US president-elect Barack Obama’s dealings with the real estate industry have been somewhat limited thus far. Limited, that is, to a ten-foot strip of land.
In the run-up to his election, Obama was the subject of gossip over his purchase of a Chicago mansion back in 2005 and his dealings with convicted real estate developer, Tony Rezko. The mud, however, did not stick.
If only the same could be said of the US economy that Obama is about to inherit. Inflation is almost 5% and unemployment is 6% and rising. For those operating in real estate, the US subprime crisis was the start of a steady decline, a malaise which spread to Europe.
But in September, US commercial real estate prices showed an unexpected rise, according to Moody’s. The ratings agency recorded a rise of 2.5% in property prices during the first nine month of this year. Moody’s REAL Commercial Property Price Indices (CPPI) was up month on month. The office sector was up 2.2%.
Price rises are ‘counter-intuitive’
“An increase in prices at this time may seem counter-intuitive,” said Moody’s managing director Nick Levidy in a report accompanying the indices. He attributed the rise to September closings on contracts first opened in the summer, as well as the “relative strength in the apartment sector”. Or, as he put it, conditions “before the market turmoil of September and October”.
The rise may sound like good news. But on an annual basis, US commercial real estate prices have now fallen by 7.9% since September last year, and by 9.4% since the sector’s peak in October 2007. “Prices will soon start to decline again,” says Levidy. “As pressure continues to build, owners will begin selling into a deteriorating market at lower prices.”
The president-elect has a lot on his plate.
“We expect measures to stimulate the economy,” said Threadneedle’s head of US equities, Von Cormac Weldon, in the days following the post-election euphoria.
From his office on New York’s Fifth Avenue, Alex Ray, managing director of DTZ’s real estate investors, struggles to see the woods for the trees when contemplating the future of the US economy. “Things will bottom out in 2009, but whether that’s in the first or the fourth quarter, I don’t know,” says Ray.
By the time Obama is in the White House and reforms are in place, there is a chance that money will be moving again. The Federal Reserve cut US interest rates by 1.5% to 1% in October. In these post-election days, any upturn will look like an early boost for Obama the credit for an improvement of the US economy is unlikely ever to be attributed to a previous president’s tenure.
Having secured a majority in the US Congress, the Democrats are unlikely to face major opposition to any proposed economic reforms. Housing and the subprime crisis are Obama’s priority, but then so is Afghanistan, Iraq and the environment. Banks are showing their greatest reluctance to lend for 40 years, according to the Federal Reserve. For real estate players, getting money moving is top of the wish-list.
“The biggest thing that hurts is that there’s no money out there – what was there came with a very low loan-to-value,” says Ray. “But we are starting to see some bailout money trickling through. The large spread between the bid and the asking price has started to narrow.”
When asked at a recent event whether, even if he did have the money, he would invest in London or New York, Michael Spies, Tishman Speyer’s senior managing director, replied: “I wouldn’t.”
While the sector speculates on what Obama will propose, reform of capital gains tax is something the US real estate sector would not welcome.
“There hasn’t been much liquidity in the market, so an increase in capital gains tax would only make things worse for us,” says Ray, who believes that the president-elect from Chicago will tread carefully. More “perhaps we will” than “yes we can”. “You get the feeling Obama will look for the general consensus and stick to the middle of the road. He actually seems quite centrist to me,” he says.
That could put Obama in a similar position to that of UK premier Tony Blair in 1997, who often aimed to be all things to all people.
The US subprime crisis is well-documented. But as things stand, there has been no big exodus from US commercial real estate, or significant distressed selling. New York, where pricing has been the most aggressive, has seen office yields rise. A prime asset which would have achieved 5% at the beginning of this year is more likely to sell at as much as 6% now.
“There has been what I call ‘motivated’ selling, but distressed selling hasn’t really taken hold here,” says Ray. “There have been no major exits.”
The flow of non-US capital, typically German and Irish, into the US has, of course, slowed, mirroring the European slowdown. But for prospective buyers, keeping an eye on the New York real estate market for the day when movement returns to the market may pay off. “There’s no bell that’s going to be rung,” says Ray.
But just as in other financial epicentres, the financial well-being of the tenant is a prime consideration. Investor exodus may have been limited. But New York’s financial district has had more than its fair share of departures. Apart from the collapse of Lehman Brothers and Bear Stearns, job cuts have also been made at Goldman Sachs, Merrill Lynch and Morgan Stanley as the city’s big banks downsize. Merrill’s merger with Bank of America will hardly boost demand for office space. The city’s chief financial officer, William Thompson, predicts that New York could lose as many as 165,000 jobs by 2010.
Last month, the great and good of New York and London assembled for a day of seminars looking at the two global financial epicentres – two cities in which Deutsche Bank recently announced it will cut a total of 900 jobs.
The London-New York Dialogue event, organised in the UK capital by the Urban Land Institute, saw New York City’s former deputy mayor, Dan Doctoroff, reassuring delegates that the current downturn was not unusual. “As sad as I was to see Lehman Brothers fall, firms come and go,” said the former Lehman banker. “It has all happened before.”
Doctoroff believes that any void created by the loss of jobs will be filled by new start- ups, and that New York will remain the “world capital of finance”. “New York has defied forecasts of doom and gloom time and time again,” says Doctoroff. “And we’re much better placed now than we were in the 1970s.”
Big deals off the agenda for now
New York may escape the serious downturn it experienced 30 years ago (see box, above). Nevertheless, it will be some time before the city is again the venue for the kind of mammoth deals such as the one done by Blackstone in 2007. The US private equity firm paid $39bn for the Equity Office Properties (EOP) portfolio in February last year, then immediately got to work on selling assets – most of which are in central Manhattan – to US tycoon Harry Macklowe. Macklowe has since sold some of the former EOP assets, including the headquarters of General Motors, to Mortimer Zuckerman.
Doctoroff has long bemoaned the lack of support he feels New York gets from Washington – New York’s bid for the 2012 Olympics failed because of a lack of federal government support. “Most of America distrusts New York,” Doctoroff told delegates. “There’s no real risk that the government could screw things up – the future of New York is really in our hands.”
New York may not want or need the help of the federal government in its attempt to recover. But it will be some time before the Big Apple shines again.
