My apologies for such a lengthy absence from my blogging activity, I trust our posting of articles has been informative and a source of quick reference points.
Highlights from last week included the revelation that Blackstone will begin the process of shedding its office portfolio. The interesting aspect of the announcement/article was the acknowledgement that many of the assets were purchased at the peak of the office market and valuations have now returned to pre-Recession(Depression) levels. I would submit that valuations are being driven by capital flows and not underlying real estate fundaments. Would the following aspects of our economy typically drive real estate values?
- Record high unemployment that has shown little signs of improvement
- Europe in a mess with Greece, Spain and Italy faltering
- Ireland remaining in a malaise
- UK booming due to Olympics (what happens after the Games)
- Extreme political uncertainty with strong leftist leanings
I could continue, but you all read the news. So what is driving core real estate valuations? My theory:
- Where can institutional investors get yields over 4%? I am not an investment professional but I would assume that yields over 4% come with rather inflated risks.
- Fixed rate debt financing can be obtained with 40% equity, at sub 4% interest rates for the core real estate we are seeing trading.
- POSTIVE LEVERAGE and no good alternative investments, at least I can see an office building and it is not filled with the mystery of derivatives (JPM learned a lesson on this)
Interestingly, there is another side to the story. I recently advised a small town real estate owner on a liquidation of his family’s holdings. The cap rates we discussed and agreed upon were in the 11% range. You borrow at the local bank at 5% and your POSTIVE LEVERAGE looks like Apple stock. But think of the money the seller has left on the table due to the inefficiencies in the local real estate markets.
I honestly cannot decide if I am positive or negative, however I do think opportunities exist with a working knowledge of the math I mention.