The Llenrock Blog

NEW BLOG WEB ADDRESS

2009-05-22T07:22:00.000-04:00

This will serve as the final notice that the Llenrock Blog has moved to http://llenrock.com/blog We have undertaken advice from our readership to redesign the site in a new, more user-friendly format. Please check it out by clicking the link above, and don;t forget to update the bookmark for this site!

The Real Cause of the CREDIT Crisis

2009-05-21T06:19:00.000-04:00

VISA is Hungry! - watch more funny videos

And you thought real estate was to blame for the credit crisis....it's all in the name! CREDIT! Now only if Barack Obama created a news conference to tell us to spend, rather than VISA, we might get out of this recession...

NEW BLOG WEBSITE!

2009-05-21T05:54:00.000-04:00

Effective immediately, we ask you to visit and bookmark our NEW redesigned blog website at www.llenrock.com/blog

Thank you for your continued support and readership!

NEW BLOG WEBSITE!

2009-05-20T05:54:00.004-04:00

Effective immediately, we ask you to visit and bookmark our NEW redesigned blog website at http://llenrock.com/blog

Thank you for your continued support and readership!

The Next Big Shoe to Drop?

2009-05-19T06:08:00.001-04:00

Martin Cohen, Chairman and co-CEO of Cohen and Steers Capital Management, and pioneer in real estate securities investing, gives his outlook on commercial real estate.

NEW BLOG WEBSITE!

2009-05-19T05:53:00.000-04:00

Effective immediately, we ask you to visit and bookmark our NEW redesigned blog website at www.llenrock.com/blog

Thank you for your continued support and readership!

NEW REDESIGNED BLOG WEBSITE

2009-05-18T10:50:00.003-04:00

Effective immediately, we ask you to visit and bookmark our NEW redesigned blog website at www.llenrock.com/blog

Thank you for your continued support and readership!

Light at the End of the Tunnel?

2009-05-18T06:09:00.001-04:00

When I asked a colleague recently if he thought there was light at the end of the tunnel for this whole credit crisis debacle, he paused, looked at me calmly and replied, "Yeah, there's a light at the end of the tunnel...and its coming from a train that's about to run us over."

Tongue-in-cheek? Yes.

Truthful? Maybe.

Either way, it hasn't stopped Boston Properties from doing something none of us thought was possible in the current environment last week. Mort Zuckerman's firm obtained a $215 million construction loan to complete a mixed use project currently underway in Boston called Russia Wharf.

Just as you might have suspected, there was no mysterious white elephant to be found, no secret source of capital that the rest of us did not know about. In fact, it took the form of a much smaller deal, where community banks whose legal lending limits aren't big enough to take down the entire loan might pool together and participate with several other financial institutions.

A group of five banks, in this case, led by New York Mellon Corp. provided the financing. That being said, the terms of the loan are about as tough as they get.

The LTV is only 40% of the estimated $550 million dollar cost.

The term is five years and carries a floating interest rate equal to LIBOR plus 3% annually.

And of course, the loan carries the dreaded full "recourse" provision, leaving Boston Properties fully on the hook if the project doesn't pan out as expected.

Boston Properties had more success winning over lenders because it offered a package with a number of features banks typically like. Most notably, the project was partly preleased by Wellington Management Co., an institutional asset manager, which is set to occupy about 450,000 square feet of office space. Moreover, the project is located on a section of the Boston waterfront that has generated considerable buzz as a promising extension to the traditional financial district.

Possibly the most interesting thing about this deal is the storied history of the ownership. In 2004, Sam Zell's Equity Office Properties Trust obtained approvals from the Boston Redevelopment Authority for a mixed-use project that was to include residential lofts, a hotel and offices. In 2007, Blackstone Group LP acquired the property when it purchased Equity Office and subsequently sold it to Boston Properties.

Want the full details? Check out the WSJ article here.

The Top 5 Largest Delinquent Loans

2009-05-15T06:35:00.001-04:00

The following loans are the largest loans in Fitch’s loan delinquency index. The index consists of loans 60 days or more delinquent in addition to those characterized as nonperforming matured loans, in foreclosure, or REO.

Resorts Atlantic City, CSMC 2007-TFL2

The $175 million loan is secured by a 942-room hotel and casino in Atlantic City, NJ. The loan transferred to special servicing in December 2008 due to monetary default. The property has exhibited declining performance since issuance as a result of the overall negative performance of the gaming industry. The special servicer and sponsor continue to discuss workout options.

Macon Mall/Burlington Mall, Wachovia 2005-C20

The $136.7 million loan is secured by two cross-collateralized regional malls in Macon, GA, and Burlington, NC. The Macon Mall is a 1.4 million-square-foot two-level enclosed super regional mall and the Burlington Mall is a 419,194-square-foot one-level enclosed mall. The borrower, Lightstone, indicated it could no longer continue to fund the debt service shortfall. It also agreed to the appointment of a receiver with the ability to sell the properties. The special servicer appointed a receiver to manage the properties and has initiated foreclosure.

Bethany Portfolio, MLMT 2007-C1

The $130.5 million loan is secured by a portfolio of 11 multifamily properties comprising 2,904 units across Georgia, North Carolina and Virginia. The sponsor of the loan at issuance was The Bethany Group. The loan transferred to special servicing in February 2009 due to payment default. The borrower abandoned the properties in early March. The special servicer appointed a receiver, which is in the process of stabilizing the assets and assessing their financial condition.

The Promenade Shops at Dos Lagos, JPMCC 2008-C2

The $125.2 million loan is secured by a 34,847-square-foot lifestyle/entertainment retail center in Corona, CA, built in 2006-2007. The center is the central portion of a master-planned community that has not been completed due to the residential market decline. Many tenants have asked for rent reductions and many also have lease provisions allowing them vacate the property should occupancy fall below a threshold. These thresholds are likely to be triggered in the next year.

Senior Living Properties Portfolio, GMAC 1998-C1

The $112.2 million loan is secured by a portfolio of health care facilities and has been in special servicing since October 2001. Senior Living Properties experienced extensive operating losses beginning in 2000 due to lower revenues as a result of changes in Medicare and Medicaid reimbursements and filed a voluntary Chapter 11 bankruptcy in May 2002. 48 properties in Texas remain as Senior Living Properties management works to improve operations and consolidate locations. The special servicer recently extended the maturity date of the loan again until Feb. 1, 2010.

Jokes of the Day

2009-05-14T06:13:00.001-04:00

1. A bank worker calls a colleague.

"Hey, how's it been going?"

"Not so bad."

"Oh, sorry, I've definitely called the wrong number."

2. In the face of the financial crisis, I have bravely stood up and am marching forward! That's because ... I can't pay back my loans and the bank has repossessed my car.

3. A Trader: “This is worse than a divorce. I’ve lost half my money and I still have a wife.”

4. What’s the capital of Iceland? About $20.

5. The problem with Investment Bank balance sheets is that on the left side nothing is right, and on the right side, nothing is left.

6. There are 30 billion prime numbers below 700 billion. The rest are all subprime.

7. How do you define optimism? A banker who irons 5 shirts on a Sunday.

8. What's the difference between Investment Bankers and Pigeons? The Pigeons are still capable of making deposits on new BMW's

9. A bank customer goes to their bank:

Bank Customer: Hi, I had this check returned to me. Could you help?

Teller: Sure let me see it. Ah, right here, it says "Insufficient Funds"

Bank Customer: "I know, I just wasn't sure if you were referring to me, or the bank."

10. An elderly lady receives an e-mail from the son of a deceased (but wealthy) African general, asking whether he could transfer millions of pounds into her bank account in return for a 20% cut. All the son needs is the sort code and account number. Not realizing she is the victim of a Nigerian 419 fraud, she e-mails back the details. A couple of minutes later she receives an e-mail back from the general's son: 'Citibank'! What is this, some sort of scam?"

You Make the Call

2009-05-13T06:25:00.000-04:00

Dovetailing on last friday's post regarding the collapse of the CMBS market, and who, if anybody is going to pick up the slack, I thought it would be prudent to examine the current thoughts about what the fallout might be if there is no securitization market revival. At the same conference I denoted in Friday's post, a different question was posed:

Will there be a securitization market revival, or is the foreseeable future going to revert back towards balance sheet lending?

The overwhelming response, was that their will be some type of revival, but it will never get back to the level it was at 18-24 months ago, and it certainly will not happen any time soon. The TALF program is still undergoing some changes, but the program should certainly help with single asset deals and will provide shorter terms. Because of the glut of debt maturation ($400 B by 2013), the market has not stabilized, and toxic assets must get taken care off before we will see any revival of the securitization market.

Part of the problem that is often NOT discussed, is the lack of confidence not in the real estate sector, but in the ratings put out by ratings agencies on collateralized debt. Let us not forget that many of the failed CDO's were insured and rated AAA. There will continue to be no, or little investment if the benchmarks being used to value and rate assets are not trusted.

All of this being said, nobody at the conference doubted the intellect and ingenuity of Wall Street. At some point, Wall Street will figure out another creative way to push securities on the open market. Until then, many people thought that mezzanine providers would pick up the slack of first mortgage originations that are only being levered to 60-70% to get to the more traditional, and buyer preferred 75% LTV. The reason this may work is that while mezzanine financing is typically viewed as unnecessarily expensive, because first mortgage interest rates are historically low, the blended rates wouldn't be that bad, somewhere in the 7.5% range. As we battle inflation and interest rates begin to rise over the next few years, pushing rates back to their historically norms of the same range, investors may be okay with this approach.

Another suggested solution to the CMBS mess, is that in the future, originators may have to take some type of first loss position in the loans, as well as actually having to service the loans. Additionally, instead of slicing up pieces of many different mortgages and pooling them together, it has been suggested that they simply pool whole loans together so that owners can go to one lender to service their loan. This way, everybody's interest are more closely aligned with one another.

What do you think about all of this? Are there any other suggestions out there that make sense? We'd love to hear your thoughts!

Sam Zell's Take on the Market

2009-05-12T06:40:00.001-04:00

The Master offers his take on current market conditions, valuation techniques, and where we are headed. Very informative stuff!

Will Life Companies Step up to the Plate?

2009-05-11T06:52:00.000-04:00

I recently attended a conference in which a simple, but intriguing question was posed: Who is, and who will be picking up the slack in the conduit marketplace's absence?

The answers were as follows:

- Savings banks are out lending, doing 5 year deals.

- Life companies are lending to their existing clients at relatively low leverage (50-60%), being more conservative, and not showing interest in new relationships.

- Big banks, on the flip side, are not extending credit to their clients. 10 year fixed deals are near impossible to find anywhere.

- We should continue to see high yield players exploit that gap to get people through refinancing when their notes come due.

- Equity firms are in the market but aren’t looking at highly leveraged deals, but rather those is the 40-50% range.

- Providing recourse is essential in getting deals done today.

- Structural changes are necessary to the CMBS markets to properly align interests so that the originators have first loss position in deals.

- Centralized underwriting via a third party is being considered, as well as forcing originators to service the actual individual loans.

One of the more interesting points regards life companies. They certainly have the cash to deploy, and while nobody could blame them for being skittish, or at least more conservative in today's environment, the real reason they may not be flooding the market with capital is because of their own recent exposure to the CMBS mess. For example, according to a report by SNL Financial, the top 20 life insurance companies holding commercial mortgage-backed securities held more than $118.67 billion by the end of last year, creating potentially higher exposure for some to CMBS delinquencies.

Hartford Life Insurance Co. held more than $9 billion in total CMBS with $6.29 billion in non-first lien A or lower status, which represented 153.1 percent of capital and reserves. Northwester Mutual held $4.93 billion of its $4.95 billion total CMBS in non-first lien A or lower, but its percentage in capital and reserves was only 36.7%. Allianz held all of its CMBS, $6.85 billion (about one tenth of its total assets), as non-first lien A or lower, 327.1% capital and reserves.

Sheesh!

Stress Tests a Mess of Jest?

2009-05-08T06:40:00.003-04:00

When you gain some weight, your doctor probably yells at you. When you don't listen to his advice and continue your march towards obesity, he'll likely recommend a stress test in order to ascertain the health of your heart. We've all seen this in the form of the shirtless fat guy running on a treadmill with anodes stuck all over his corpulence (as pictured above).

Similarly, banks have become obese (with bloated books of bad debt rather than donuts and ice cream) and have recently undergone a stress test of their own. Back at the end of February President Obama ordered the 19 biggest banks to undergo a stress test to see how they would fare if the economy was to worsen further.

According to the new Treasury Department guidelines, the banks would have to assume that the economy contracts by 3.3 percent this year and remains almost flat in 2010. They would also have to assume that housing prices fall another 22 percent this year and that unemployment would shoot to 8.9 percent this year and hit 10.3 percent in 2010.

Yet, despite leaked reports that between 10-14 of the 19 banks would fail and be required to raise more capital, their stocks have been surging recently. For example, three regional banks widely believed to need more funding -- Birmingham, Ala.-based Regions Financial (RF, Fortune 500), Cincinnati's Fifth Third Bank (FITB, Fortune 500) and SunTrust Financial (STI, Fortune 500) of Atlanta -- each gained more than 25% earlier in the week. And Wells Fargo (WFC, Fortune 500), considered one of the strongest, also shot up nearly 25% earlier this week -- despite reports that it too may need to raise more capital.

Just yesterday, hours before the scheduled 5pm release of the results, Citgroup and Bank of America stocks rallied further.

Unfortunately, the stock market is exactly that....a market. It is not the underlying companies it represents, it cannot erase the bad bets the banks themselves have made, and their value is only worth what the next guy is willing to pay for it...ya know, kinda like real estate.

As was estimated, 10 banks are going to need to raise more capital. Will you be the first, or second person in line to sell off your bank stock earlier than everybody else this morning?

FREE Money!!!

2009-05-07T06:04:00.000-04:00

FREE MONEY!!! - watch more funny videos

Its funny cause its true...of course this guy probably put Matthew Lesko himself out of a job.

The Most Interesting Banker in the World

2009-05-06T06:47:00.002-04:00

Imagine its 2006. You are a banker. You have tons of clients, and you are happy to finance their real estate transactions. As a matter of fact, its happening left and right. Your boss likes you. You are putting the bank's money to work. Nobody in your portfolio has defaulted in years, so you keep lending more and more money. The bank is making piles of money in interest payments due to your efforts. Life is good. Really good. You think to yourself, "maybe by 2009 I can make Chief Lending Officer...."

Of course, by now you know that those loans you made weren't such smart decisions after all. A good portion of your sponsors have either missed a payment, or you are scared they are going to. You are terrified you are going to lose your job, because your bank isn't lending money anymore. To anyone. Which kind of makes your job obsolete. Its now 2009.

But who could have foreseen such a cataclysmic event in the capital markets? Like a fourth grader caught for being naughty, you can only cling to the "but everyone else was doing it" excuse. Everyone that is, except for banker contrarian, Andy Beal.

Bankers typically graduated from a good university, with a good GPA. Andy Beal was a college dropout. Bankers don't typically like to gamble, certainly not with the bank's money. Andy Beal played in the World Series of Poker in $2 million dollar cash games against poker legends and held his own. Bankers usually rely on mandates, not their gut. Andy Beal didn't make a single commercial real estate loan between 2004-2007. Not one. In fact, for three long years, Beal barely made any loans, period.

While his banking cohorts were cleaning up, he idly sat on the sidelines, biding his time, and waited. Others bankers asked why. Regulators probed why, assuming he was up to no good or insane for not taking advantage. Waited for what, you ask? For this. For the imminent disaster he knew would strike sooner or later. For the credit markets to collapse. For bankers to lose their shirts along with their borrowers. And of course, for the once in a lifetime opportunity to capitalize on all this mess.

