To investors, The $20.7 trillion commercial real estate market is in big trouble. A few weeks ago Treasury Secretary Janet Yellen publicly stated “I do think that there will be issues with respect to commercial real estate.” Famed entrepreneur Elon Musk tweeted “
I’m in the construction/real estate industry. As a professional engineering consultant and employer for over half a century I am exposed to all elements of financial risks and have to have a pulse on my clients ability to pay their bills. Pomp’s assessment of the commercial real estate market is spot on. We have been down sizing incrementally over the last year in overhead cost attempting to prepare for & protect the staff we have assembled since 2008. It’s a moving target and one that is important to keep a sharp bead on. It’s rapidly looking like a blood bath is approaching.
In Germany, clothing and shoe companies have gone bankrupt so the retail store chains that they have are closing. The store front space becomes vacant, there is less foot traffic outside, and the employment falls.
I agree Pomp - by the way long time reader from New Zealand, first time commenter :) - I'm in a NZ commercial property fund that has had to close off redemptions, which is not flash but I was expecting it: I think they'll get through as they closed redemptions and halved the distribution conservatively to save as much value for the fund as possible, so proactive, but also they're over half industial and big-format retail which are both doing okay in New Zealand still, it's office that is the problem.
But on that I wanted to say that the Covid narrative of office sector broken on working at home I think will prove wrong: I know NZ firms are losing productivity and realising they need to get their workforces back in the office for a good deal of the time: people say they work as well at home as at the office, but they don't - and I can tell you that from a life time of working in a home office :) - and a disparate, scattered workforce lose identity, cohesion, and 'energy' from those essential personal interactions. Plus no one makes a sale on Zoom. Producitivity is falling. If you brave it out, commercial property has done me better than equities and bonds/fixed interest for last five years (by a big distance), then the cycle changes.
Outside that current plan is I'm dollar cost averaging equal amounts monthly into BTC and PaxGold until September (on grounds that best time to be in BTC are six months before a halving and 18 months after). Interesting to see how Macro will affect that this halving though.
The office asset class depreciates the fastest, particularly in markets lacking constraints to supply (i.e. sprawling easy-to-build markets). Zero interest rate policy incentivized developers, investors, and lenders to allocate massive sums to this juicy asset class (aka dry powder).
We've been overbuilding this product since 2015 (as labor markets slowed). We have not innovated this product, in design, lease structure, or need since it was invented to "produce" office work. So much is opaque in the financing of this market. Pay attention to all those investors who "got out of office" sold them to "someone" less smart, and these "someones" got financing. The private credit markets are very opaque and I'm sure many well known brands have placed capital in the lower tranches (higher yields) to boost returns on those "safe real estate portfolios." I'm excited for all this crap to get reset. Experimentation will be upon us to re-think our cities.
Your title should read the beginning of the current collapse because as you point out in your narrative, it has already begun. This can also be shown with pictures of empty store fronts in all medium and large cities businesses property as well as malls space and buildings up for sale, lease, rent or vacant, as well as the negotiations for current square footage cost by current holders as well as new negotiations for space along with the way in which negotiations are taking place for malls, tying cost to other creative factors that may force landlords to take some of the risk in a major downturn. This inturn is forcing commercial property to devalue due to the uncertainty in gross income.
Most articles about vacancies indicate the problem is work from home due to COVID new technical support and changed work rules. There is too little discussion about cheap money and over building on speculation of future growth. My guess is that there are a lot of new buildings with too few lessees and buildings not yet completed that will be empty because too many developers speculated on the same expected growth without taking competition into account. Not the same problem as workers staying home, the pandemic should not be blamed for developers' irrational exhuberance.
I’m in the construction/real estate industry. As a professional engineering consultant and employer for over half a century I am exposed to all elements of financial risks and have to have a pulse on my clients ability to pay their bills. Pomp’s assessment of the commercial real estate market is spot on. We have been down sizing incrementally over the last year in overhead cost attempting to prepare for & protect the staff we have assembled since 2008. It’s a moving target and one that is important to keep a sharp bead on. It’s rapidly looking like a blood bath is approaching.
I’m just sayin..
In Germany, clothing and shoe companies have gone bankrupt so the retail store chains that they have are closing. The store front space becomes vacant, there is less foot traffic outside, and the employment falls.
I agree Pomp - by the way long time reader from New Zealand, first time commenter :) - I'm in a NZ commercial property fund that has had to close off redemptions, which is not flash but I was expecting it: I think they'll get through as they closed redemptions and halved the distribution conservatively to save as much value for the fund as possible, so proactive, but also they're over half industial and big-format retail which are both doing okay in New Zealand still, it's office that is the problem.
But on that I wanted to say that the Covid narrative of office sector broken on working at home I think will prove wrong: I know NZ firms are losing productivity and realising they need to get their workforces back in the office for a good deal of the time: people say they work as well at home as at the office, but they don't - and I can tell you that from a life time of working in a home office :) - and a disparate, scattered workforce lose identity, cohesion, and 'energy' from those essential personal interactions. Plus no one makes a sale on Zoom. Producitivity is falling. If you brave it out, commercial property has done me better than equities and bonds/fixed interest for last five years (by a big distance), then the cycle changes.
Outside that current plan is I'm dollar cost averaging equal amounts monthly into BTC and PaxGold until September (on grounds that best time to be in BTC are six months before a halving and 18 months after). Interesting to see how Macro will affect that this halving though.
The office asset class depreciates the fastest, particularly in markets lacking constraints to supply (i.e. sprawling easy-to-build markets). Zero interest rate policy incentivized developers, investors, and lenders to allocate massive sums to this juicy asset class (aka dry powder).
We've been overbuilding this product since 2015 (as labor markets slowed). We have not innovated this product, in design, lease structure, or need since it was invented to "produce" office work. So much is opaque in the financing of this market. Pay attention to all those investors who "got out of office" sold them to "someone" less smart, and these "someones" got financing. The private credit markets are very opaque and I'm sure many well known brands have placed capital in the lower tranches (higher yields) to boost returns on those "safe real estate portfolios." I'm excited for all this crap to get reset. Experimentation will be upon us to re-think our cities.
Thank you for the excellent overview, analysis and insight.
Your title should read the beginning of the current collapse because as you point out in your narrative, it has already begun. This can also be shown with pictures of empty store fronts in all medium and large cities businesses property as well as malls space and buildings up for sale, lease, rent or vacant, as well as the negotiations for current square footage cost by current holders as well as new negotiations for space along with the way in which negotiations are taking place for malls, tying cost to other creative factors that may force landlords to take some of the risk in a major downturn. This inturn is forcing commercial property to devalue due to the uncertainty in gross income.
Most articles about vacancies indicate the problem is work from home due to COVID new technical support and changed work rules. There is too little discussion about cheap money and over building on speculation of future growth. My guess is that there are a lot of new buildings with too few lessees and buildings not yet completed that will be empty because too many developers speculated on the same expected growth without taking competition into account. Not the same problem as workers staying home, the pandemic should not be blamed for developers' irrational exhuberance.
Get anaylsis
Pomp love your work, will be interested to know what the contagion effects will for equity markets which have been on a tear of late.
Pomp thanks for sharing 🙏