A look back at the real estate recession

At the peak...

In December of 2022, we made 10 predictions about how the real estate market was at a turning point: values would fall meaningfully, gated equity would emerge as a dominant theme, debt markets would stall, multifamily would begin to shake, and co-working would finally face the music.

The industry continues to grapple with these issues 20+ months later.

Here's a road map of the commercial real estate industry's evolution over the last 20+ months, as told by our posts during those months.

Stalled transaction activity

...leasing revenues fell by 14% in 2022 and capital markets revenues fell by 48%. Executives consistently messaged that activity would continue to be slow for at least the first half of 2023 with an expected rebound in late 2023. And cost cutting will likely be a theme for 2023.

Want to know how much transaction activity is falling? (March 3, 2023)

SVB shakes the financial world

SVB's failure has many pundits asking if we're heading into a replay of the financial crisis. For better or worse, today's challenges are different. Losses are mounting from the liquid portion of bank portfolios (the safe stuff!), not because of credit issues but because of rising interest rates. Higher interest rates mean lower bond values, which aren't necessarily important unless banks have to sell at current market levels to generate liquidity. Unfortunately, that's exactly what is happening; depositors are tapping into the record amounts of cash they piled up at banks during Covid. Also, banks have increasingly invested in bonds (up 25% since the GFC), but the value of those bonds (a primary source of bank liquidity) has fallen by 10-20%.

Bank failures = Financial Crisis 2.0? Not necessarily (March 10, 2023)

"Negative Leverage" emerges

With cap rates hovering around 5% and 2-3% (ish) annual income growth, total returns are likely hovering around 7-8%. The cost of debt is also hovering around 7-8%. Therefore, total returns are projected to be 7-8% (with or without debt), which is about half of what they were a year or so ago when 3-4% debt led to leveraged returns of 15%+.

"Negative leverage" in perspective (April 6, 2023)

This time IS different

There will almost certainly be a spike in delinquencies and defaults due to lower property values, flattening rents, and higher operating expenses. ...but this time is different for banks, insurance companies, and CMBS, which account for about 90% of the mortgage market.

Beware of "commercial real estate implosion" headlines (April 7, 2023)

A barometer of the office market

Willis Tower is in BREP VII, a closed-end opportunistic fund that started investing in 2010. The fund is nearing the end of its life (90% realized) with an overall return of 15% (per pension fund filings). When Blackstone purchased Willis Tower it announced, "We are bullish on Chicago as companies expand within and move into the city and look for first-class office space," but that was before Covid and WFH. Blackstone just extended the loan for another year, so the updated maturity is March 2024. It has one final maturity extension that could extend the loan to 2025, but BX would have to renew the interest cap, which would likely cost $10-15M.

Blackstone borrowed $1.3B to refinance one of the most recognizable office buildings in the world. The floating rate loan matured this month, and it's a decent barometer for the office market... (April 11, 2023)

Buyers sidelined for varying reasons

Transaction activity is down by about 60% from last year. If this pace holds, CRE trades will run 33% below the normal level of activity over the last 20 years. Big problem: The industry is geared to run at the pace set over the last five years, which is 60-70% above the normalized level. CRE executives are calling for a rebound in transaction activity in late 2023/early 2024. Let's hope they are right (or wrong if you're betting on distress).

Silence can be the most powerful scream (September 21, 2003)

An ugly valuation scorecard

We estimate that 55% of total real estate capital at the peak of the market was debt, which implies 49% erosion of total equity over the last 18 months. But paper losses don't have to turn into realized losses. ...unless you have a loan maturity (e.g., 70% of maturing CMBS office loans have been unable to be refinanced YTD) or unless can't cover debt service.

An ugly scorecard: Nearly 50% of real estate equity was likely wiped out over the last year (November 7, 2023)

A significant downshift in the CRE job market

Good news: Commercial real estate is an incredible sector. There's a home for just about everyone and plenty to go around. Bad news: This is the worst CRE job market in 15 years.

An ugly job market update and honest feedback for Gen Z real estate professionals...?(November 28, 2023)

A megadeal provides pricing clarity

A few weeks ago, Blackstone announced its planned acquisition of a $10 billion apartment REIT (AIRC). The market's reactions generally fell into two camps: (i) 6% cap! 50% lower values vs. a few years ago vs (ii) 5% cap! 25% lower values vs. a few years ago.

Trigger warning: Cap rates are bullsh*t (April 23, 2024)

Another megadeal, more pricing clarity

Yesterday, KKR announced it had agreed to buy $2 billion of apartments from Lennar. Two months ago, Blackstone agreed to pay $10 billion for AIRC. We think these trades suggest a new watermark for higher-quality apartments between 5% and 5.5% (cap rate).

A big step toward the industry's new normal? (June 26, 2024)

Recovering debt markets?

There have been 10 (ish) real estate recessions over the last 70+ years. Every one of these recessions felt like a crisis at the time. Too much supply, falling incomes, high interest rates, higher default rates, more losses, etc. Serious stuff, no doubt. But two of these downturns were much more punitive than the others: the early 1990s and the GFC. Will we flip into a deleveraging cycle, or will this be a historically insignificant downturn?

Debt is the sun of the real estate solar system, and every few decades we live in darkness for a few years. Is this one of those times? (August 20, 2024)

What trends do you think will emerge in 2025? Email us at [email protected] with tips, feedback, leads, referrals, etc. Or DM us on LinkedIn. All feedback will remain confidential.