While Andy Beal's story is too long to tell on this blog, read the whole story, as reported in a Forbes.com article here. Here are the highlights:

In the last 15 months Beal has put $5 billion to work, tripling Beal Bank's assets to $7 billion

Beal is building 28 branches from Miami to Seattle, up from 7 at the end of last year

Beal has barely got a dime from the feds

He owns 100% of his bank, aptly named, "Beal Bank"

In 2000 American Banker declared Beal Bank the most profitable bank in the nation as measured by its five-year return on equity of 50%

Beal has offered a $100,000 prize to anyone who can solve a number-theory puzzle

"Every deal done since 2004 is just stupid," Beal says.

If he ever thinks of investing in hedge funds or private equity, he says, "Just shoot me."

His thoughts?

"Banks are on a prayer mission that somehow prices will come back and they won't have to face reality," Beal says. "Unemployment is going over 10%, commercial real estate hasn't even begun collapsing and corporate credit defaults are just getting started," he says. His prediction: depression, without bread lines this time, thanks to the government safety net, but with equal cost to society.

Here's that link one more time....You're welcome.

Sesame Street Layoffs

2009-05-05T05:57:00.002-04:00

Sesame Street Layoffs - watch more funny videos

Maybe you can use this to explain what's going on to your kids...

REIT M&A?

2009-05-04T06:51:00.003-04:00

You would think that a real estate investment bank, by definition, would be right in the mix for any mergers and acquisitions deals involving the more than 130 Real Estate Investment Trusts that exist today. Sorry to disappoint, but that's not really what we do. That being said, there has been more and more speculation, A. D. Pruitt of the Wall Street Journal Online being one of the loudest and most recent, that REITs will go the M&A route.

One of the biggest and most obvious reasons for this is that many REITs are struggling right now, saddled with too much debt from frothy acquisition plays they made during the boom years of 2004-2007. Better positioned REITs, in an ironic twist, may be well suited to acquire the struggling REITs because they are lower levered and can take on some of the debt burden that would come with acquiring such a massive entity.

Of course, there is a more prudent approach given the way everything seems to be going more slowly and more judiciously in the current environment. Stronger REITs may elect to simply wait until the weaker REITs fail and go bankrupt so they can simply bid on portions of the distressed assets available at auction in order for the failed REITs to pay creditors. Just like vulture funds, they might have their pick.

However, given that many trophy assets may or may not be available for sale under bankruptcy proceedings, healthy REITs may simply elect to acquire they entire company.

General Growth Properties will be a very interesting case study. While many had speculated that its biggest rival, Simon Property Group, was going to acquire it last month, instead GGP filed for bankruptcy. The courts and creditors will now ultimately determine which properties in GGP's portfolio will be made available to the public for sale.

REITs, which own about $600 billion of commercial real-estate assets, were established in the 1960s to give individuals an easy way to invest in income-producing real estate. If credit markets don't thaw soon with the help of federal aid initiatives, some companies will be hard-pressed to survive if they can't refinance their debt. The outlook gets more dire in 2011 when $500 billion of commercial real-estate maturities come due, according to a report from the National Association of Real Estate Investment Trusts, citing data from Goldman Sachs Group Inc. and Securities and Exchange Commission filings.

With more than 30% of REIT stocks valued under $5 a share, there are certain to be many, especially those who can't raise equity through public offerings, who will bow out of the race.

My question to you is, given that REITs amazingly only own about 6% of the total volume of commercial investment properties nationwide, how much of an impact on the commercial real estate market would it have if 10-20 of them went belly up?

Stick 'em Up. I Want to Apply for a Loan.

2009-05-01T06:33:00.002-04:00

Thanks to Mark Stein of Conde Nast Portfolio online...I couldn't have written a better article myself.

Lots of builders are in trouble with their banks these days, but not many try to work out a solution by kidnapping their bankers. That's what one Spanish contractor attempted today in the Mediterranean resort of Malaga.

According to police reports, the unidentified contractor approached his victim in the bank parking lot, pulled a pistol, and forced him back into his car. After threatening the banker's family, the kidnapper demanded a 50,000 euro loan -- and, while, he was at it, the banker's car.

While ostensibly arranging the loan by phone, the banker gave a colleague a coded message suggesting he had been taken hostage. Police were called and arrested the builder.

Kidnapping has become a popular reaction to the recession in Europe. Workers at several factories in France, for example, have held their bosses captive while negotiating severance packages in recent weeks.

The "bossnappings," as the actions are called, have affected plants operated by Sony, 3M, Caterpillar, and a British auto parts company called Scapa Group.

If you kidnapped your boss, what would you hold out for?

(Madoff) You Give Jews A Bad Name

2009-04-30T06:40:00.002-04:00

(Madoff) You Give Jews a Bad Name - watch more funny videos

For those of you who bashed me for bashing 80s hair band Poison, it's really just because I love Bon Jovi...or should I say, Bon Jew-vi. Enjoy!

Call me Anything You Like...

2009-04-29T06:22:00.000-04:00

Except a mortgage broker. Many people ask me what I do, and its often difficult to answer them both concisely, and in layman's terms. Even those who know a thing or two about real estate, too often confuse my role with that of a mortgage broker.

A mortgage broker is a matchmaker of sorts, marrying borrower and lender together...at least until one of them wants a divorce. Sometimes the borrower cheats on the lender in the form of shopping for better rates to take out the existing lender through refinancing, and sometimes the lender cheats on the borrower by packaging their loan and selling it off to a third party.

The simple fact of the matter is that while they want to see a successful partnership, mortgage brokers don't work for the borrower, or the bank, but for themselves. Many consumers assume that a mortgage broker works for them for free, in the form of shopping for the best rates and terms, and then gets paid by the lender for providing them the ability to loan money. Funny. That's the equivalent of a commercial broker telling a buyer that they've scoured the market for better deals, and can't find one better than the deal they are listing for sale.

The truth is that if you, as a consumer, aren't paying the broker a fee directly, then the broker isn't working for you. Sometimes lenders will offer brokers a rate to push to their consumers, and the only way a broker makes money is by inflating this rate until the spread reaches a number representing a fee for which the broker is willing to work. The bigger problem however, is that in recent years, banks offered brokers more to push certain loan terms like adjustable rate mortgages. “The ways brokers were paid created a conflict of interest and really meant that the broker to a very large extent was financially rewarded by betraying the trust of the borrower,” said Representative Brad Miller, a Democrat from North Carolina who co-sponsored the legislation in the House of Representatives.

Real Estate Investment Bankers are different for a whole host of reasons. First and most obviously, is that we offer capital solutions spanning the entire capital stack, not just straight debt. This means we can provide access to secured and unsecured mezzanine, and preferred and joint venture equity in addition to debt. We also provide more ancillary services like access to high net worth individuals for credit enhancements, bridge debt, and hard money. It is our network and creativity in addition to our services that provide value to our clients.

Most importantly of course, is that while any intermediary technically has two clients, the seller and buyer, borrower and lender or what have you, investment banking counsel really only works for one of them, the borrower. Lenders are our client in the sense that they are a vital partner to our business. By working closely with them, we can better understand their needs, desires and constraints to doing business, which in turn helps make our job easier on behalf of the borrower, our true client. It is the borrower who retains us for our services. We earn our fee in that we are only paid thereafter for success. Lenders value investment banking counsel for the relationships we bring to them, not any services we provide them.

Borrowers on the other hand value us for an array of things. First and foremost is our access to capital. Banking is a relationship business, and in today's economy specifically, if you don't have a relationship, you've got nothing at all (deposits help a lot, though!). Second is our ability to structure a client's deal in a way that presents their case to potential lending sources in the most favorable light. This means that we increase the likelihood of funding since we understand how bankers want information presented to them. Third is our industry knowledge. By working with lenders frequently, we know what types of deals they want to see, which means we know the most likely candidates to be competitive for each specific deal. Fourth, we save the client time, and time is money. Many of our clients are successful real estate operators, but they didn't become successful by wasting their time on the phone with 100 capital partners, shopping for the best terms. Others are business owners, where real estate is not their forte. In either case, we act as a trusted advisor to our client. Furthermore, no lender would dare call a real estate investment banker's bluff if we told them we can do better.

So next time when you are speaking with your investment banking counsel, remember why they might be upset with you for insinuating they are "simply" a mortgage broker, and choose your words wisely.

Aaaand It's Gone!

2009-04-28T06:47:00.001-04:00

The Philly 411

2009-04-27T07:39:00.003-04:00

For our Philly-centric readership, you will definitely want to check out The Philly 411, a new monthly contribution to GlobeSt.com, written by Llenrock Group's own Dave Jacobs. The feature discusses interesting commercial real estate related happenings in the greater metropolitan area, including news, rumors, and gossip.

Equity Raising Proves Easier for REITs

2009-04-27T06:17:00.001-04:00

Vornado Realty Trust VNO.N, owner of office and retail properties, said last Wednesday it now expects to raise net proceeds of $710 million from its equity offering, up from an earlier $617 million, as underwriters exercised their option to purchase additional shares.

The company, the most recent real estate investment trust to tap the equity markets for capital, said it intends to use the proceeds for general corporate purposes, including repaying debt and funding acquisitions.

Although the debt markets have been reluctant lately to make large loans to commercial real estate companies, equity investors have shown an appetite for new shares.

Property companies that have turned to the equity market for capital over the past month include Simon Property Group Inc SPG.N, AMB Property Corp (AMB.N), Kimco Realty Corp KIM.N and ProLogis PLD.N.

This makes it easier for these big public REITs to acquire, especially to acquire assets of recently bankrupt General Growth Properties.

All of this news of REITs raising equity with public offerings raises an interesting question. Is this the wave of the immediate future? Are REITs better suited than private real estate companies to capitalize on opportunities in the short run, and thus are better poised for success in the long run?

While private real estate companies, much like REITs can be both narrowly focused by product type, as well as well diversified, both have been hit hard during the current economic downturn. There are several advantages each have over the other.

REITs have the clear advantage in the ability to raise capital. In this environment, the astute investor can see an undervalued stock rather easily, since many stocks are based on historical valuations, dividends, growth etc. Since REITs are relatively lower levered than private real estate funds, their purchasing power is higher during the current economic climate. On the flip side, many worried private investors who haven't seen strong returns from their current and previous investments in private funds may be more hesitant to commit capital in the next fund. As any private operator will tell you, fundraising is as tantamount to large scale success in the industry as finding the right deals to buy. REITs also pay dividends, and are very liquid, which means investors can and will see returns on their investments much more quickly. With funds, capital is promised back to investors within a certain time frame, which if necessary can be many years.

Yet, there are still some clear cut advantages for private companies. The first is return thresholds. Most private real estate funds promise returns in the mid to high teens, sometimes doubling or tripling the returns of many REITs. Private funds are also not subject to the scrutiny of regulators because ownership remains private. As an aside to this fact, private funds aren't focused on quarterly results, and do not have to meet analysts' projections in order to stave off a sell off of their stock, and thus, their capital base. Also, unlike with any public company, with many private funds, returns, to a certain extent are promised, and not subject to the fluctuations of the markets. That being said, if a private operator fails and goes bankrupt, how secure are those returns? An investor is taking a lot of faith that the operator knows what they are doing, and is more innovative than the next guy in being able to remain afloat during unforeseen circumstances, like the tumultuous market we know find ourselves in.

One thing does remain clear in this debate. Cash is king. And REITs have more of it.

What are your thoughts on who is better poised to take advantage of current market conditions?

Meredith Whitney: Part 3

2009-04-24T06:53:00.000-04:00

Earlier in the week, we noted the meteoric rise to stardom for Meredith Whitney. She has rode that wave of predictions to her own firm. Yet despite her prowess as an analyst and despite her being a darling of the media, one has to wonder, as David Weidner has done in this Wall Street Journal piece from April 9th, if she is all we think she is. We won't go so far as to say she's a fraud or even a fluke, but the inherent nature of entrusting one individual with the title of "Wall Street Oracle," as Whitney has been dubbed, is nothing short of dangerous.

Weidner says, "But to put it bluntly, Ms. Whitney's call on Citi wasn't that great. It wasn't the first, nor was it the best. Citigroup was already in deep trouble. Citi held a conference call three days after Dick Bove, then at Punk Ziegel & Co., Mike Mayo, then at Deutsche Bank and Charles Peabody at Portales Partners all issued sell ratings on the stock. Ms. Whitney participated in this call and asked three questions of Gary Crittenden, then Citi's chief financial officer, none of which were regarding Citi's dividend or capital position."

Two weeks later, "The Call" was made.

And while Ms. Whitney did go on to make some correct prediction in 2008, and she has clearly demonstrated her intellect, she is no Oracle. The Call did not say Citigroup was stuffed with hundreds of billions of dollars in toxic assets. It did not say that multiple banks will fail unless the government intercedes. It didn't mention Bear Stearns (which she once expected to earn more than $11 a share in 2009), Lehman Brothers or American International Group Inc.

As Weidner correctly points out, "That Ms. Whitney has emerged as a prophet of the financial crisis, mainly on the basis of one call, is a reminder that we tread dangerous territory by crowning messiahs on Wall Street. The Whitney myth is especially relevant considering our current dire straits were in large part created by faith in the financial "masters of the universe" who were deemed too sophisticated – and too highly paid – to misjudge risk."

"How is this guy getting 15+% returns when the market has been tanking? Ahh, who cares, he's making me money!!" These were the same sentiments expressed by those who will be crying on the witness stand for Bernie Madoff's trial in June.

Nobody has all the answers. Not Meredith Whitney. Not even Nouriel Roubini. Nobody should have a messianic complex in this environment. So next time the media falls in love with someone else, remember the words of Chuck D. and Flavor Flav from Public Enemy..."Don't, don't, don't believe the hype."

ShitiBank

2009-04-23T06:08:00.001-04:00

As a follow up to our video on Tuesday, perhaps this is what the New CitiBank ads will look like...

Meredith Whitney: Part 2

2009-04-22T18:52:00.001-04:00

From the increasing popularity caused by correct assessment and prediction after correct assessment and prediction, Meredith Whitney resigned from Oppenheimer on February 19, 2009, just three weeks after the clip above, to establish her own firm, Meredith Whitney Advisory Group LLC. In one of her most recent interviews with Steve Forbes on April 5th, she was asked if we are currently out of the water. To read the entire transcript, click here.

Below, we have excerpted some of our favorite thoughts....enjoy!

STEVE FORBES: Back in the summer of 2008 when a lot of people thought we were out of the woods on the financial crisis, you said no, the worst was to come. First of all, why did you think there was such devastation in the banking sector that was unprecedented? And are we finally climbing out of the thing?

Meredith Whitney: What worried me last summer, summer of 2008 was what happened to IndyMac in the summer, in July, when you had a run on the banks. And what I knew at the time, was that there would be runs on other banks, and those that were heavily weighted towards commercial deposits.

So, at the time, it was a guarantee of $100,000 or below. And so, the commercial deposits, that which you pay your payroll through, there was your 30-plus percent of the banking system, 35% of the banking system, uninsured. And so, if you look at what was, who had the most exposure to the commercial deposits, obviously, those were the first to flight.

So, what you saw then was an effective on the bank of Washington Mutual, and an effective on the bank at Wachovia, and NatCity and some others. And so, what we didn't see was, all of those deals were done inside of the third quarter. So, what you didn't see was what happened to their deposits inside of the third quarter. So, July was part of the third quarter.

And by September, Wachovia and Washington Mutual were part of another entity. We never saw how bad things were. But I saw that on the come. I also knew that it was clear that the banks were carrying bad math assumptions. So, one key variable in evaluating your mortgage, what your mortgage portfolio is worth is, No. 1, what employment is.

But No. 2, where you think home prices are going to go. And as an example, Wachovia, which was, I put a sell rating on Wachovia in July. And the stock was $9 or something. It was a pretty wild call. But I knew that they were expecting home prices to decline by 21%; 60% of their exposures were in California. Case-Schiller is now down 30% in the top 10 MSAs. So, it was clear that they would have to play catch-up. And it is also clear that the banks still have to play catch-up. The banks, all the big banks anyway, carry their mortgage books with an assumption that home prices would decline peak-to-trough 30%, 31%.

