Commercial Real Estate Blog

Money market funds work by maintaining a nav of $1.00 and issuing a market rate yield. That’s the theory anyways, and now the Primary Fund by Reserve has said that the value of investor’s money has dropped below the $1.00 mark to about $.96-.97 cents. This is apparently only the second time in history for this to occur in the United Sates.

Late last year we wrote on an “enhanced cash” fund that broke the $1.00 market and now what is generally considered to be one of the safest forms of investments, money market funds, have shown that they too are susceptible. Citing large losses on what is now worthless paper issued by Lehman Brothers, the fund will undoubtedly not be the last.

Rapidly deteriorating confidence in equities, real estate, bonds, and now money market funds leaves one wondering how much farther up the food chain we can go. Wherever the bottom ends up being, the reversion to normalcy seems to be getting farther and farther out with each new economic maelstrom we hit.

The UK chancellor responsible for economic matters in the UK has indicated that the current economic downturn in the UK is the worst the country has faced in 60 years. The article touching on details and other thoughts of Alistair Darling, the chancellor, can be read here in the Guardian.

The governor of the Bank of England stated yesterday that “It’s bound to be the case that there is the possibility of a quarter or two of negative growth”. That would qualify as a recession, though that word is not used. Following on Japan’s release of numbers which showed contraction in their economy, it is clear that commodity and energy prices are taking effect worldwide. In the UK, headline inflation is expected to come in more than twice as high as the 2% target rate, and the latest unemployment numbers reveal six successive months of rising unemployment.

Compounding economic declines with the credit crunch, it is clear that banks are unlikely in a position to relax the strict underwriting practices which have replaced the easy money environment of two years ago. The less visibility that banks and lenders have, the more pressure it puts on commercial real estate since during these times loans will come due and will need to be refinanced. The tough lending environment may result in the need for owners needing to kick in additional equity, which if unavailable, could lead finally lead to the distress sales in commercial real estate so many are eagerly waiting for.

In a sign that the slowdown being felt here in the US is evolving into a global phenomenon, Japan reported that its GDP contracted by 2.4% (annualized) in the quarter ending June 30th.

Japan is the world’s second largest economy and relies heavily on imported natural resources. Japan is facing a situation similar to that in the United States; increasing inflation and stagnant economic growth. What’s more is that Japan’s central bank has interest rates at 0.5%.

RREEF Research has issued two reports this month. The first report covers commodity prices, and the impact on trade, housing, and other real estate impacts. Some of the items related to trade which are noted in the report include:

• Pacific Northwest ports (i.e. Seattle, Portland, Vancouver) to benefit as the shipping distance is shorter than that to California
• Rail to benefit; air cargo volume to decrease

On real estate, the report noted a trend towards smaller homes, closer to employment centers. On the hotel front, commodity prices will likely result in a 10% cut in domestic seats, thereby reducing demand for hotels. This comes on top of the increasing energy costs hotels face.

The full report is available for download here.

The Royal Bank of Scotland’s (RBS) chief credit strategist Bob Janjuah has issued a report to its clients to be prepared for a global credit and equity crash. Bob Janjuah forewarned against last year’s looming credit crisis. According to his report, the next three months will be nasty.

The report includes warnings that the S&P could fall by more than 300 points to 1050 by September. In debt markets, they are forecasting that both the high grade and low grade iTraxx indexes could soar. This index is a European index designed to allow people to trade the “Riskiness” of European debt, with the US having a seperate set of similar indexes as well.

What is key in the report has to do with inflation, the fed pumping money into the market, and what needs to be done about it. All the money being pumped into the market by the Fed is causing headline inflation to increase. Unfortunately we find ourselves in economic conditions which don’t easily allow the raising of interest rates. The economy, both domestic, international, and emerging markets will then be faced with further tightening of credit causing global growth to cool significantly.

The impact on commercial real estate could be significant; you would have the cost and availability conditions of debt to continue to deteriorate, coupled with the fact that risk premiums will have increased in other asset classes. This would suggest a similar jump in expectations for commercial real estate, which translates into higher cap rates and tighter, more conservative underwriting from institutions. Things are trending in that direction, and RBS’s report could suggest that we’re aways away from any reverse.