Emerging Trends 2010 – What’s ahead for LA? The Good, the Bad and the Great Unknown
By Xavier Gutierrez, Managing Director and Principal, Phoenix Realty Group
ULI LA Expert Commentary
Urban LAndscape, November 5, 2009
The Good
Since forward-thinking real estate professionals are sometimes labeled as eternal optimists, many of us were glad to see the latest economic news that GDP grew 3.5% in the third quarter, the highest quarterly growth rate since 2Q 2008. Shortly after that news came out, however, ULI Georgetown issued its latest Real Estate Business Barometer showing that vacancy rates were up in the third quarter for office, retail, warehouse and apartments nationwide. Additionally, a big chunk of the third quarter GDP increase was due to government stimulus programs like “cash for clunkers” – economic activity that is not likely to be repeated in subsequent quarters. Taken together, the news is like being nominated for an Emmy the same day you find out your show is cancelled.
So does anyone really know what lies ahead for local property markets? You will get some very reasoned predictions on November 18th at the ULI LA Emerging Trends 2010 conference, with panels evenly divided among the capital providers and the capital users. We’ll delve into several topical issues that are certain to be of interest to developers, lenders, investors and policy makers in the greater LA area.
On the good side, Los Angeles is better positioned than most areas to survive the residential and commercial real estate fallout due to its very diversified economy. Since the 1990s, when the local economy was heavily dependent on the defense industry, LA has cemented its importance as the gateway to Asia, luring US companies that want to take advantage of foreign markets through the country’s largest port and the massive infrastructure of rail and roadways linking warehouse facilities in LA and the Inland Empire. Right now, there are approximately 51 million square feet of vacant office space across the Inland Empire and Los Angeles and Orange counties, but optimistic technology, entertainment and finance companies are seeing the drop in rents as an opportunity to grab bigger or more prestigious space and position themselves for the rebound.* Private equity sources are ready to pounce on cash-generating distressed assets and just waiting for the debt markets to come back and the economy to stabilize with job losses bottoming out. The latest numbers from PREQIN suggest that $173 billion of private equity capital is waiting in the wings and, given the size of Southern California’s population and economy, it’s a pretty safe bet that a good deal of that capital is headed here. Early evidence: a Chinese sovereign-wealth fund recently committed $1 billion into LA’s Oaktree Capital, one of the firms chosen by the US government to help rid banks of toxic assets. And more specifically in real estate, we are also seeing the rise of high-net-worth investors and family money – cash-rich buyers who got burned by the stock market are now buying property directly with the intent of holding it for future generations.
The Bad
Los Angeles is no better protected from the debt market turmoil than anywhere else. “Extend and pretend” is the latest buzz term, describing how banks are extending loans rather than recognizing losses. No telling how long that will last, especially in light of recent FDIC guidance that financial institutions that implement prudent loan workout arrangements will not be subject to criticism “even if the restructured loans have weaknesses that result in adverse credit classifications.” The impact could be huge, since more than half of the $3.4 trillion in outstanding commercial real-estate debt is held by banks, and more than half of the $1.4 trillion in commercial mortgages maturing in the next five years are believed to be under water. It doesn’t appear that banks will be looking to lend again anytime soon and CMBS continues to be on life support with no offerings since July of 2008. Speaking of CMBS, what will happen with maturities coming down the pike? About $26.64 billion of CMBS loans outstanding were 60 days or more past due last quarter, according to a recent report from Reis, Inc., and defaults may top 6 percent by year-end, the firm said. How will these trends play out in real estate strategies here in LA?
The Great Unknown
With so little financing activity and sales, it is tough to put a value on transactions. Starwood and its partners got generous FDIC financing to pay $2.7 billion for the Corus Bank portfolio backed by $4.5 billion in loans on condominiums, apartments, office buildings and raw land. But it is unclear if the government limited their ability to sell, since Starwood is giving signals they will not unload those assets anytime soon.
And what about the government’s tax credit for first-time homebuyers? The Senate on November 4 approved a bill that extends through April 30 an $8,000 first-time homebuyer tax credit and creates a new $6,500 credit for homebuyers who have been in their current residence for the last five years or more. The bill, which passed 98 to 0, is likely to be approved by the House and then be rapidly signed by President Obama. For the time being, Congress seems willing to intervene to help the country through its worst recession in decades.
Most of us are living through the most difficult recession we have ever experienced, complete with once-in-a-lifetime challenges. The contrarians might just be witnessing their finest hour. It’s time to get creative, get motivated and get registered for ULI LA’s Emerging Trends in Real Estate 2010.
Xavier A. Gutierrez is Senior Vice President, Capital Markets at Phoenix Realty Group, LLC (PRG), a national real estate investment company that manages private equity funds to invest in middle-market residential, mixed-use, and commercial development in urban and infill areas throughout the United States.