Well, we're already there. So, what you'll see in first-quarter results is a catch-up to what now the future of market is doing, viewing the peak-to-trough home prices to be 37%. So, you're constantly having to reevaluate your reserves against loans. That puts earnings pressure on companies.

And it creates an environment where it's almost impossible to regenerate your own capital, to grow your own capital. So, you've got to have your hands out for other people's capital. And it's been sovereign wealth fund's capital. It's been U.S. investor's capital. It's been our taxpayer's dollars as capital. And I don't see that ending anytime soon.

SF: Now, in January and February, it seemed, at least to an outsider, that even regardless of what the books said, the banks seemed to be doing very well on a cash-operating basis, the rollover alone. You were paying fees. You are paying fees. You were paying 10,000 points above LIBOR. Do we have a disconnect here? Where on a cash basis, the banks are doing well; where in a statutory, regulatory basis, they're still not out of the woods?

MW: On an accrual basis, that's where you get into problem areas. Because your loan is only as good as it pays you back. And so, the loans are paying back less. As I said, one of the two main assumptions that goes into valuing any of your loans, accrual-based loans, is home price appreciation, but also unemployment.

A lot of the banks were carrying seven-and-a-half to eight percent unemployment. We're already over 8%. So, there are going to be big true-ups this quarter. Some parts of the business are OK. And what's interesting, for a Goldman Sachs, 70% of the capital markets competition has gone away, or dramatically pulled in their horns.

So, it's a smaller pie. But you're getting more of a market. And the government actually is churning a lot of fees for Wall Street. So, there's trading activity there. I don't know how sustainable it is because bank revenues, cash-based revenues on the non-accrual-based loans, should correlate to some multiple of the GDP and global GDP. And as we know, the global GDP is coming down.

It should be clear from this transcript, the numerous TV appearances, and publicized predictions proven correct, that Meredith Whitney knows her stuff. Stay tuned for Friday, however, when we take Ms. Whitney off her pedestal as David Weidner of the Wall Street Journal helps us rip her a new one...we ain't Fox News, but we ARE fair and balanced.

The New F******* Citibank

2009-04-21T06:05:00.001-04:00

The New F***ing Citibank - watch more funny videos

As a tribute to Meredith Whitney's famous "Call," we are featuring two great Citibank sketches today and Thursday....enjoy!

Meredith Whitney: Foresight in Hindsight?

2009-04-20T06:22:00.004-04:00

This entire week, Llenrock Blog is dedicating its posts to one of the most talked about banking analysts in recent memory...Meredith Whitney. She has been called the "Oracle of Wall Street" for her correct assertion 18 months ago that Citibank was in trouble. Since then, fanfare and accolades by her peers and the press have sent her to the very top of her business. Today we will take a look at what made her so popular. On Wednesday, we will take a look at a recent interview with Steve Forbes, to see what she predicts for the future. And on Friday, we will take a look at one of her detractors, and why it is so dangerous to place our collective faith in one person....one very interesting person.

If I only knew then what I know now. How many times have you uttered that phrase in your life? Well if you are stock analyst Meredith Whitney, probably not too much. For those of you not in the know, Meredith Whitney has become a polarizing figure in the world of banking. The media loves her. Bankers? Not so much. You see, last summer, when everybody was optimistic and hopeful that the economic downturn had seen its worst days, it was Meredith Whitney who predicted that the worst was yet to come. And she's done it repeatedly in the face of naysayers with astounding success.

First, some background. Whitney graduated with honors from Brown University. In 1993 she joined Oppenheimer & Co. as a research associate covering the Oil & Gas Industry. In 1995, she joined the company's Specialty Finance Group. Later, in 1998, she left the company, eventually becoming the Head of Financial Institution Research at Wachovia. Whitney returned to Oppenheimer in 2004, where she covered banks and brokers.

She made headlines 18 months ago, when she wrote a particularly pessimistic, but accurate report on Citigroup, on Oct. 31, 2007, which got her attention from many Wall Street analysts, and news media. She has since followed this report with similar reports and predictions, which have tended to leave the companies involved with lower stock prices as the market has taken her opinion seriously. One of her claims is that goodwill is built in to a lot of companies share prices, and that as the market moves into dark times, this goodwill will dissipate.

How good was The Call? If an investor sold Citi the next day, they would have saved themselves a 92.8% loss through last week.

In 2007 she was listed as the second best stock picker in the capital markets industry on Forbes.com's list of "The Best Analysts: Stock Pickers", as well as being named "one of NY Post's 50 Most Powerful Women in NYC.

Her extremely bearish view on banks landed her on the cover of the August 18, 2008 issue of Fortune Magazine. Even before the problems in September that befell Merrill Lynch and Lehman Brothers, she is quoted as saying, "It feels like I'm at the epicenter of the biggest financial crisis in history."

Time and time again she has been right. Three months ago, she was asked her opinion on the concept of a bad bank and what it could potentially do to the banking sector. After viewing the clip below, ask yourself if she prognosticated correctly.

On Wednesday, we'll take a deeper look into Whitney's thoughts on where we stand now, and what the future has to bring.

Top Ten List: Business Risks for CRE

2009-04-17T06:18:00.000-04:00

Recently in Institutional Investor Online, Ernst & Young contributed a research report listing the top ten business risks for commercial real estate. In a suspenseful twist, we will provide them in descending order, a la David Letterman, and provide our thoughts and commentary thereafter. Without further ado, they are (drum roll please):

10. Volatile Energy Costs (O)

9. Economic Vulnerability and Regulatory Risks in Developing Markets (F)

8. Green Revolution, Sustainability & Climate Change (D)

7. Pricing Uncertainty (F)

6. Inability to Find and Exploit Global and Non-Traditional Opportunities (D)

5. Changing Demographics (O)

4. Global War for Talent (O)

3. Impact of Aging or Inadequate Infrastructure (D)

2. Global Economic and Market Fluctuations (F)

1. Continued Uncertainty and Impact of the Credit Crunch (F)

If we assign these concerns into one of the following three categories: Finance, Development, and Operations, as indicated with (O, D or F), we find that while the top ten issues are somewhat diverse in nature, the top two remain financial concerns.

The issues we chose to tag "Operational," while important, we do not feel are vital to the health of the commercial real estate market. Changing demographics are sure to affect particular markets, especially in the southwest, but will take a while to reach corridors like the northeast. The Global War for Talent is an issue of the future, as anybody who is actually hiring in this market essentially has the pick of the litter from the copious amount of unemployed, likely overqualified candidates. When this does become an issue at some point in the future, it will likely mean the unemployment rate will dwindle from double digits back into the 5-6% comfort zone of a few years ago.

Energy costs are a necessary evil of the business. Lease type will dictate whether landlord or tenant will be paying for the rise in energy costs, and the government is attempting to implement a wide range of programs aimed at stemming energy costs from crippling the economy. These programs will take a long time to bear fruit, but they are being addressed.

The Development (D) issues are of greater immediate importance in our opinion. However, most are questions of project feasibility as they pertain to financing. If green buildings are not cost effective for landlords or tenants, you simply won't see very many being built, or converted. Likewise, while aging infrastructure is a serious problem, developers will examine the cost basis of various opportunities before building or renovating. Until construction costs drop replacement costs closer to price per square foot figures being paid for existing product, new ground up developments will be fewer and farther between, especially if market demand is sluggish. Which leads us to the last (D) on the list...finding new global and non-traditional opportunities. This issue is probably the most abstract on this list, and so it will take time to figure out exactly what the issues are. More than likely, it was included on this list as a result of so many of the other issues being, well, issues. People fear the unknown.

This of course leaves us with Financial (F) concerns. Pricing uncertainty, regulatory risk, market fluctuations and the credit crisis blow the rest of the aforementioned issues out of the water, in our humble opinion, in terms of what people SHOULD be worried about. Frankly, these four issues would be 1-4 on our list. Of course, unlike David Letterman's Top Ten Lists, which are supposed to make you laugh, ours, like E&Y's, would be more likely to make you cry....

Grandstanding or a Can of Whoopass?

2009-04-16T06:17:00.000-04:00

If you haven't been watching C-SPAN over the last several months, here is an example of some of the meetings on Capitol Hill. Its pretty intense, but somebody needs to say it.

CMBS vs. TALF

2009-04-15T06:36:00.000-04:00

Recent reports issued by Deutsche Bank, DBRS and Fitch Ratings find that commercial real estate fundamentals have dramatically weakened across most major property segments and markets, with some starting to reach the depressed levels of the last major recession in the early 1990s. Richard Parkus, head of CMBS Research at Deutsche Bank, projected in his firm's commercial real estate outlook last month that property prices are expected to decline 35% to 45% (or more) overall during this recession. If of course that happens, much of the $700 billion dollars worth of commercial real estate coming due between 2009-2011 will be extremely difficult to refinance, making default rates spike even further.

CMBS collateral performance are currently deteriorating at a historically fast pace and Parkus predicted the total delinquency rate could likely to exceed 3.5% by year-end. That is one of the highest estimates that have been projected by CMBS analysts. Worse still, Parkus added, it could go as high as 6% by 2010. By far the greatest risk facing CMBS loans right now is maturity default/extension risk, not term default risk, Parkus of Deutsch Bank said.

A large percentage of CMBS loans made in 2005-2008 may not qualify for refinancing without substantial equity injections due to much tighter underwriting standards, massive price declines and declining cash flow.

All of this, of course has led to increased pressure on the Obama administration to include commercial real estate on the list of vital industries that need help.

Longer-term debt is critical to saving the commercial real-estate business, which faces a record amount of debt coming due in the next three years. Industry observers are expecting the delinquency rate to double by the end of this year and go higher next year. Problems could be magnified if the credit drought continues and owners of even healthy properties are unable to refinance. This has sparked a lobbying effort to include CMBS in the TALF program.

Currently, TALF makes low-cost loans available to investors who buy securities backing everything from credit cards to auto loans. The first TALF-eligible deals, involving securitized car loans and credit-card cash flows, began in March, but investor response to the program has been anemic. Investors applied for just $1.71 billion in loans on Tuesday in the second round of TALF, according to the central bank. That follows applications for $4.71 billion last month.

Obama administration officials have been promising for weeks that the TALF would be expanded to include commercial real estate. But details have been sketchy and have been a subject of debate between policy makers and the private sector.

The big problem with expanding TALF to commercial real estate is the nature in which both entities naturally function. The government typically doesn't like to make loans, similar to those they are currently making under the TALF program, longer than a year or so. They do this because they like to control liquidity. However, they have already gone to three year loans, outside of their comfort zone, for existing TALF eligible loans. The CMBS loans, on the other hand, are typically five years or longer.

Industry executives hope that the TALF effort will resurrect the CMBS market. In 2007, about $230 billion of securities were sold. That number dropped to zero by last summer. The dearth of financing has frozen sales and sent values plummeting, setting the stage for another wave of defaults that could cripple some banks and other lenders.

Commercial-property debt is expected to be one of the most attractive TALF-eligible assets, because it is collateralized by office buildings, malls, warehouses and other income-producing real estate. It is perceived as less risky than consumer credit such as credit-card debt and car loans.

Anticipating that TALF will be modified, a number of investment firms, including BlackRock Inc., Prudential Financial Inc. and ING Groep NV unit ING Clarion Partners LLC, are positioning themselves to use the TALF program to buy high-quality commercial mortgage-backed securities, or CMBS. Some of them aim to raise billions of dollars for that purpose.

Let's hope, for all of our sake, that these guys are right, and that the government makes good on their promise. It's likely our livelihoods depend on it.

Bailout Rejected: Please Help Rich

2009-04-14T06:10:00.001-04:00

Bailout Rejected: Please Help the Rich - watch more funny videos

There are lots of needy, starving bank statements. For only a dollar a day, you can help!

Are You my Landlord or a Carnie?

2009-04-13T06:48:00.003-04:00

Ever been to a fair, carnival, or amusement park? Well assuming you have, you certainly know the weird but lovable shucksters that work there, trying to taunt you with the promise of a 13 foot stuffed gorilla with fast talk while your kid's pleas and cries begin to burn a hole in your pocket. These folk operate all of the little games that seem all too winnable, that is until you actually try them (do those rings even fit around the bottles? are those milk bottles glued to the surface?). The bottom line is that these carnival operators, or carnie's, as I like to refer to them as, will do just about anything to get you to spend money at their booth.

This concept seems all to familiar to retail landlords of regional malls, power and lifestyle centers. The only thing worse than a rainy day to a carnie is a dark store to a landlord. And landlords aren't being all that shy about it either. A recent article in the New York Times showed that a burgeoning trend to fill up the mounting oceans of vacant space is, well, water.

In more than 12 malls across the country, the Flowrider, an indoor wave pool, is filling up once vacant blocks of space emptied by retailers gone bust.

“Landlords are scared,” said Suzanne E. Mulvee, a real estate strategist with Property & Portfolio Research. “Part of the reason they’re scared is dark space doesn’t pay.”

This phenomenon has begun to grow roots ever since big ticket tenants like Circuit City and Linens N Things filed for bankruptcy. Landlords began scrambling for replacements tenants. Downscale chains that landlords once kept out of shopping centers are suddenly being shown the welcome mat. Temporary stores are popping up. Once-small retailers are being invited to take over big spaces, while the strongest national chains are seizing the moment to move into new cities at low rents. And vast mall spaces formerly occupied by department stores may soon be carved up or turned into community colleges and dance studios.

The Flowrider might ordinarily be a great co-tenant of a swimwear store, a surf shop, or a Chuck E. Cheese. Yet, its making waves (brutal, I know) in regional malls of all shapes and sizes. And it makes perfect sense too.

When the nation’s stores March sales results came out last week, the numbers were down yet again — especially for department stores and mall chains, which have been the weakest performers for months.

That does not bode well for mall owners. As more stores have closed, mall vacancies are at their highest point in almost a decade, according to Reis, a research company, which said the vacancy rate at the end of 2008 was 7.1 percent, compared with 5.8 percent at the end of 2007. Other analysts have slightly lower figures, but all agree that vacancies are rising.

And so, with what is likely great disdain, and a heaping pile of humility, retail landlords are considering what they have to in order to service the bottom line and keep their centers occupied. And while we all may think its a somewhat goofy notion, the underlying theme is one that most of us can relate to. If a Flowrider is more likely to pull you, or your kids, to the mall, then its a win for them. If not, then don't be surprised if they start throwing in free 13 foot stuffed gorillas as an added incentive to get you off the couch and in their stores.

They Say the Neon Lights Are Bright....

2009-04-10T06:07:00.002-04:00

John Hancock was famous for his distinctively large signature on the declaration of independence. Psychologists suggest that this is an common mark of someone who is egotistical, cocky, or insecure. As is often the case with insecure people, they often do something to cover up their insecurities by trying to distract the public with something else (if you drive a Ferrari or Lamborghini, I'm looking in your direction). So what was John Hancock so embarrassed about? Well he may not have been clairvoyant, but if he was, he might have been embarrassed by the dearth of activity that the "signature" skyscraper his name bears in Boston, generated at auction recently. Even more embarrassing? The price owner Broadway Partners begrudgingly had to sell the trophy asset for. And you thought the neon lights were bright on Broadway? Turns out the neon lights are dimming, and Broadway may have been better off with the stereotypical Porsche or Viagra.

What Broadway Partners couldn't overcompensate for, however, was the credit crisis, and the disaster overleveraging an acquisition in a declining market would bare. Led by founder and chief executive officer Scott Lawson, the New York based firm was a prolific buyer of real estate assets in the US in the boom years of 2005 to 2007. Having raised just $799 million in two funds, in 2006 Broadway "reviewed 436 transactions with a combined asking price of $75.2 billion," according to fund documents of the Pennsylvania Public Schools Employees' Retirement System.

The John Hancock Tower was part of those deals, after being acquired from Boston-based Beacon Capital Partners as part of a $3.3 billion, 10-building portfolio. The Tower was reportedly sold to Broadway for $1.3 billion.

