The Current Situation

The national economy contracted during the 3^rd quarter, and one can expect a further contraction for at least another three quarters. Non-residential fixed investment for 3^rd quarter 2008 is down about 1%. Changes in Business Inventory have been decreasing for the past 4 quarters. Corporate after-tax profits seems to have topped out, and will probably be decreasing for the near future. The spread in corporate borrowing costs with LIBOR (London Inter Bank Borrowing Rate) has been increasing to unprecedented levels, reflecting the credit problems in today’s markets.

The increased job loss as well as an increase in productivity is a leading indicator and is adversely impacting that national office market. Net office absorption has been down for the last 2 quarters and vacancy rates have increased to just under 13.3%. Rents are flat and cap rates are around 7%.

Perceived personal wealth is decreasing. Stock market valuations are at the levels of about 3 years ago. Nationally, housing values have declined for the first time since the 1930”s (although Oklahoma housing values are holding steady.) Wealth decreases combined with declining jobs has lead to a decrease in Disposable Personal Income.

Consumers are tapped out and personal consumption is decreasing. Vehicle sales, normally about 16 million units, are down about 25%, more for Detroit cars, less for others. Retail sales growth, excluding autos, is close to zero. It was suggested that one reason the previous stimulus package was less successful that expected was that rather than spending the money on consumer goods, a significant majority of consumers used the tax refund to pay down debt, in effect, increasing the savings rate for the first time in decades.

A key negative factor for this recession is not just a credit contraction, but a credit stoppage. The role of securitization in the credit market has stopped and may not resume except for those related to housing and backed by organizations under the auspice of the Federal National Mortgage Association. From a commercial standpoint, about 50% of commercial credit was backed by banks, 22% commercial mortgage backed securities, 9% insurance companies, and 9% GSA/ The private mortgage backed securities market for both commercial and residential uses has stopped.

From a retail standpoint, many retail firms are finding it difficult to borrow for working capital; it was suggested a significant reason for closing stores was that there was not sufficient working capital to purchase inventory for the Christmas season for all stores.  Additionally, while Wal-Mart same store sales are up, the same can not be said across the board; lending to a conclusion that consumers are becoming more price conscious.  These factors have lead to a national decrease in retail absorption for the past two quarters, with national retail vacancy rates above 9.8% (Dallas, Ft Worth and Houston are significant markets above the national average).  Nationally, retail property transactions have been decreasing since the 2^nd quarter of 2007, with average Cap rages around 6.8%, presumably increasing to cover increased anticipated risk. 

While productivity is still increasing, about 1.5% increase in the 3^rd quarter, productivity rate of increase is down significantly from the 2^nd quarter’s 3.1%.  Industrial vacancy is approaching 10.5% nationally, with negative rent growth.  Cap rates are around 7.25%

The only somewhat bright spot is the multifamily housing market. The US population is growing about 3 million a year, and housing starts are flat. However, there is a significant slowdown in housing formations – more people have roommates, either friends or are moving back home. Nationally, rental demand us up, vacancy rates are steady at 5.4%, rental growth is about 3% annually. Cap rates are about 6.5%

Things impacting the Short Term

 It is expected that the Obama administration will, based on campaign rhetoric, significantly modify or eliminate 1031 exchanges in the near future. Since about 95% of money for Tenant In Common exchanges come from 1031 exchanges, it is expected that TIC will become increasingly less significant in the market

Employment Data nationally is up to an unexpected degree; on the first day of the conference, it was announced that national unemployment had increased 240,000. Anticipate at least 1 million more job cuts during the next 12 months; however, if we do not see a seasonally adjusted upturn in January, unemployment may increase to 3 million. The October 2008 unemployment rate of 6.5% is now higher that the corresponding period during the last recession.

Things impacting the Long Term

According to Douglas Duncan, Chief forecaster of Freddie Mac, the federal agencies are not currently involved in any forward looking policies studies aimed at looking to provide long-term fixes to the problems; rather they are looking at trying to fix today’s problems.

There is a current over-arching problem in the residential market, that of over-leveraging (ex. 110% loans).  Whether there is a similar over-leveraging problem in the commercial markets will not be known until the 2015 to 2017 time frame, when commercial securities will roll-over on loan requirements. 

2015 is when net it is forecasted that net cash contributions to social security, Medicare and medicate will go negative.

Leading Indicators to Follow

In institutional markets (the top 27 or so metropolitan areas in the US), the condo market is a good leading indicator of the shape of the housing market.  Because most condos are second homes or investment properties, condos are more liquid that single family homes – the owner of the condo does not need to find a replacement home to move into after the home is sold.

When looking at long term fixes, some policy changes will impact the balance sheet and others will impact the income statement. For example, the problem of people losing their jobs and not being able to make mortgage payments is an income side problem. The problem of banks needing to write off junk status mortgage backed securities is a balance sheet problem. When you are tying to develop a fix for an income statement problem, one needs to be sure that there are no unintended consequences on the balance sheet. For example, lowering marginal tax rates, an income statement issue, would in today’s market not impact demand for housing.