On January 21st, 2009 a panel of five real estate experts discussed the current state of the real estate market. Moderated by Earl Webb ‘81, CEO of the Capital Markets group of Jones Lang LaSalle, the panelists shared what they are doing to weather the current market as well as their thoughts on where the opportunities lie and what needs to happen for the real estate market to come around.
Mr. Webb set the stage with a presentation summarizing recent trends that led to the credit crunch, offering broad recommendations to remedy the situation. One of the slides showed a chart with U.S. corporate debt maturing during the next four years, which averages between $200 and $300 billion annually and could lead to a prolonged credit crunch as property values decrease below the value of the debt. The solution, Webb pointed out, entails new regulatory framework, tighter underwriting, and monetary and fiscal stimuli.
“Bad with a big ‘B’” was how Erwin Aulis ’82, chief operating officer of Northwood Investors LLC, described the current state of the real estate market. Although his firm recently launched an opportunity fund and has capital available to invest, lack of price transparency has made it difficult to make acquisitions. He expects commercial real estate property values to drop by 40% from their peak, and believes that 2009 will be a period of “price and return discovery.” The other panelists agreed that there is capital sitting on the sidelines waiting for prices to hit bottom, but offered no prediction as to when that would happen.
Part of the reason large transactions have not yet taken place is that banks are working with reputable players in an effort to avoid foreclosure, explained Jay Weaver ’95, principal at Walton Street Capital LLC. Rather than looking at property level investments, opportunities, he said, lie on the debt side. While there may not be many properties for sale at fire-sale prices, opportunities are emerging to purchase their debt at discounted prices, which would essentially give the buyers control over the property.
William Sullivan ’83, chief financial officer of Prologis Management, Inc., said his firm is focused on reducing risk by creating as much liquidity as possible and deleveraging their balance sheet. Despite maintaining loan to value ratios of about 50% historically, for publicly traded firms like Prologis, “even that is too high today,” said Mr. Sullivan. After successfully expanding globally to Asia, Prologis recently sold its China operations and its investment in Japan funds in an effort to generate liquidity.
Robert Underhill ’84, managing director of the Capital Transactions Group for the Shorenstein Company LLC, commented that publicly traded firms are suffering from systemic risks that private firms are not exposed to. In his opinion, private firms have a temporary advantage over public firms due to the discount that the market is assigning to public firms, which may arise from universal fear of the equity markets, to which private firms are not exposed.
Mr. Underhill’s benchmark for valuation today is replacement cost. Given the uncertainty and inability to accurately assess a property’s value, valuation methods employing cap rates or the capital asset pricing model are not appropriate in today’s market.
Going forward, the panelists concurred that their strategy will continue to revolve around de-leveraging and cautious investing, waiting for the right investment opportunity. There seems to plenty of money waiting to be invested, but no one seems to be rushing to buy until there’s more certainty as to what assets are worth. Other opportunities for individual investors could lie in high quality REITs with low leverage, assuming at least a six year holding period.