Like many active buyers during the boom years, debt was key to Broadway's strategy. As the PSERS' document stated, "Broadway continuously monitors the capital markets in order to take advantage of refinancing opportunities and to position the property for the optimal exit strategy."

Of course, strategy and execution are two entirely different things, as Broadway learned the unfortunate hard way. And the end to this fairy tale wasn't a happy one. The auction only generated one measly offer, and the entire process was over in a matter of minutes.

Minimum bids had been set at $20 million dollars (plus the assumption of a $640.1 million dollar mortgage). The winning bid? $20.1 million dollars by a joint venture between Normandy Real Estate Partners and Five Mile Capital Partners. The total capitalization for the deal was just over $700 million dollars, for a building that Broadway paid $1.3 billion for three years earlier. A $600 million dollar loss. That isn't just a haircut, its a scalping!

Yet, this ordeal demonstrates two interesting things. First is that the discounts that savvy real estate investors have been chirping about for months now have started to come to fruition. And if the John Hancock Tower is any indication, there will be some major bargains. The other, more interesting thing of note, however, is just how many players there will be to snatch up these assets.

Perhaps this was a simple matter of a waiting game. Maybe more ready, willing and able buyers are out there, biding their time, sensing that there would be even more pain, and thus better buying opportunities further down the road, than they saw in this opportunity. But only one bidder? For a landmark, trophy asset discounted at nearly 50% of what the seller recently paid for it?

Something tells us this isn't an anomaly. There are too many large real estate operators I know who like to talk opportunity, but in actuality are too busy trying to asset manage thier existing portfolios to truly be focused on vulture acquisition opportunities. Not only that, but even funds that are capitalized well aren't the same as they used to be. The preferred returns they promise investors are ones which they would like to maintain. Without the leverage they were able to get several years ago, especially on bigger sized transactions, buying the same way is almost impossible. Buying with lower leverage cramps down those returns. And lets not forget most opportunity-based funds are investing based on pro-forma returns, not in place current cash flow. Pro-forma today is almost the equivalent of throwing darts at a dartboard. Sure, you can plug in assumptions into your ARGUS model all you like, but assigning probabilities to those assumptions, which make or break the IRR's a model spits out, is anything but easy.

Only time, and more distress will tell the full story. Yet there are many speculators out there who fear that the commercial real estate market, which typically lags economic recession by 18-24 months, will be even worse than the residential debacle. If that is the case, perhaps the John Hancock Tower will seem overpriced in retrospect.

Obama hits the AIG-Spot

2009-04-09T06:51:00.001-04:00

We here at Llenrock really wouldn't be surprised if this is how the Obama administration Cabinet meetings looked...Hey, whatever works, right?

FIRPTA Foibles Finance From Far East

2009-04-08T06:04:00.000-04:00

As of March 16, 2009, the total U.S. federal debt was $11,042,553,971,450.47. A traditional defense of the national debt is that Americans "owe the debt to themselves", but that is becoming increasingly less accurate. The US debt in the hands of foreign governments was 25% of the total in 2007, virtually double the 1988 figure of 13%. Despite the declining willingness of foreign investors to continue investing in US dollar denominated instruments as the US dollar fell in 2007, the U.S. Treasury statistics indicate that, at the end of 2006, foreigners held 44% of federal debt held by the public. About 66% of that 44% was held by the central banks of other countries, in particular the central banks of Japan and China. In total, lenders from Japan and China held 47% of the foreign-owned debt. And recently, word is spreading that the Chinese have pulled back their investments in US Treasuries.

When it comes to real estate, however, foreign investment is not very common, because it simply isn't very easy.

The Foreign Investment in Real Property Tax Act (FIRPTA) is a statute that requires that a seller, who is a foreign person, permit a withholding of a part of the selling price (generally 10%) against the United States gains taxes that the foreign person will owe on capital gains earned on the sale of real property.

FIRPTA was enacted in 1980. A senator from Michigan was concerned about farm land and wanted to protect “the American heartland” from foreign interests. The world has changed, but FIRPTA has not. Many of the rules that were written in the 1980s look outdated and unsuited to modern investment practices because they were written with a particular paradigm in mind, that being a single foreign investor or a small group of foreign investor acquiring US real property.

Non US investors in US real property are subject to fundamentally different US federal income tax rules than those that apply to their investments in US corporations or other capital assets. Most notably, a foreign person’s gains attributable to the disposition of capital assets other than US real property interests are not subject to US tax. FIRPTA discriminates against the asset class of real property.

To exacerbate this problem, most of the US debt that China and Japan do own is bought by Asian banks, which in China are controlled by the government, and the governments themselves in addition. It is very difficult for wealthy Chinese businessmen to funnel personal money out of China and into the US for personal investment in real estate for this reason in addition to FIRPTA. Yet, there is an increased flavor for it. This is due to the United States general macroeconomic and governmental stability relative to other foreign countries, and the relative weakness of the dollar and the economy. As we all know, the yields, by almost any metric used, in commercial real estate have increased by hundreds of basis points across all sectors in the last year.

If FIRPTA was repealed, not only would this stimulate foreign investment in the US, but it would make it easier for the investment to be private, rather than public investment. Just among domestic ownership of commercial US real estate, the percentage of private ownership is staggeringly high. If we make foreign investment easier, logic would suggest that the ratio would be similar. In an overall foreign investment ratio, foreign real estate investment would help balance public versus private investment. This would provide a good hedge against any sudden and potentially economically catastrophic and ruinous move by the Chinese government to stop investing in the US, or essentially financing our burgeoning debt ratios.

Repealing the outdated FIRPTA law would simply allow us to avoid potential economic disaster, as it spreads risk from one large powerful investor, the Chinese Government, to a lot of individual, and therefore less powerful investors. By allowing this foreign investment, we increase foreign equity in the US, rather than continuously inflating our debt to foreigners. This, in and of itself may provide enough influence to foreign governments to continue financing our debt, because their citizens interests are economically more aligned with US citizens. If Asian Governments decide to pull the proverbial plug, sending our economy into disarray, their own domestic private sector would stand to lose as well.

For those of you who agree with that Michigan Senator from 1980 who helped put FIRPTA into law, I would remind you that the Fart East already owns America anyway. Repealing it is simply a way to make sure foreigners don't really control our fate as a nation by aligning their interests with our own. After all, this isn't 1980, and we do live in a global economy.

How A Bailout Really Happens...

2009-04-07T06:22:00.004-04:00

Leave it to a show about 8-year olds to get this right!

Negative VORP

2009-04-06T06:23:00.003-04:00

Last night, the 2009 MLB baseball season began. No other industry has monetized statistics quite like baseball has, with agents turning homeruns and RBI into dollar bills. Lots of them. So it would only logically follow that new, less traditional statistics have been invented to attempt to track less tangible, but meaningful attributes of a player's performance. One such metric that has increased in popularity amongst baseball nerd circles is VORP, which is an acronym for Value Over Replacement Player. It is defined as the number of runs contributed beyond what a replacement-level player at the same position would contribute if given the same percentage of team plate appearances.

For example, if Jimmy Rollins, shortstop for the Philadelphia Phillies, were replaced by backup utility infielder Eric Bruntlett, what would the drop-off in statistical offensive production look like? Essentially, whatever this figure, would be factored towards creating Jimmy Rollins' VORP.

Soon after VORP was created, people started to think about less productive players. Could there be such a thing as negative VORP, whereby a player's performance is worse than a replacement player, and thus is actually detrimental to the team?

The answer, of course, was yes. For example, Andruw Jones, the five time All-Star and ten time Gold Glove Award Winner, had a VORP of -17.3 last year, as he could barely hit a baseball.

What does this have to do with real estate and finance, you ask? Absolutely nothing. But, it did get us thinking about the fun, somewhat practical nature of applying negative VORP to the world outside baseball.

What people outside baseball that have in some way affected the commercial real estate and finance community might have negative VORP?

Let's take a look at various peoples' VORP's to find out.

George Bush (-21) - VORP: Value Over Replacement President

Tim Geithner (+1) - VORP: Value Over Replacing Paulson

Donald Trump (-7) VORP: Value Over RealityTV Personality

Harry Macklowe (-12) VORP: Value Over Realty Partner

Sam Zell (+34) VORP: Value Over REIT Profits

Bernie Madoff (-64 B) VORP: Value Over Real Ponzi

Please submit your own Negative VORP candidates by leaving a comment on this post....

AIG: Allocation In Goldman

2009-04-03T06:22:00.000-04:00

When I first heard about the bus tour organized by angry protesters of the now widely publicized AIG executive bonuses, I thought it was somewhat silly. After all, what exactly was looking at people's houses from outside their mansion gates going to do? Especially after most of the executives had already announced their willingness to give back their bonuses after they were publicized? Perhaps instead of complaining about being out of work when these careless executives were getting bonuses with taxpayer money, these protesters should instead be out looking for jobs of their own. Or, perhaps they should have been outside Lloyd Blankfein, and other top Goldman Sach's executives houses instead.

Why? Because of all the counterparties AIG insured in their derivatives deals, Goldman Sachs was their largest customer. And because all of that massive $60 billion dollar prop up given to AIG, with the exception of the executive bonuses, didn't even go to AIG. It went straight to the counterparties they had insured, and made them whole.

Goldman Sachs purchased $20 billion in credit default swaps from AIG. Goldman then turned around and sold these credit default swaps for a small profit. However, if AIG failed, went bankrupt, and therefore did not deliver on the $20 billion in credit default swaps and financial instruments, Goldman would have owed $20 billion to the firms that had purchased these credit default swaps from them. This would have resulted in a massive loss for Goldman, instead of a small gain. While distressed real estate is currently trading between 10-90 cents on the dollar, and many other banks and companies are taking huge losses, investment banks like Goldman are being made whole. They are miraculously getting 100 cents on the dollar. And might I remind you that its the taxpayers paying them.

As ridiculous as it may seem, that's not even the shiestiest part. The man responsible when the AIG bailout was announced, former Treasury Secretary Hank Paulson, also used to be the former CEO of Goldman Sachs.

For those of you unfamiliar with the workings of investment banks, there is often a vesting period associated with partners/employees compensation. This is done to incent bankers not to simply leave the firm for greener pastures because they have been given a huge financial incentive to stay. If they leave before their equity fully vests, they might be leaving hundreds of thousands, or even millions of dollars on the table.

Now to be fair, this was not the case with Hank Paulson. Since Goldman went public ten years ago in 1999, most of the vesting equity for executives has been in the form of company stock. Paulson however, who as a stipulation in working for the federal government when he took the Treasury Secretary position in 2006, was forced to sell his Goldman shares so there was no potential conflict of interest. However, just because there may not have been a direct personal financial incentive for Paulson to orchestrate the bailout of Goldman, masked publicly by calling it a bailout for AIG, to think their was no incentive for him to do so is downright farcical.

There is, and has always been a great corporate culture in investment banking, but especially at Goldman. To think, despite any internal power struggles, that most executives aren't looking out for their cohorts and allies who helped get them to the position they are in, is silly. In fact, most investment bank CEO's have wrested such control of the company through strategic internal alliances from potential internal detractors, that most (unless their errors are both public and egregious, and are therefore forced out, a la Jon Corzine) are successful in determining who their eventual heir apparent will be. Such was the case with Hank Paulson and current Goldman CEO Lloyd Blankfein, who remained loyal to the "my way or the highway" style of Paulson despite their contrasting personalities and styles.

As proof, in 2003, when Paulson was initially up for the potential Treasury Secretary job that was eventually taken by John Snow, his two assumed succesors, then Goldman Co-Presidents John Thornton and John Thain, both left Goldman. Thornton and Thain, who were widely assumed to receive advancement when Paulson was assumed to relinquish his reign over the company in 2003, left once Hank decided to pull the old, "nah, I think I'll stick around for an indefinite amount of time longer and screw you guys over." Blankfein, the newly appointed number two thereafter, on the other hand, was patient enough to bide his time as the new number two, and was rewarded for that patience when Paulson finally did decide to leave for the Treasury Secretary position in 2006.

Rumor has it that Lloyd Blankfein was in the room with Hank Paulson on September 13th when Paulson was orchestrating the propping up of AIG. That notion, in and of itself is unsettling given where the "AIG" bailout money was really going. It has a "Wizard of Oz" feel of "pay no attention to the man behind the curtain." The AIG executive bonus hullabaloo just furthers the shadiness of the AIG bailout, just as the Iraq War masked the fact that George Bush was giving government war contracts to companies run by his old oil buddies, like Blackwater.

When you are about to lose your job, whose the first person you call? A friend or former colleague in a position of power to help you out would be a good start. So is it really a conspiracy theory, or common sense to suggest that when Goldman was faced with losing $20 billion dollars that Lloyd Blankfein would call up Hank Paulson, his former colleague in a position of power to help him out? Most people don't burn bridges because its simply a bad business principle. Paulson knew he wasn't going to be Treasury Secretary forever, and he knew he likely wasn't going to become CEO of Goldman again after his government stint was over. Helping an old friend, and loyal number two, save $20 billion dollars for a bunch of old colleagues and friends was probably a wise financial decision for Hank Paulson, regardless of whether he was going to see any direct financial incentive from doing so.

April Fools

2009-04-01T06:39:00.002-04:00

Every year, this date unassumingly sneaks up on most of us, and our co-workers, friends and family take delight in yanking our collective chain. Given the serious nature of our business and the credit and economic environment we find ourselves in today, we at Llenrock know that a little dose of gallows humor gets most of us through the week. With that in mind we'd like to spend today's blog post discussing some fun, cruel, April Fool's Jokes that could be played on the commercial real estate/financing community. Have Fun!

The Ideas....

1. It turns out that instead of Wells Fargo, Bernie Madoff is set to fund your deal that's supposed to close tomorrow. You know, the one in which you waived your financing contingency and have a $5,000,000 hard money deposit sitting in the seller's bank account already?

2. President Obama just increased the capital gains tax from 15% to 40% today. Didn't all 3 of your identified exchange properties just get pulled off the market?

3. Did you hear LIBOR just jumped 500 basis points? Aren't all your construction loans floating over LIBOR?

4. What was that REIT stock you were telling me about that you recently sold? Someone told me their quarterly earnings report just came out and they beat analysts' expectations by 400%. The stock is up from $0.08 to $1.56 this morning.

5. Hey you know the ______ deal that had environmental issues, a title discrepancy, that the bank wasn't going to fully fund? It closed!

6. The boss wants to see you in his office. NOW.

7. Tim Geithner 's on the phone for you. He says he is taking a survey regarding how the sweeping economic changes are affecting your 401(k). Should I put him through?

8. Did you hear Congress is making all public and private fund real estate operators mark-to-market their current portfolios? Instead of cash on cash return they are demanding your local residential REALTOR valuate the assets using comparable sales in the last 3 weeks.

9. Moody's just came out with a new credit rating vernacular. From now on, anything below AAA+ will be known as junk. Anything below BBB+ will be known as shit. Anything below B will be known as "Come on, are you f#$%ing serious?"

10. Turn on the TV! Barney Frank is currently holding a Senate Finance Committee meeting airing live on C-SPAN regarding how many licks it takes to get to the Tootsie Roll center of a Tootsie Pop!

APRIL FOOLS!!!!!

Every Rose Has Its Thorn

2009-03-30T06:28:00.001-04:00

I want to kill myself for incorporating anything written by Bret Michaels or recorded by rock band Poison into this blog, however, the 80s hair band's biggest hit is simply the perfect analogy for the year that investing's biggest hit, Warren Buffet, just had.

Earlier this month, Buffett, the head of Berkshire Hathaway since 1965, addressed shareholders in his annual letter with not the greatest of news. Like almost every other investor, Berkshire Hathaway lost a considerable amount of money for its shareholders. Berkshire in 2008 lost 9.6% in book value per share, a common metric Berkshire uses to track performance. That marks the biggest decline since Mr. Buffett took over almost 45 years ago.

