Epic shifts in access to credit continue to harm borrower's ability to secure attractive financing. Any comprehensive discussion of financing includes both what is and what is not available in the market place. Despite the stabilizing effect of massive governmental stimulus plans around the world, for the most part, banks now remain alone in the lending realm and continue to hold their breath as they make their way cautiously through the aftermath of the credit storms which so recently tore through the system, unsure as to whether the storm is truly gone for them. Much analysis has been conducted on the challenge of how to undo the high leverage loans on low cap rate properties, both in the CMBS realm and throughout the commercial banking system. These high flyers are coming back down to earth to a transformed landscape, a lower leverage/higher cap rate new land.
Market Conditions: One Step At A Time To Recovery
On the positive side, conditions in the capital markets have improved with the breath-of-life stimulus packages around the globe. First and foremost, we are at the beginning of the largest global wave of monetary and fiscal stimulus ever on an absolute and relative basis. The wisdom of certain initiatives can be debated, as there is little doubt that overall they will have a meaningful positive economic effect in the short, medium, and long term. Many continue to have concerns that this massive money creation will soon lead to explosive inflation. The counter point is that higher inflation won’t become a realized risk, for at least a couple of years; even then, a problematic inflation is not inevitable per se. Central bankers are correctly providing liquidity in an effort to stave off deflation and bolster financial institution balance sheets. Inflation is unlikely until a more robust economic recovery causes money velocity to reaccelerate and business capacity becomes again more fully utilized.
Encouraging signs of normalcy include capital market signals such as: credit markets have eased considerably from last year’s severe dysfunction, interbank lending rates dropped to their lowest levels on record, credit spreads have narrowed, and firms with strong credit ratings are issuing debt without government assistance below pre-crisis interest rates. All of these are important indicators for the market health in general; the benefits to self-storage will remain “trickle-down/” So while the global economy is still in recession and is likely to remain so for possibly well into 2010 in some regions, the stock markets are moving ahead and providing encouragement. Keep in mind that backward-looking economic data do not determine future market conditions. Stocks discount future expectations, so one can take a measure of comfort that the upward trend from the depths of last year’s lows will benefit all sectors in time.
All of this bodes well for a move off the severe bear markets of last year, yet commercial real estate still has its trials to face. Namely, the unwinding of unsustainable cap rates, the unwinding of over-leveraged loans issued with unsustainable loan variables: interest rate, debt service coverage ratios, and loan to value.
There are also considerable regulatory headwinds and other uncertainties that are impacting the financial sector and the band’s appetite to lend. Additionally to shore up their balance sheets, many financial firms have been force out issue new shares, diluting their shareholder equity and putting downward pressure on their share prices.
The present administration has outlines a new regulatory framework as well. The framework contains elements both positive and negative; in essence, however, these changes appear to be largely benign. All of these legislative efforts will be significantly negotiated and reworked before any changes are ratified, so it is still too early to opine about ultimate outcomes and effects. Nonetheless, financial sector firms remain in listening mode for new legislation which may impact their functionality in both intended and unintended ways.
In summary, there is reason to be highly encouraged by recent market activities and there are significant sighs that we are improving, however it will not be without setbacks and will continue to require a demonstration of patience, especially for those in commercial real estate. Consumer spending accounts for 70 percent of U.S. gross domestic product, but high debt and job losses will keep consumers from spending as much in the next few years as they have in the past; this contributes to the slow speed of the economic recovery timeline.
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