The shopping mall.

With retail losses continuing to accelerate and vacancy rates skyrocketing, malls are going to be one of the biggest losers from the consumer spending slowdown…

Here’s why our shopping malls, and by extension the commercial real estate market, aren’t going to be moving anywhere but down over the next few months ...

Much has been made of the recent uptick in housing starts in May, but don’t be fooled - this is simply seasonal. In the northern half of the country, foundations can’t be dug during the winter months, so there is always a “spring surge” in housing starts.
And let's talk about rising unemployment because that is going to compound what is already happening in commercial real estate. Higher unemployment is going to further affect the down trend in spending:
The Obama administration predicted that without the recovery plan, unemployment would peak around 9% in 2010. With the plan in place, the estimate was 8%, and that we’d hit it this year…

* The official Bureau of Labor Statistics number is at 9.4%. But even though unemployment rates are easing slightly, the overall number of unemployed is still rising.

* And it gets even worse when you throw in the 2.2 million additional people that are so discouraged they’ve quit looking for work. Today’s number then jumps to 10.8%.
These individuals haven’t even shown up on the rolls yet.

* With few companies announcing even minimal hiring plans, it’s highly likely that the ranks of the unemployed will continue to swell to 11% to 12% sometime in 2010.
In some areas of the country the unemployment rates are much higher.
Fessler goes on to say the obvious logical conclusion:
Less employed workers means less discretionary spending, less homes being built, bought and sold, less trips (or none) to the local mall, less warehouses needed, less manufacturing, less transportation… all resulting in a big pullback in GDP.

Consumers are spending less, not more. When they do spend, it’s on staples: food, gas and clothing.

The normally big-spending teenage segment is currently experiencing a 22.7% unemployment rate. So instead of going to their former favorite hangouts - the shopping malls - they’re hanging out at each other's houses.
We are hearing all sorts of dire predictions from folks like Gerald Celente and Peter Schiff and Nouriel Roubini, etc.... and of course their critics, the folks who want to candy coat the economy for everyone and do the cheerleading for Obama's stimulus and regulation remedies, are saying that Fears of a Commercial Real Estate fallout are just overblown and fear mongering... but you honestly have to look at the reality. Stop listening to the bought and paid for cable news. Listen to what Fessler reports:
there’s always a lag between when the economy heads south and when commercial real estate does. Let’s face it: Some stores can coast for a few months - or even a year - while they wait for a pickup in business. But that pickup isn’t coming anytime soon.

The reality is that many mall-based stores haven’t renewed their leases - their lack of income is forcing their hand. Many others are underwater financially, and only months away from closing.

When national chain Ritz Camera filed for Chapter 11 bankruptcy protection, 300 stores in malls all across the country immediately closed. The result isn’t hard to picture.

* A report from the New York-based research firm Reis, Inc. indicates that retail tenants vacated a 10-year high 8.7 million square feet of retail space in the first quarter of 2009 alone.
* This compares to 8.6 million square feet… for all of 2008.
* Kyle McLaughlin, an analyst at Reis, says that vacancy rates at strip malls, neighborhood centers and regional malls are increasing at rates not seen in 30 years. “We’ve never really seen deterioration of this order in occupied space since 1980. We don’t see much in expectations for improvement throughout the rest of this year and next year.”

- unemployment is still rising, and that means fewer consumers spending less money.

Don’t look to the emerging markets to bail us out, either. The Chinese, Brazilians, Russians and Indians can’t just run down to our local malls to shop.

The problem is made worse by vacant storefronts, which hurt the few remaining stores. When the stores on either side of a remaining store closes, less traffic comes by and, well, you get the picture.

All this puts shopping mall owners and landlords in a big financial squeeze play: They’re forced to drop rents at a time when less money is coming in due to rising vacancies.
These strip mall owners sitting there with their unleased space have huge problems. Not only are they being forced to drop rents, but they have got maturing loans to deal with.
Fessler continues:
Between now and 2011, as much as $814 billion in commercial real estate loans will mature - and need to be refinanced. The problem is that the credit markets are still too tight for most commercial projects.

Most banks have tightened their lending standards, reduced the amount they are willing to lend and significantly reduced the value of the collateral (malls). This leaves many owners with little choice but to turn to the Fed.

Back in May - and with much fanfare - the Federal government announced it would soon be expanding its Term Asset-Backed Securities Loan Facility (TALF). It now plans to include existing securities backed by loans for apartment buildings, office complexes, shopping centers and other commercial property.

But these programs aren’t an industry panacea. If you read the fine print, they provide backing only if the securities are rated AAA by major rating agencies. This excludes just about all the needy real estate - and the REITs that own it - from participating in the program.
Commentors on Fessler's article say this:
All the shopping malls that were built and bought from 2003-2007 were done under the assumption that the consumer had tons of cash to spend via the great housing inflation and the great bank loan scam. These two things will not repeat. There is no easy credit to spend at the malls anymore and it is not coming back. The CRE establishment is hoping that everything turns around in a year. Consumers flush with cash return to the malls to buy junk. That is not going to happen for a long time. All CRE has is hope, there are no green shoots just hot winds blowing across a dust bowl of overbuilt malls. Hoping for rain does not make it happen.
The shoe is falling. The Dana Point, California St. Regis Monarch Beach Hotel has defaulted on a $70 million loan, while lenders have repossessed the “W” Hotel in San Diego. Thus, the spotlight is again refocused on the next phase of the financial crisis, where an army of shoes are falling. A torrent of tenant bankruptcies is creating “see through” buildings in cities throughout the country, which are becoming as abundant as Priuses at an Obama rally. Some players see a further three year bleed that could take property prices down another 40% from here. Large, publically traded REITS have used the three month stock market rally to raise $11.5 billion in new equity that will enable to reduce debt and leverage, as well as buy up of weak competitors and distressed property. Look at Simon Properties Group (SPG), up 128% from the March lows. The saving grace here is that the recent bubble was nowhere as inflated as the S&L crisis in the early nineties. But cap rates may have to climb to the double digit levels we saw then before this period of punishment ends. Cash rich hedge funds are circling.

There are no green shoots just hot winds blowing across a dust bowl of overbuilt malls. Hoping for rain does not make it happen.

Green Shoots?
We haven't seen the bottom of this market folks - not by a long shot. With rising unemployment this is going to get a lot uglier. Just remember all of the encouraging stuff that was said on the way down to the bottom after the 29 crash...

Save your money ... you are going to need it.

That's not fear mongering - that's facing the truth and being prepared to deal with it.

Of course the Obama administration will want to step in and control this segment of real estate - probably by regulating what landlords can charge for retail space.... and of course appointing a "Mall Czar" (My teenage daughter might fit the bill for this position based on her familiarity with them)

Related Story in Yahoo News: Retailers Head For Exits In Detroit
and in CNN Money: Jobless Rates Rise In Nearly All States