Berkshire shares fell nearly as much as the rest of the market last year, indicating that investors are worried about the company's ability to keep growing. In 2008, Berkshire's Class A stock fell 32%. This year, the shares are down nearly 19%, only slightly better than the Dow Jones Industrial Average.

Buffett, the proverbial investment rose, surely and self-admittedly did some pretty stupid things. He bought a significant number of shares in oil giant ConocoPhillips when the price of oil was near its record high, only to see the price of a barrel of sweet crude tumble almost $100 dollars a barrel, and Conoco's share prices tumble right along with them. He also invested almost a quarter billion dollars in a pair of Irish banks that hit subprime trouble, which resulted in an 89% loss.

Some wondered if the investment guru's run was over, with his inability to stave off steep losses like the rest of the market. Yet while Buffett certainly has had his thorns the last 18 months, he is still a rose.

He took a $400 million dollar loss when he pushed General Re, his big insurance company acquisition in 1998, to disentangle itself from over 23,000 derivatives contracts it had on its books at the time. Buffett was notorious for claiming in 2002 that derivatives were "financial weapons of mass destruction." He has always thought they were unnecessarily complicated risks, not worthy of taking. While on the surface, a $400 million dollar loss is no prize, first consider what the exposure could have been now had he not begun to take action to unburden General Re of them almost a decade ago. $400 million could have ballooned into a double digit number with a "B" on the end of it rather than an "M." How many other investment managers do you know who had the foresight to avert such a monumental disaster? Buffet knew when to cut his losses, and in this environment, losing less than the next guy is actually perceived as winning.

Which brings Buffett to his next (not so) rosy outlook. Losses have been so endemic and persistent across all investment strategies over the past year, that an incredible phenomenon began to occur in the U.S. Treasuries market. People became so scared of investing, that the mass flock to the security of U.S. Treasury Bonds pushed their yield to zero, and even into negative territory, and yet people continued to invest. It turns out that people would rather take a minor, but guaranteed loss, than risk a much bigger loss in the market, trying to make a gain. Or as Buffett specifically noted himself, "the investment world has gone from underpricing risk to overpricing it," which he said is reflected by investor appetite for Treasury bonds. Future historians will comment on the Internet bubble of the 1990s and the housing bubble of the early 2000s, he said, but "the U.S. Treasury-bond bubble of late 2008 may be regarded as almost equally extraordinary."

Possibly the biggest thing that makes Buffett smell rosy through all of this turmoil is all the work he had done prior to this mess to be able not only to weather the storm, but comeback with ferocity. We all know that in this environment, cash is king. Buffett has $24.3 billion in cash that can be used to find bargains in a distressed market. How much do you have?

Drawing a Line in the Wet Concrete

2009-03-27T06:04:00.001-04:00

Drawing a Line in the Sand...a phrase everybody knows, yet nobody knows where it comes from. Some say it stems from the Alamo, when William Barret Travis drew a line in the sand with his sword, urging those who were willing to stay and defend the fort to step across it. Many historians suggest that it stems from the Roman Empire, when one of the Macedonian kings, a bit short of cash, decided to invade Egypt, then a Roman protectorate. His army was met at the border by a lone Roman senator named Popillius Laenas, who ordered the king to withdraw. The king began to stall for time, so Popillius Laenas drew a circle in the sand around the king and demanded that the king agree to withdraw his army before he stepped out of the circle. The king, apparently impressed by the senator's nerve (or, more likely, by the Roman Empire in general), withdrew.

Why the history lesson? Because as our parents and teachers have told us time and time again, "those who don't learn from the mistakes of history are doomed to repeat them," or something like that. And when it comes to the credit crisis, and the possible nationalization of the U.S. banking system, there is a lot of history to learn from. As this article from New York Times writer Alan Blinder suggests, nobody is really talking about nationalizing the entire US banking system (although I'm sure Rush Limbaugh is accusing Barack Obama of that desire as I write this).

As Blinder points out, the success that Sweden had in nationalizing banks in the 1990s stemmed not necessarily from the process of nationalization, but rather the efficiency with which they were able to carry it out. Sweden only had a handful of banks to deal with. The United States has over 8,300. Now even though most would not need nationalization, because not all are in financial turmoil, the question arises, "where do you draw the line?" If you only elect to nationalize the 5 sickest banks, what happens when the sixth sickest bank comes calling? Do you let it fail? Surely market speculators would sell its stock to the point where it would fail if if they knew you weren't going to come to its rescue. And so then if you save number 6, what about when numbers seven and eight come calling for the same reasons?

This would essentially be like drawing a line in the sand, only to revise that line at some arbitrary point in time. Not only that, but the government would essentially be doing the same thing as what they are doing with the homeowner bailout....rewarding those who were most irresponsible at the expense of those who were responsible.

If we are really to learn from history, we should know that drawing a line in the sand itself is part of the problem. All we have to do is look back to the actions of Hank Paulson and Tim Geithner. As we discussed in a recent blog post, their misdirection and/or seemingly constant changes of heart in what to do and who and how to help with bailouts made the economy, and the financial markets, even more shaky than they already were by their own doing. For you see, drawing a line in the sand is as fleeting as the wind that can wipe those same lines away. They can be fudged, revised, redrawn and forgotten almost as soon as they are drawn. Suffice it to say, that is simply the antithesis of stability, which is what we really need in the long run, be it for better or worse in the short run. We don't need a line drawn in the sand, we need a line drawn in wet concrete; One that isn't so reversible after a few hours time. Study history, contemplate the likely response/fallout of each choice, and then make the best decision possible. Oh, and then stick to it.

Hotel Development No Game of Monopoly

2009-03-25T06:03:00.001-04:00

So you own Boardwalk and Park Place (or the best respective site for a hotel in your particular locale). And thanks to the credit crisis, interest rates are at rock bottom lows, the cost of materials used in construction have shrunk, architects can turn around designs more rapidly with fewer projects on their plate, and construction companies are bidding each other down for the same reason. All is good in the world of a hotel developer, right?

Um, not so fast. First there is an issue of scale. Regardless of product type, larger transactions are harder to finance these days. Many of the large market players that financed these transactions in the past are out of the game entirely. Most others are choking on their bad debts, and even the better capitalized sources continue to sit on the sidelines playing the waiting game...that is waiting for the economy to hit bottom. There is a universal aversion, both amongst most developers, and certainly among most sources of capital, of being the first one to gamble in terms of purchasing or developing in this market. Why risk buying now if prices will continue to slide? Why risk construction starts when bidding out the project in 6 months might yield cheaper options? And so we wait.

Yet, at least on the hotel development side, many major market players are finding that their smaller projects are actually getting financed, even in today's challenging environment. Projects that require between $10-20M are getting the green light. For example, Concord Hospitality Enterprises recently secured a $13.4 million loan to build a 124-room Courtyard by Marriott in Pittsburgh, a great flag in not the greatest market. So it is possible....

Unless of course you don;t have sufficient equity. Most lenders are looking at LTV's between 55-65% for ground up hotel construction, and that's assuming you have a stellar reputation, track record, project, strong financial statements, and of course high barriers to entry. If the sponsor needs to raise equity to meet these stringent requirements, they can more or less forget about their project for the time being, regardless of project size.

Sightings of private equity for ground up hotel development in the last few months (or foreseeable future for that matter) has been about as rare as a Loch Ness Monster sighting. Private equity firms simply aren't buying into the notion of ground up development when, despite a drop off in construction costs, you can still buy existing product for less than replacement cost. Returns would have to be approaching a ridiculous 50% for firms to start considering a change in this philosophy.

Who would have guessed buying Mediterranean and Baltic was your best bet after all.

A Diamond in the Rough

2009-03-23T06:36:00.000-04:00

Oh the irony of it all. Consumer spending is way down, and so the retail sector has been hit hard. Unemployment is at 8.1% and climbing by the day on its way to 10%, and so the office sector is hurting. People are traveling less, and have less discretionary income, so the hotel sector has been battered. Portfolios of industrial property that would have traded sub-7 CAPs 18 months ago are now trading at double digit CAP rates. Even multi-family, a sector success by way of comparison, has felt the impact of tenants looking to double up, rent growth beginning to flatten, and has yet to see, in some markets, a wave of supply from condo projects-gone-bust mess with occupancy rates.

The one niche sector that hasn't been touched? Data Centers. That's right, the same sector that fueled the mini recession earlier this decade and is lovingly referred to as the dot-bomb era is currently partying like its 1999. How is that possible, you ask? Several factors are at play.

1. Demand is Different

Back at the turn of the millennium, data center demand was bursting at the seems from seemingly every start up company on Earth. Of course, the ability to grow was fueled mostly by venture capital, and every start up needed, or wanted, data center space. When these low revenue/ridiculously highly leveraged companies failed, data centers emptied out and were sold at bargain basement prices.

Now, instead of poorly capitalized start ups driving demand, heavy hitter companies are leading the charge. There are several reasons for this. First, since 9/11, major corporations are legally required to have backup sites for information to protect against the threat of a terror attack on their main infrastructure. These have to be off site, and since most major corporations are located in urban centers, that means these sites are often in suburban areas at least an hour away from headquarters. Secondly, we have seen the rise in bandwidth sucking websites like Facebook, You Tube and MySpace. These types of social networking sites demand a huge amount of electricity that only data center space can provide.

2. Supply is Constrained

When the data center stock was sold after the fallout, many of the suburban buildings were adaptively reused for other purposes. This constrained supply naturally. Furthermore, as construction costs soared a few years ago, nobody built much of anything on spec, let alone a data center whose bad taste was still in every developer's mouth from 2001.

Furthermore, many of these powerful electricity-sucking facilities need to be strategically located close to a major power source like a substation, or a fiber conduit. Locating further away from these sources makes it more expensive to gain access to the necessary power, which isn't conducive to keeping costs down for landlords or tenants. This is especially the case in urban environments, which makes adaptive reuse of old vacant office buildings or warehouses much more challenging if they aren't in the ideal location.
3. Growth is Organic, not Economic

Unlike most other sectors whose growth is usually tied to economic factors like jobs, consumer spending and housing prices, data centers are not. Demand is outstripping supply by a healthy margin, and demand for this type of space is projected to grow substantially over the next 5 years. One only need to look at the newspaper industry to see why. Newspapers are failing across the country because more people are choosing to get their news either via the television or online. As society as a whole becomes more comfortable with doing things online, and as generations who grew up with computers become the majority of the workforce, it is only logical that more and more of our lives will be connected via the computer. As this happens, there will be ever swelling waves of data that need to be stored somewhere, and data centers are where that will likely be. Corporations will move their file rooms to online servers. Warehouse and stock room inventories will be tracked and managed online. It is a natural progression of the way we will work, and live.

Don't believe the hype? Digital Realty Trust, the biggest REIT of data center space, has an 11-million-square-foot operating portfolio that is 95% leased. Demand appears high and new average rents are three-times higher than expiring rents. Hence its strong fourth quarter earnings report a few weeks ago, which included a 43.4% jump in FFO to $68.9 million ($0.76 per share). For the year, FFO was $230.3 million ($2.62 per share), up 27.8% from 2007, and adjusted FFO was $2.48 per share, a 21.0% jump from 2007.

As Baird analyst Will Marks points out, “We believe that many corporations are likely to look for ways to cut costs in 2009 and one way to cut costs is to outsource data center operations.” “This trend should benefit DLR.”

While there are industries and niches that run cyclical with, and counter cyclical to the economy, the data center market, unlike all of the rest, seems to know no valley no matter what the economy is doing.

The Matrix

2009-03-20T06:33:00.001-04:00

The Matrix, the hugely popular movie featuring Keanu Reaves, conceptualized an alternate world disguised as the real world, so that average humans would go on, thinking they are living their lives without drastic change, as machines acted as puppet masters behind the scenes, using us all for our energy in order to survive.

When you think about it, that concept isn't all that dissimilar from what is happening currently in Washington with all of the bailouts. The politicians are the machines, US citizens are the unassuming, comfortable humans, and only a rare few of us are actually "awake" living in the true real world.

Let me enlighten you. I am certain at some point over the last few months, you have heard some variation of a statistic suggesting how much all of these bailouts are costing each man woman and child in the United States. Last time I check, it was approaching a few grand. While to most people that is still a significant sum of money, when you rationalize it that way, it still doesn't seem like its that much.

So I took the time to create a matrix of my own (Microsoft Excel spreadsheet) depicting the twenty-five largest cities in America, their populations, and their average household incomes in order to come up with the annual average income of the cities themselves. Note: Unfortunately due to formatting issues, I am unable to paste the table into this blog, but just trust me...

The real purpose of this exercise was to determine how much each bailout costs an entire city population. That is, I wanted to show how much the bailouts cost U.S. taxpayers as a function of everybody in a major U.S. city forking over every penny they've earned over the course of an entire year. I was hoping my efforts would put some perspective on these bailouts, and the results are astounding. Time for some fun facts.

- If everybody in the city of Philadelphia handed over every penny they earned last year, it would cover the cost of Citigroup's bailouts.

- If everybody in Miami AND Pittsburgh handed over they're paychecks for all of last year, it WOULDN'T be enough to cover just the INITIAL auto bailout.

- To cover the initial auto bailout, AND the subsequent requests to maintain solvency, it would take the dollars and cents of everyone in Miami, Dallas & Seattle.

- Think bailing out AIG was a necessary evil? Ask everybody in Chicago if they'd be willing to spend everything they earned last year to make it happen.

- The cost of bailing out, or to be politically correct, placing in conservatorship, Fannie and Freddie? That would be the entire incomes of Los Angeles, Boston & Phoenix.

- And saving the best for last, what was the total cost of the Bush bailout? Only the equivalent of asking every taxpayer in the three largest American cities (New York, LA, & Chicago) to hand every penny over that they made last year. Oh, and guess what....that STILL would have come up a little short.

When we put it in this context, do you think there is a chance in hell Congress would have approved ANY of these bailouts? A few, maybe, but all of them, certainly not. And at least that would have been one fewer emergency tracheotomy resulting in our economic death.

The Three Kings

2009-03-18T06:19:00.001-04:00

On Monday we discussed the game of three card monte. So what are the three cards acting as culprits in this mess? Let's examine:

The King of Spades - Natural Excess of the Cyclical Economy

In every recession, there always seems to be some sector/product of excess, that creates a bubble, or a run up or oversupply of/in that particular sector/product. When demand can't catch up, the recession hits, as there is no longer a need for that sector/product. To briefly explain why oversupply can cause or lead to a recession, we need to understand relationships in the economy. When oversupply occurs of a major economically impacting product, and demand is far behind supply, supply temporarily stops because there is no need for it. This causes roughly a 3% decline in GDP (gross domestic product). Every time there is a 3% decline in GDP, it roughly translates into $2 million lost jobs.

Naturally, over time, the excess is burned off, because production stops, the population continues to grow, and eventually, demand catches up to a healthier balance with supply. When the tech bubble burst, tech startups stopped, datacenters stopped being produced and were converted into alternative uses, and eventually, we recovered. The housing bubble (which was the main culprit for this recession) is, and will be no different. Construction of single family homes has dwindled, but over time the population will continue to grow, demand will catch up with supply, pricing will stabilize, and we will recover.

The King of Diamonds (aka the King of the Middle East) - Gas Prices

This is probably the card that fools everybody. For months, all anybody wanted to talk about as the culprit for all this mess was the housing bubble. While it certainly was a major culprit, as we analyzed above, it certainly was not the only one. From mid 2006 to the fourth quarter of 2007, the price of a barrel of oil rose $100 per barrel. This was a $100 RISE in oil prices, after the price of a barrel of oil had only previously topped $100 per barrel for four months in the history of commodities trading. Suffice it to say this was unprecedented. The massively booming rise of the populations, and economies, of India and China were a significant cause of demand for oil, which helped push the price up, up more, and up higher still.

Yet, nobody talked about that as a cause of potential recession. No matter how you slice it, every one of us paying more at the pump led to one of two things. Either we spent less as consumers, or we saved/invested less of our money. Both of these have a negative impact on the economy. In fact, this phenomenon alone also caused about a 3% decline in GDP, or another $2 million jobs lost. The good news here is that since then, as the global economy crashed, oil prices have gone DOWN by about $100 per barrel, which should help lead us out of a recession over time. That is of course, if it weren't for card number three...

The King of Hearts - Emergency Tracheotomies

In the notoriously awful film Anaconda, featuring J. Lo and Ice Cube, Eric Stoltz gets a nasty bug lodged in his throat while swimming in the dangerous Amazon River. Jon Voight, who plays a shifty snake hunter (and also has one of the worst accents of any actor trying to portray an indigenous foreign national ever) sees he can no longer breathe. So Voight's character, trying to help, stabs a pen in his trachea, below the blockage, and puts a plastic stint in it, creating another passageway for oxygen to reach his lungs, thus saving his life. We are led to believe Voight's character has done this before, and is somewhat of an expert at Amazon first aid.

Well this is precisely what Secretaries of the Treasury Paulson and Geither have done to the asphyxiating US economy (in the form of ridiculously expensive and often unnecessary bailouts), only they don't have the medical training, and are more likely to kill the patient (the economy) than save its life.

On Friday, we will examine the impact of these bailouts, and what they really mean. Stay tuned.

Three Card Monte

2009-03-16T05:50:00.001-04:00

The game of three card monte, is a confidence game in which the victim, or mark, is tricked into betting a sum of money that they can find the money card, for example the king of hearts, among three face-down playing cards.

In a bastardization of the traditional game, say I were to give 3 players a card, and if they won, I'd give them five more cards, and if they won that, I'd give them double the amount of money they bet. Then I asked each how much they wanted to bet. Suppose the first player elects to bet $100, the second player elects to bet $50, and the third player elects to bet $0. Traditionally, logic might tell you the guy betting zero cannot possibly win because he didn't bet anything, and as any avid poker player knows, you can't win what you don't put in the middle. However, we would argue the opposite, because how could anyone ever possibly win a game in which the rules are not clear AND they change as you go?

Of course that question is rhetorical, but its exactly the situation U.S. citizens, and investors alike, find themselves currently in. The U.S. government, both under the Bush & Obama administrations, or to be more direct, under Treasury Secretaries Paulson and Geithner, are the hustlers and we, the public, are the collective "mark." How else can you explain the hilariously sad hearings for the big three auto companies a few months ago? After weeks of hearings in which executives were ridiculed for asking for billions in bailout funds while travelling in corporate jets to the meetings, Congress all but denied Ford, Chrysler and GM their request...until Paulson changed the rules 12 hours later. This blog will not speculate as to the photos Mr. Paulson may or may not have of Harry Reid and Nancy Pelosi, or whether he passed them on as a rite of passage to Tim Geithner.

That being said, the supposed bailout monies have changed intended recipients more times than Sarah Palin has shot moose from a helicopter with a high powered rifle (a lot). First, it was supposed to go to the failing investment banks, then to AIG, then to commercial banks with regulations, then to commercial banks with little regulation, then to the auto industry, then to homeowners (even though nobody has identified which homeowners), and now maybe back to the auto industry again. Its dizzying.

The effect? Investors don't know the rules of the game, and so money continues to sit on the sidelines and wait. Have you put money in an S&P index fund lately? Didn't think so. Point proven. In fact the only people investing these days seem to be hedge funds, and thats only because they have to do something by their very nature. They are the equivalent of a gamble-a-holic in this sheisty casino we are all in.

But if we are all playing a game of three card monte, exactly what are the three cards being used against us?

On Wednesday, we will examine what the three cards being used in this game are in detail. Stay tuned...

Dis-Qualified Intermediaries

2009-03-13T06:41:00.000-04:00

When I was a young commercial investment sales broker, I wasn't quite sure how 1031 Exchange Qualified Intermediaries made money, and didn't really care so long as they helped me make money. All I knew was that the IRS required these "qualified" intermediaries to handle the proceeds from an investment sale until a like-kind property was identified by the seller to buy, lest their capital gains on the sale of their property be subject to the tax code. The purpose was to prevent the individual sellers from making money on proceeds from the sale without paying taxes on them (even thought these intermediaries generally paid investors between 0.5-1% in exchange for holding the money).

As it turns out, I wasn't the only one who didn't get it. In the last several months, some of the biggest 1031 intermediaries were either sued, or filed for bankruptcy, placing investors who used them to facilitate their 1031 exchanges in a very precarious position.

Now, before we delve into this mess, let us first step back to the broader picture. 1031 exchanges are facilitated of course by the velocity of sales transactions of property. Simply put, if there are fewer properties being sold, there are going to be fewer 1031 exchanges. Almost a self fulfilling prophecy, the reason velocity is down contributes to an entirely different, but substantial reason for the decline in 1031 exchanges. With property values plummeting, even those property owners who have found a legitimate reason to sell are finding that the "gain" on their property has dwindled to a point where doing a tax-deferred exchange is seemingly pointless, because there isn't a ton of increased value (if any), from the time they bought the asset, to protect from the IRS. I digress....

Back in 2006 during the heyday of the boom in commercial real estate, there were 1031 exchanges happening left and right. The irony of the term "Qualified Intermediary" is that there is nothing "qualified" about them. They are not regulated in any way, nor are the ways in which they invest their clients' funds in the interim until it is time to fund the new property they are buying. No licenses are required, and Nevada (of all states, given whats legal there) is the only state that imposes any regulations.

Intermediaries make money in several ways. Most charge transaction fees, while others earn the spreads between interest they gain on investors' proceeds and the interest paid out to investors.

In 2007, three big intermediaries were charged federally with misappropriating clients funds. One ran a Ponzi scheme (Southwest Exchange, Inc. and Qualified Exchange Services), and another (1031 Tax Group) used monies to fund private real estate transactions, of all things.

One would think investors would have wised up and only invested their funds with bank or securities related intermediaries, or those that are part of the Federation of Exchange Accomodators, a trade organization that performs background checks of all its members looking for previous illegal or fraudulent activity.

Unfortunately, even those "safe" intermediaries investing appropriately, and in some cases, only in securities considered very liquid, were not immune from losing their investors money.

The most public of which was Land America, at the time the third largest title insurance company in the nation, as well as a busy 1031 exchange qualified intermediary. The investors, from retirees to a public company, had $400 million on deposit with the LandAmerica subsidiary, who has sold their title insurance company to competitor Fidelity National Title Insurance Co., and will likely be liquidation their 1031 Exchange arm.

In the filing, the company said it had put much of the money it was holding for real-estate investors into commingled accounts that invested in auction-rate securities that have become illiquid. LandAmerica had guaranteed the money. The auction-rate securities market seized earlier in 2008.

Investors, who thought their exchange and their money were safe, have been put in the precarious position of having to sit through bankruptcy proceedings just in order to get their money back. The biggest problem, again due to lack of regulation, is that there was no transparency for investors to see how these intermediaries were investing their money.

While this isn't necessarily an instance of robbing Peter to pay Paul, rest assured that Jesus was consulted by furious investors on more than one occasion.

Government Programs You Don't Know

2009-03-11T05:58:00.001-04:00

We've all heard about the TARP program. It stands for "Troubled Asset Relief Program." Of course, the only problem with it, was that it didn't really provide the help it intended to. Because of the time sensitive nature of rolling out this program, there were not enough regulations put in place to dictate what banks could and could not do with these funds. As a result, the government, and unfortunately, the taxpayers, now look stupid.

Recently, the Treasury Department launched TALF, which stands for "Term Asset-backed-securities Loan Facility." Introduced by the Bush Administration last year and since refined under Secretary Geithner, TALF will immediately support purchases of consumer loan-backed asset securities and then be expanded to include commercial and residential backed mortgages. All together it has the potential to generate up to $1 trillion of lending, according to Treasury.

Will this program also become a failure? Time will tell, but in the mean time, we here at Llenrock believe in calling it like we see it, telling it like it is, and/or whatever other tired cliche you would like to use. For that reason, we have come up with some of our own "government programs" that don't just pretend to help clean up the mess we've created using clever acronyms, but rather terms things very, very plainly. We hope to show the U.S. government the inherent stupidity of just being clever on the surface. And so we bring you:

ACRONYM - A Colorful, Realistic Opinion Not Yet Meaningful

1. President Obama several weeks ago vowed to support homeowners directly with aid to help them pay their mortgages to stave off foreclosure. This was hoped to have provided a fewer number of foreclosures, making banks healthier, increasing consumer spending, and encouraging banks to lend more. But where was the fancy acronym? We dub this government initiative:

Mortgages Undertaking Substantial Help

2. There has been a lot of talk about the slide in the stock market. The Dow recently sailed below 7,000 points on news that AIG posted the biggest quarterly loss of any U.S. corporation in history. The stock market, more closely resembling a coop of chickens with no heads than a stable financial market, tanked. Many pundits have said the cause of the financial turmoil, and the lack of confidence it has inspired in the public, has been caused by the mark-to-market effect. Created as a way to ensure corporations had more financial transparency for investors, they were required to periodically reprice assets to current market values. What if this were to happen universally in the world of commercial real estate? Of course, when the current market is in total chaos, how does anyone realistically know what these assets are worth anyways? We give you a new governmental agency formed to figure it out:

Commercial Realty Asset Pricing

3. Back in the late 1980s after the savings and loan crisis, the RTC was created as an entity to hold troubled commercial assets, and efficiently sell them off. This resulted in massive discounts for liquid buyers, often able to scoop up properties for pennies on the dollar. Can we really have another RTC program? Why not, if we can create private/public partnerships to reap some of the benefits! We give you:

Federal Assets in Real Trouble

4. Surely by now, you have heard all the buzz about vulture funds. These funds have been, or are in the process of being formed to scoop up distressed assets over the next few years as owners fail to make mortgage payments due to their assets not being worth the loans currently outstanding on them. Don't know which one to invest in after the Bernie Madoff scandal? Well they all have one thing in common. They are all private equity funds. You can't trust any of them. Instead, we nominate a few brilliant minds to head up a government sponsored vulture fund to buy the real bargains from the banks they loaned billions of dollars to (seems kinda fair, right?) in an effort to actually turn the properties around and make the taxpayers some of their money back. Most citizens don't take pity on the rich guys losing their shirts in the commercial game anyways. May we suggest:

Pilfering Of Other's Property

If you are as clever as we hope you are, you might have noticed a theme with our government programs and the acronyms they might publicly go by. So why the low brow humor on a high brow site? Cause these days, between scandals, failed banks, failed insurance giants, failed automakers, and failed government programs, you just never can tell whose full of it.

Calling a Bluff: Lease Renegotiations

2009-03-09T06:29:00.001-04:00

For the purpose of leisurely analogy, tenants looking to renegotiate their leases with landlords isn't too dissimilar from the functionality of baseball contracts. Unlike in other sports like football, baseball player contracts are guaranteed for the life of the contract. Owners cannot renegotiate them if a player gets injured, or fails to live up to their previous performance. On the flip side, if a player "outperforms" his contract, he can attempt to renegotiate an extension for more dollars/year or threaten to leave via free agency or demand a trade.

Of course, the economic climate, job loss reports, earnings reports, and major bankruptcy filings like those of Linens 'N Things and Circuit City make it easy for tenants to argue their case. Some landlords are quick to help, figuring that blending and extending their leases gives them more assurance of income over a longer period of time, even if the rental rate has to drop as a result.

So what level of recourse do landlords have when all of their tenants come crying, asking to renegotiate (see: lower) their rent at the same time, giving the threat of bankruptcy (and therefore zero rent payment) if the landlord doesn't choose to work with them?

There are several things to consider before caving:

1. Know Thy Tenant - The best thing that landlords can do to ensure successful lease renegotiations is to remain knowledgeable about their tenants' businesses. This process begins with the original lease negotiation. Including, monitoring, and enforcing lease covenants that require tenants periodically to provide financial statements or profit-and-loss reports keep landlords informed.

2. Know Thy Market - If large blocks of space are becoming available for sublease in the surrounding area or new space is being completed, tenants that are willing to move can exert some leverage on their current landlords. The best protection against this is knowing what it would cost a tenant in terms of time, money, and disruption to uproot its business and employees to a different location.

3. Know Thy Options - Since the original lease was signed, rents in surrounding areas either have risen or fallen. If space is tight and replacement tenants are available, decreasing a specific tenant's rent may not be necessary. Conversely, if new tenants don't appear readily available, renegotiating the rate might prevent the space from becoming vacant. An alternative option to lowering base rent would be renegotiating CAM reimbursements. In exchange for lowering reimbursement requirements, a landlord could negotiate a new lower base year, usually defined as the amount the landlord spends per square foot to maintain the building in a certain year, in exchange for a higher escalator or higher base year for a lower escalator.

4. Know Thy Assurance - Convincing a tenant to add or strengthen a guaranty can be difficult. However, gaining such a concession is valuable if the tenant fails but its owner retains significant assets. If a tenant's financial condition is precarious, its owner may close the business rather than personally guarantee the obligations of a shaky enterprise. Conversely, if a tenant has a strong financial statement, negotiating a guaranty might be a sufficient exchange for allowing the tenant to remain in the space at a decreased lease rate.

5. Know Thy Loan Terms - Landlords who have taken out a loan to acquire or develop a property should consult their loan agreement prior to renegotiating any lease. Financial covenants may restrict a landlord's ability to renegotiate leases.

6. Know Thy Space Requirements - A tenant reducing the size of its workforce also may want to decrease the amount of space it occupies. By doing so, the tenant hopes to limit its rent payments as well as decrease its pro-rata share of the building's expenses. This potentially presents a landlord with two complementary opportunities. A tenant with sufficient assets but foreseeing a need for less space may be willing to buy out part of its lease. After receiving a discounted payoff from the reduced tenant, the landlord could try to lease the space to a new tenant.

7. Know Thy Co-Tenants - Co-tenancy clauses also can hinder renegotiation attempts. A co-tenancy clause states that a tenant may close its store or reduce its rent if another tenant or group of tenants does not occupy space at a retail project or if the occupancy rate of the project falls below a certain level. If this is the case, the landlord is stuck and may lose other tenants because of a co-tenancy clause violation caused by the renegotiation. To avoid this, landlords should understand and monitor the parameters of these clauses so they don't breach their leases with other tenants in an attempt to preserve a troubled tenant.

In addition to these seven commandments, its also wise tor remember one other thing. Odds are that a tenant's prospective bankruptcy is going to hurt them a lot more than it will hurt the landlord, and often its a case of absolute last resort. Giving the appearance of helping a tenant is usually enough, and in the process, you can garner many of the advantages, or at least offset a decline in rental income, by taking some of the approaches listed above.

The Price is Right

2009-03-06T06:14:00.004-05:00

Where is Bob Barker when you need him? Aside from telling us to have our pets spayed or neutered, or getting in a fist fight with Adam Sandler, we could really use his pricing prowess to settle a little real estate discrepancy going on right now.

In the Obama Administration's new Homeowners Stability Plan, it suggests that home prices be valued via BPO (broker pricing opinion) or AVM (automated valuation models) when restructuring home loans. Current bank agencies guidelines require new appraisals in restructuring loans when a material change in market conditions exists, but in some states do not specify rules dictating how or who is to determine such values.

The nation’s four largest organizations of professional real estate appraisers-the Appraisal Institute, American Society of Appraisers, American Society of Farm Managers and Rural Appraisers, and National Association of Independent Fee Appraisers-recently delivered the second of two letters to Treasury Secretary Timothy Geithner urging the Administration to protect homeowners and taxpayers by requiring that the market values of homes under President’s Obama’s Homeowners Stability Program be determined by professional appraisers who are state certified and licensed.

To ensure that all parties have accurate and reliable information when restructuring loans, the letter cautions against the use of real estate sales people to provide broker price opinions. These individuals have no valuation training, do not observe uniform valuation standards, are accountable to no one for their estimates of home prices and may sometimes have an economic interest in whether loans are modified or defaults occur requiring a resale of the property to another buyer. By contrast, all 50 states license, certify and supervise the work of appraisers; and 23 states specifically prohibit realtors from valuing properties for any mortgage related purpose, including loan modifications.

Of course, this is all a giant game of finger-pointing, and both appraisers and real estate brokers have a conflict of interest, standing to gain or lose business to the other. Similar to the residential market, in the commercial real estate market, appraisers are important mostly from a financing perspective. If the property doesn't appraise at the value it is being sold for, the buyer's return would either dwindle, or they will walk away from the deal because the bank will not give them the financing they seek to make the deal work. It is for this reason most real estate brokers, and some buyers, don't particularly like appraisers, because they only stand to get in the way of their potential transaction if their valuation comes in too low.

Appraisers are mostly using comparable sales (a total rear-view mirror approach, and an inefficient one in a rapidly changing market) in addition to the income approach to get their values. But every transaction is different, and there can be a considerable amount of legwork, that most appraisers don't bother to do, that explains why a particular property traded at a certain value. Real estate brokers have better access to this information, and to the parties involved in these transactions to uncover this information, than do most appraisers who are largely relying on parties to be both be honest and detailed in answering their cold calls.

The residential housing market and commercial real estate market are still very similar in one regard. Whether its trying to figure out how much properties have depreciated in the last 12 months on the residential side, or how much CAP rates have risen on the income-producing property side, determining value boils down to one, simple idiom. At the end of the day, something is only worth what someone else is willing to pay for it, regardless of past, present or speculative future "value." It shouldn't matter whether a broker prices a home at $400,000 or an appraiser prices it at $300,000. If a ready, willing and able buyer offers $350,000 for it, and can close, then that's what its worth.

Bankers use appraisals as a safety net just in case they make a bad loan, and we all see how well that safety net has worked over the last 12 months as the housing market has collapsed. As brokers are fond of saying, "it only takes one buyer to get a deal done," and on every deal, that buyer will have to live with the fact that the reason they bought the property is because they were willing to pay more than anybody else. C'est la vie.

The Nationalization of Our National Pastime

2009-03-04T05:10:00.002-05:00

How is it that one of baseball's best new rivalries could soon mirror one of America's oldest? The credit crisis, that's how. As if this global disaster hasn't caused enough pain, reaching across geographical boundaries, socioeconomic boundaries and pretty much every other boundary one could contemplate, it has finally reached baseball.

I am talking specifically about the rivalry between the New York Mets and Philadelphia Phillies. For those still unsure where I'm going with this, just remember what site your are on...one that lives in the world of finance and real estate. Citizens Bank paid an extraordinary sum of money to the Phillies' brass back in late 2003 for the naming rights to the then new stadium now known as Citizens Bank Park. Similarly, last year, Citigroup paid an even more exorbitant sum to Mets owner (and real estate developer) Fred Wilpon for the naming rights to the newly constructed home of the Metropolitans, dubbing it Citi Field. Something to the tune of $400 million dollars.

But where, you ask, would troubled Citigroup get the money for that, given the fiscal turmoil they find themselves in, especially amid rumors that they, even post bailout, may still be financially insolvent? Check your wallet. Feel lighter?

As recently reported in the media, the U.S. Government, (see: taxpayers) could increase their ownership stake in the company to 40% in the form of common stock. Of course, knowing that Citigroup, even under recent pressure to relinquish their naming rights to cut costs, is forging ahead anyways, has many citizens up in arms. And rightly so. We just witnessed huge public backlash towards many of the bailed out firms continuing to spend lavishly on things like corporate jets and trips to Las Vegas. The difference here is that those companies finally caved in to the public pressure. Citigroup? Not so much. Perhaps they wanted to remain affiliated with the team current World Series MVP Cole Hamels referred to publicly as "choke artists." After all, Citigroup, a New York based firm, has been the commercial banking equivalent of the term. They just choked away your savings account for two consecutive years rather than two 162 game seasons.

90 miles down the turnpike, Citizens Bank isn't faring much better. In fact, their parent, the Royal Bank of Scotland, is doing even worse. In a story that emerged last week, RBS posted the worst loss ever for a British corporation. They lost $41B in 2008. $41 BILLION! As a result, the Edinburgh-based bank has struck a deal in which the government of the United Kingdom will raise its stake in RBS from 58 to 70 percent.

So let's see here. While the fan bases of these two respective teams will remain in New York and Philadelphia, the actual names of the stadiums in which they play will be rooted more in a rivalry throwback to 1776. US citizens versus British citizens. The team colors are even historically accurate. The Mets are wearing revolutionary blue, and the Phils sport the British-based redcoats. What, I ask you, is more American than that?

Mezz: The New Four Letter Word

2009-03-02T05:47:00.003-05:00

George Carlin was famous for developing the seven dirty words you can't say on TV. Five of those seven were four letter words, and if you aren't familiar with them, you've probably uttered most of them each morning when opening the business section of your morning newspaper of choice, or late each afternoon when visiting www.bloomberg.com to check on the market.

In commercial real estate, there are several four letter words that have become tantamount to the taboo four letter words to which we are accustomed, among them are "deal," "math," and "jobs." All of these are relative terms whose perceived impact on individuals has been negative. Well, time to add a more specific four letter word to the list...MEZZ.

Mezz, short for mezzanine debt, was all the rage in the waning years of the commercial real estate boom. Firms made an estimated $50 billion to $75 billion in mezzanine loans, debt that fills the gap between the borrower's equity and the first mortgage. Billions of dollars already have been lost and the figure is likely to balloon as the steep downturn in the commercial-property market deepens.

For borrowers, it was a convenient way to additionally leverage their deal, given the cost of mezz was usually still cheaper than the cost of equity. The spread between the two provided extra internal yield to the borrower, and thus, became an all too comfortable trend of overleveraging. The attraction of mezz debt to investors/providers was twofold: the rate of return on such debt, once levered up, was in the teens if the borrower kept current, and if the borrower defaulted, the investor in the debt would have the right to take over the property. All they would have to do is continue to pay the first mortgage debt service. Sure, their yield would be lower, but they would become owners of great properties...in theory. And therein lies the problem mezz has today.

Real estate values have dropped off the face of the map, to a point where, in some cases, values are lower than the amounts owed on the senior debt.

The biggest and best example, among many, is the largest private transaction in commercial real estate history, the 5.4B purchase of the Peter Cooper Village and Stuyvesant Town apartment complex in Manhattan. This deal had $1.4 billion in mezz financing provided to a venture of developer Tishman Speyer Properties and BlackRock Realty Advisors. As the weakening New York economy hinders the venture's ability to boost the rental income of the complex, the project is running the risk of defaulting on the mammoth debt unless the venture is able to persuade its investors to pony up more capital.

Recently, borrowers have begun to default on mezz loans, forcing the mezz investors to try to foreclose. But this isn't easy even in cases in which the mezzanine holders believe their position is even worth something. Often the mezz debt is broken up into slices with different degrees of risk and claims on the property.

No wonder investors want to scream out #$%&! when they realize they're great investments are knee deep in $*@#. And if you are one of the borrowers, please try to keep things civil and refrain from telling your creditors to go "mezz" themselves.

Part 3: LEED Certification: Is it Worth It?

2009-02-27T06:04:00.001-05:00

VERDICT:

In today’s tough marketplace, anything that helps move a property is welcome. Because we are simply looking for the ability to market a property as LEED certified--to show that the property is “green”--it would make sense that all we would really need to achieve is the minimum certified rating. Sure, those higher rankings would be great, but they also are going to cost a lot more.

Because obtaining construction debt in today's challenging capital market environment is difficult to come by except for the most compelling projects in the most compelling markets, adding unnecessary costs to a project is unrealistic at best, and taboo at worst. Furthermore, many tenants, along with the economy, are contracting in terms of space requirements, and are subsequently looking for additional ways to cut costs. These market conditions certainly do not lend themselves to increased project costs, or the increased rental figures necessary to support them.

In a supply constrained market, however, this isn't necessarily a bad thing for a green building landlord. Tenants are more likely to examine ways to cut expenses at the bottom line. They will be indifferent as to how that reduction is achieved. Often, a landlord will be able to show a prospective tenant how they can save money in the long term by going green. The challenge will be whether or not they can show an immediate return on investment given the current credit landscape.

Typical green-building tenant candidates are those with environmentally-conscious executives, well-capitalized private firms where cost-trimming is not the top priority, tenants whose public image is tantamount to their success, and companies whose business lines or functions are tied to the environment in some capacity. Furthermore, with a new administration in Washington focused on leading the charge in environmentally-friendly practices, it wouldn't surprise me to see government agencies, or government sponsored entities becoming more interested in sustainable energy work environments.

If land/buildings are obtained at a low enough cost basis, and energy saving features are chosen in the most cost judicious basis, then the lowest certification level appears to be the best bet for investors in terms of return. This, of course, is assuming your property is in a market which has demand for "green" products. Unfortunately, the capitalist society we live in is at direct odds with the economic hurdles that being more environmentally conscious entails.

Perhaps in 3-5 years when the economy is functioning more efficiently, tenants and landlords are less cost-conscious, and green design and implementation becomes more streamlined and therefore cheaper, financial demand will catch up with theoretical demand, and drive supply to a healthy equilibrium.

Part 2: LEED Certification: Is it Worth It?

2009-02-25T05:48:00.002-05:00

Before we wrap up this week's LEED discussion with our verdict on Friday, we had the chance to discuss some of our questions with an expert. We sat down with Emile Chin-Dickey, a principal of Zero Energy Design, a green-focused architectural design and mechanical engineering firm based in Boston, to gather some professional insight into our queries.

Llenrock Blog (LB): What are the cheapest features of building green for a developer to implement? Most Expensive?

Emile Chin-Dickey (ECD): This type of question is best answered with an "it depends." For example, it depends on whether this question is asked for a new or existing building. For an existing building, it depends on how old it and its systems are, whether tenants will be occupying spaces or not (which would prevent envelope upgrades). For example, we did a feasibility study on a 128,000 sf building in FL that had recently replaced their chiller and upgraded to an energy management system which resulted in a 1/3 reduction in their electricity use. This was the best option for them because it didn't require major disruption of their 40+ tenants. In new construction, the general approach is to invest in efficiency measures before energy production features (i.e. renewables). This approach prioritizes more mundane things like walls, insulation, windows, etc. and puts the more "sexy" things like PV at the bottom.

LB: Is the LEED point system conducive to enhancing overall value for the developer? Is there a way, in your eyes, to improve the system?

ECD: LEED as a framework is great for thinking in terms of building design and using it as the definition of "green". Unfortunately, green means different things to different people, but USGBC, through LEED, serves to standardize the definition as it applies broadly across a wide range of areas (from operational impacts, like energy use, to human factors, like daylighting). Its value is in being a standard definition of "green".

However, at the end of the day, for a developer it still comes down to what the bottom line impact is. I have seen studies that point to LEED buildings commanding higher rents, so perhaps there is some value there. LEED will become more valuable as the benefits of its credits can be better quantified for the developer. This will come over time. LEED is still in its adolescent stages. For example, one of the big problems of the previous LEED versions was an internal problem--the seeming disconnect between credit ratings and the percieved environmental impact. The recent LEED 2009 update serves to resolve some of those problems. As LEED matures, its value to developers will grow.

LB: In a tough economy, which type of green ( cost-cutting or green building sustainable savings) do you see winning out in the short and long run, and why?

ECD: In the tough economy I think the features that have tangible impacts on operational expenses will win--generally anything that reduces energy costs would fall into this category. Paying a premium for a product that has a higher recycled content may be passed over for the time being.

Obviously, the tough economy means you go for the low-hanging fruit. For a new building, thats in the efficiency investments. For an existing building, the tough economy may mean the owner is not interested in major capital improvements like a new chiller or energy management system, so it may be as simple as replacing lightbulbs. If the owner is able to make big ticket capital improvements, the economy probably doesn't change the investment criteria.

.....Please check back on Friday for a synopsis of the challenges facing LEED construction and design, and our verdict as to the perceived value in the marketplace for both tenants and landlords as it pertains to LEED certification.

LEED Certification: Is it Worth It?

2009-02-23T05:40:00.001-05:00

In this week's blog posts, we will dedicate our discussion to examining LEED certification, the pros, the cons, and ultimately whether or not its worth it. Today, we will provide background information on what LEED is all about, and give you a better sense of the market for it. Wednesday, we will interview an expert on going green, regarding the important questions in a challenging market. On Friday we will give an overview, try to navigate its value, and ultimately give our verdict on whether it pays green to build green.

The Basic Facts:

The Leadership in Energy and Environmental Design (LEED) Green Building Rating System™ encourages and accelerates global adoption of sustainable green building and development practices through the creation and implementation of universally understood and accepted tools and performance criteria.

LEED is a third-party certification program and the nationally accepted benchmark for the design, construction and operation of high performance green buildings. LEED gives building owners and operators the tools they need to have an immediate and measurable impact on their buildings’ performance. LEED promotes a whole-building approach to sustainability by recognizing performance in five key areas of human and environmental health: sustainable site development, water savings, energy efficiency, materials selection and indoor environmental quality.

LEED certification can be awarded in four levels: certified, silver, gold and platinum. Each level, of course, requires more points, and thus will be more expensive to obtain for a property. As an investor in or developer of a potentially LEED certified building, one would certainly need to figure out what the costs will be, and what the potential return will be.

Market Sustainability:

The biggest return for owners, developers and investors in these properties will certainly lie in the marketing and desirability of their property to tenants. The first thing to consider is the level of demand for such properties in a given marketplace. A simple check could be whether or not you have a Whole Foods or Trader Joe's store nearby. If there is one near you, then chances are there are a good number of environmentally and health conscious people, and therefore prospective tenants, around who would be willing to pay for a property with LEED certification.

All things being equal (including net effective rent) most prospective tenants would choose to locate in a LEED certified building, however, due to the extra cost involved in making a project "green," this usually involves a landlord having to demonstrate value for the tenant, usually by reducing the portion of operating expenses that a tenant might pay for in order to justify higher rents to comparable "non-green" options in the marketplace.

Recession Proof? Don't Bet on It

2009-02-20T05:58:00.002-05:00

For decades the industries of gambling and drinking have been thought of as recession proof. Its no wonder, given that one industry often fuels the other. Yet, this historic collapse of the credit markets, and subsequent (and seemingly endless) recession, have challenged their recession-proof aura. Last week, reports came out that Las Vegas Strip casinos have lost 9.7% of their income in 2008. That number doesn't seem that bad considering the Dow Jones has dropped more than 4 times that percentage over the same period of time. But consider this: That is the first significant drop in gaming income in over 50 years.

For the fiscal year so far (July 1, 2008 through Dec. 31, 2008), Strip gaming win is off 15.8%, Downtown gaming win is off 12.44% and Clark county as a whole is off 14.55%. The state Gaming Control Board last month issued its report on the previous fiscal year (July 1, 2007-June 30, 2008), during which the casino industry’s net income tumbled 68% statewide, 57% on the Las Vegas Strip and 54% Downtown. And the increase in gambling problem hotlines isn't the only reason for such a dramatic decline.

Most Vegas strip casinos, and casinos in general for that matter, operate as hotels. Hotels, as a real estate sector, are the first to show the effects of a sagging economy because income is generated on a day to day basis, rather than monthly as in the multi-family sector, or annually for most other sectors. When people stop spending money, hotel bookings are typically the first to see the drop-off.

Last week, the Las Vegas Convention and Visitor Authority issued its monthly report, showing a 1,000-point decline in hotel occupancy to 76.7% in December 2008 from 87.4% in December 2007. The LVCVA also reported a 14.2% decline in the average daily room rate to $96.39 from $112.36 in December 2007 and an 11% decline in visitor volume to 2.7 million from 3 million in December 2007. The number of hotel rooms in the market jumped by 5.7% during the year, to 140,529 from 132,947.

Add to this the political pressure on corporations to scale back corporate trips and frivolous client entertainment spending, and this further impacts the health of destination-based hospitality.

As a result, billionaire real estate magnates and casino developers alike have been halting projects faster than the ball stops on a roulette wheel.

In January, Harrah’s Entertainment delayed the opening of its new tower at Caesars and MGM Mirage delayed and cut 21 floors of condominiums from its now 25-story Harmon Hotel, one of several towers that are part of its 18 million-square-foot Citycenter development.

In November, Las Vegas Sands Corp. halted construction on high-rise condo tower in front of its new Palazzo resort and offered up 181.8 million common shares to raise $2.14 billion in new capital and avoid defaulting on its credit agreements. Boyd Gaming was the first to react to the softening market, halting construction of its multi-billion-dollar Echelon integrated casino resort development on the Strip in July.

And just three days ago, Trump Entertainment, owner of three casinos in Atlantic City, filed for Chapter 11 Bankruptcy...again.

However you look at it, if your proposed income is based on a vice, now isn't the time to roll the dice.

Checks (as in Blank) & Balances (as in Zero)

2009-02-18T06:58:00.001-05:00

For some time now, institutions have been taking losses on their holdings of residential mortgages and securities and on their residential construction and development loans. However, as the recession has deepened, banks are now experiencing rising credit problems in their nonresidential real estate loan portfolios. The only way to deal with the coming problems is to build up capital reserves - and that can't be done if banks are making loans.

If banks cannot identify specific problematic loans, but know they are likely to come, there is no way to measure the size and scope of the problem for any individual bank. If government insists that they loan the capital they are receiving from programs like TARP directly to the consumer, there is no way a bank can ensure it has enough capital reserved once bad commercial real estate loans rear their ugly heads. If this happens, banks will fail.

The government realizes this. They also realize that this would make everything much worse than it already is. So what is their answer?

Last November, the Federal Reserve, the FDIC, the Office of the Comptroller of the Currency and the Office of Thrift Supervision issued a joint statement to help banks and thrifts navigate these waters. The statement noted that "at this critical time, it is imperative that all banking organizations and their regulators work together to ensure that the needs of creditworthy borrowers are met."

The real message?

Avoid "imprudent practices that would put your institutions at risk." But don't completely hunker down, just "resist extreme risk aversion, since it would undermine efforts to get the economy going again."

Translation: Lend to the well-capitalized guys who don't really need the money since there's less of a default risk.

So let's see of we have this straight. A flow chart that should look like this:

Taxpayers $$ --> Government --> Banks --> Consumers = Solution!!

Instead looks like this:

--->Taxpayers ---> Gov't ---> Banks --->

Sam Zell's 'Trickle Down' Empire

2009-02-16T06:33:00.001-05:00

This blog editor has a few things in common with Sam Zell. We're both Jewish and we both got our start as businessmen as adolescent youth selling Playboy magazines to our friends for profit. Unfortunately for me, the similarities end there.

Yet wherever and whatever Zell has had his hand in, there has been a remarkable pattern of disaster once he has washed his hands clean of it. Call him the Reverse King Midas. Call him Real Estate's Reagan. Zell seems to scoop up every bit of fortune with a massive fisherman's net, and all the misfortune shakes out, and trickles down on the rest of us.

Whether its 1960's adolescents getting scolded by their mothers upon discovery of their literary indiscretions, or real estate moguls getting burned by their acquisitions of Zell's massive Equity Office Properties Trust real estate portfolio, if you have done business with Sam Zell, directly or indirectly, you probably wish you hadn't.

In 2007, Zell sold a 573 building portfolio to Blackstone Group for $39 billion, resulting in the largest private equity deal in history. Blackstone, almost immediately spun off hundreds of the buildings for $27 billion. It probably wishes it had spun off even more, as the value of what they still hold from the acquisition has lost 20% of its value since they bought it. It's been even worse for the flipees.

Harry Macklowe narrowly avoided personal bankruptcy after over-leveraging his $6 billion acquisition, and lost 7 trophy office towers to creditors in the process. The founder of Maguire Partners was forced to step down as CEO last year after dealing with crushing debt amassed from the acquistion of 24 buildings from Zell's portfolio. The list of those negatively affected by acquiring some piece of Zell's portfolio reads like a whose who of commercial real estate giants. RFR Properties' acquistions from the Equity Office Portfolio are now worth less than the mortgages on them. Tishman Speyer has unsuccessfully tried to flip three of the four buildings it acquired. Even the investment banks that financed many of these transactions (you know, the smart guys on Wall Street) have collapsed as a result of Zell's trickle down effect.

One can only wonder if Zell's most recent highly publicized sale of the Chicago Cubs, a wholly owned subsidiary of the Tribune Company, will be as tumultuous for the buyer (Larry Ricketts, founder of TD Ameritrade) as it has been for the buyers of his real estate empire. If I were a Chicago Cubs fan, I'd be more worried about the curse of Sam Zell than I would about the curse of the black cat, a billy goat or Steve Bartman. Then again, as Cubs fans are so fond of reminding us failed season after failed season, there's always next year...in the mean time, I'd switch my account to E-Trade just in case.

Buffett's Bullish Advice a Bunch of Bull?

2009-02-13T05:47:00.001-05:00

While a prudent student of finance ought to be skeptical of expert "advice" (after all, anyone willing to tell you their strategy is likely to gain on their own investments by doing so) Warren Buffett has long been a staple of the American investing community and has been considered an expert for decades. If you didn't know what to do, it couldn't hurt following Buffett's advice, or, if you had the means, investing alongside him directly. Then again, that's the same way many people felt about Bernie Madoff.

Buffett announced in mid-October that he was investing heavily in U.S. equities, particularly the stock market. He rationalized his contrarian move by quoting one of his principle investing philosophies: "A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful."

Not convinced? You shouldn't be.

Buffet had another tidbit of investing advice which he imparted on us back in 2001: When the relationship between the stock market's value as a percent of U.S. GNP is close to 70%, it's time to buy.

If you bought in 2000 right before the tech bubble burst, when this ratio was 190%, you got murdered; Likewise in late 2007 when the stock market reached its peak of 14,000. But look at the chart historically before 2000 and his target ratio doesn't hold water. In 1929, the ratio was around 75%. I wouldn't exactly call the eve of the Great Depression a good time to buy. In 1972 the ratio was also around 75%, only to dip below 50% a year later. Considering the ratio has never been below 40% in the 85 year history of the Dow Jones, I would say 50% is a much safer threshold.

After all, does anybody really believe that now is a good time to invest heavily in the stock market as opposed to waiting a few more months? After all, Buffett invested heavily in October, and the Dow has slid an additional 10% since then. Some analysts suggest that the Dow could easily dip below 7,000 before we see a sustained turnaround.

If Buffett ends up being wrong about his timing, its a minor blip on his financial radar screen. If you end up being wrong, you might lose your house....that is of course if you haven't lost it already.

Feature: How Deals are Getting Done

2009-02-11T06:11:00.004-05:00

On Monday, we featured Jason Friedland of Iron Stone Real Estate Group, who offered his take on the bid-ask differential between buyers and sellers. Today's post is Jason's follow up commentary on how Iron Stone sees deals getting done in today's environment. Please give us feedback via the comments section below the post. Enjoy!

We work with banks and lenders directly to discuss troubled debt or portfolios of REO properties. In many cases, we've found that banks are seeking a better price by negotiating directly with large, well-capitalized investors rather than taking the risk of a public auction or bidding process. At the same time, an investor with cash in hand can close quickly, allowing a swift resolution for the seller. But banks are not the only ones competing for these liquid dollars. Hedge funds and private capital funds also wish to sell portfolios that were picked up in the rising market and which now need to be cut loose.

The acquisition of performing and non-performing debt requires market knowledge, specialized legal and financial expertise, property development capacity, and access to capital that are necessary to pursue distressed asset and debt deals successfully. We are seeing deals structured a variety of different ways, but our principal focus now is on acquiring senior mortgage positions with the potential to eventually control the real estate and create value by repositioning the asset.

In turbulent markets, it may seem that new potential buyers crop up on a weekly basis. But how can banks and other financial institutions find qualified buyers for distressed assets? Beyond the obvious qualification of having the capital to complete the transaction, sellers have begun to realize the necessity of engaging a buyer who will close – not hedge, prolong due diligence, stall, and walk away. The buyers who can close are the ones with the real estate expertise to redevelop and reposition the property for the best chance of success. This is our company’s bread and butter, and while we continue to exercise patience and discipline, we look forward to the opportunities that are sure to present themselves in the months ahead.

Feature: Bid-Ask Differential Still Substantial

2009-02-09T06:37:00.002-05:00

Our first two posts this week will feature commentary from Jason Friedland, Partner and Director of Operations and Investments for Iron Stone Real Estate Group, a Philadelphia-based, multi-disciplined, value-added real estate investment group of companies. Jason will discuss the bid-ask gap between buyers and sellers on today's post, and give his take on how deals are getting done in today's environment on Wednesday. We would love to hear your feedback via the comments section below the post, and hope you enjoy.

(If you are interested in being featured as a guest blogger for Llenrock Blog, please contact us and provide your business, contact information, and relevant topics on which you would like to blog.)

The majority of the real estate opportunities the next 6-18 months will be in the form of performing and non-performing bank notes. With the credit markets still in turmoil, only cash buyers will be able to take advantage of these opportunities. Purchasing in cash results in lower rates of return compared to an equivalent deal that uses leverage unless, of course, the asset acquired with cash is acquired at a substantial discount. Sellers tend to adjust slowly and grudgingly to a weakening market, and through 2008 sellers were reluctant to dispose of assets at discounts commensurate with the changed market conditions. But in recent weeks we have seen greater downward flexibility in pricing from banks that need to dispose of mortgage notes in order to clean up their books.

The uncertainty of asset valuation is driving down the prices of real estate, leaving lenders in control of assets. Banks and other financial institutions are selling performing and non-performing notes to mitigate their portfolio exposure, limit potential losses, generate cash flow and improve their balance sheets. For sale portfolios normally include distressed mortgages on multifamily urban residential, commercial, retail and mixed-use properties that are already in default as banks prepare to reclassify them as real estate-owned (REO). But many lenders are willing to sell performing notes at well below par value due to the deleveraging pressures they face. This situation presents an opportunity to make money simply by purchasing a cash-flowing instrument at a discount.

With that said, the bid-ask differential between buyers and sellers remains substantial overall. While we continue to see tremendous deal flow and opportunities, we will remain patient and cautious as the market continues to correct. The good news is that there are ever more sellers and relatively few viable buyers. On the seller side, a variety of pressures are forcing their hands, and the seller's principal motivation is the need to liquidate the asset, not maximize dollar value. In the universe of buyers there are relatively few in the market who have the cash and the capacity to price, negotiate, and execute a deal in a timely manner. The bad news is that we expect underlying real estate asset values to continue to decline or move sideways in the near term.

Sale Leasebacks: 2009's Catch-22

2009-02-06T04:35:00.000-05:00

Some companies like to own their own real estate. Some refuse as a matter of business principle. There are numerous advantages to both, but ultimately the decision boils down to this: Would I rather not pay rent at the cost of being illiquid and having a liability on my balance sheet, or free up working capital for my business at the cost of paying rent?

Of course the answer to that question, as any trained economist would tell you, is it depends. It depends on the type of business, the size of the business, the philosophy of the business, and the financial strength of the business. When traditional means of access to capital dwindle as we have seen happen in the economy as a whole, that last "it depends" becomes of vital importance to most companies.

While the volume of sale-leaseback transactions dropped off the face of the earth in the fourth quarter of 2008 as did the velocity of all types of real estate transactions, we would be remiss to suggest that is a trend.

While many private real estate investors are unlikely to sell voluntarily in 2009 due to rising CAP rates and declining prices, corporate real estate owners aren't making decisions based on internal rates of return, CAP rates, or typical hold periods, but rather what will be in the best interests of the company. And in this environment, most companies are sorely in need of cash to grow operations and in some cases to even make payroll.

So is there opportunity for investors to capitalize on the economic swoon of corporate real estate? Well, sorry to go all economist on you again, but yes and no. Yes, there will be opportunity, and we will see a rise in sale leaseback transactions in 2009. However, most likely will not occur until the second half of the year due both to economic uncertainty for many companies, and the bureaucracy with which such a process is undertaken, with decisions being made on multiple levels and flowing through what can be a disjointed chain of command.
That being said, when these deals do hit the market, at attractive CAP rates nonetheless, investors will have to keep one thing in mind. What exactly am I buying, and is this really a good deal? Sure, the real estate is good real estate, and the price is right, but if its a single tenant deal, what's my downside protection should my new tenant report poor earnings this quarter? Will their credit rating decrease? Are they going to be financially solvent for the term of the lease? After all, if they were in such good shape, why would they need to sell me their asset?

Our guess is that, while the size, scope and return on these investments will vary largely on a case by case basis, the strength of these deals will lie not just in the strength of the tenant, but the profile of the new landlord. A well-capitalized, but straight yield buyer may have to rely more on luck than a developer with a relatively low hurdle rate. At one time, developers could never compete for deals like this cause there was little value to add and CAP rates were too low. Now however, stable returns will be higher, and should the tenant go bankrupt, the developer would have the wherewithal to reposition the asset more quickly and efficiently.

One thing we can steadfastly tell you without wavering? Caveat Emptor.

Capitol's Capital Lost in Loss

2009-02-04T05:45:00.001-05:00

TARP. The acronym stands for Troubled Asset Relief Program. The creative wordsmith who came up with it also likely recognized the double entendre of the name, hoping the program would help cover up (like a tarp) the financial mess banks have gotten themselves into by being careless. Of course there's only one problem. All banks are applying for federal TARP money, and barely any of the major banks are using it to lend to new customers, as the government had designed.

“The top 13 banks in this country are not recycling that TARP money,” says Wayne Brandt, managing director of Buchanan Street Partners. “Lending has dropped at all the US banks.” He adds, “The banks are scared. They don’t know how to price these toxic securities. They’re hoarding (the TARP money) and waiting for the storm to pass.”

Why aren't they lending, you ask? Maybe its because so many of them got burned by bad loans. It's hard to get back on the horse right after you've been bucked off. Or maybe, it has a little something to due with the fact that over $160 billion dollars worth of debt affixed to commercial real estate is coming due in 2009, with almost another $400 billion or so to come in the two years to follow. The CMBS market, which financed over $230 billion in commercial property debt in 2007 and even $30 billion in the face of market turmoil in 2008 might be as dormant as Mount Vesuvius in the foreseeable future.

And if you weren’t paying attention, what all of that means is “there continues to be no capital in the system that’s readily available,” says Brandt, who predicts that about half the loans due out there will be extended, some will be reworked through a traditional loan workouts and some, an as of yet to be determined percentage, will be closed upon—and very few of the latter will be in the position to obtain adequate refinancing.

“Everybody knows this recession will get worse,” he says. That means the banks will lend, but only to their best customers. In affect, Brandt says, “they will make new loans to preserve and protect the balance sheets of those who have been loyal, well-capitalized borrowers with strong balance sheets with decades of experience and a track record.”

He adds, “the global system is deleveraging, and this deleveraging means this recession is going to last longer than most Americans expect.”

To make matters worse for property owners, other means of capital aren't promising either. Life companies and private equity companies can afford to be picky, and are more likely to go after the most stable asset classes like student housing and healthcare, given their druthers (of which they have plenty these days).

While TARP hasn't had a chance to fully play out yet, and the Obama administration is in the midst of structuring how they will spread their $350 billion dollars, bigger commercial banks are not likely to have a quick change of heart. The vast majority got burned on bad loans, and few, if any are comfortable gauging what appropriate spreads should be in today's environment. The wounds commercial banks are currently licking will heal with time, and the lending freeze will eventually ease. Its just likely to be later rather than sooner.