Experts Agree: Commercial Real Estate Endures through Tough Times and is Poised to Grow

At a recent USC-sponsored conference featuring many of the top minds in the commercial real estate sector, the "end-of the-world" scenario predicted for the commercial sector was given last rites. Almost all were in agreement that all indicators reflecting the downward spiral in the sector are bottoming out and recovery is around the corner. This new recovery will be more measured, unlike the artificially-stimulated growth of the last bubble. Most feel that a new real estate “Peak” will be the norm around 2015.

As an improving economy led by job growth, affordable home prices and growing commercial opportunities opening in tertiary markets, the general consensus of the conference affirms the trends we’ve identified in the market – that new lending sources are opening up daily, the flow of credit is increasing and significant improvement is being made in making more loan products available to meet both residential and commercial demands.

2012 should also see a release of properties being held by both regional and large banks in the $10 billion and $50 billion in assets range. As the FDIC turns its scrutiny from the larger banks to smaller institutions, these banks recognize that to meet the minimum capital ratios required to pass stress tests they will either need to shed assets or set aside large reserves to cover potential losses on questionable assets. Asset disposition will be the preferred method over large loss reserves, and as a result of improving balance sheets, financial institutions are in better financial shape to sell assets at a discount. This means more properties will be coming to market but not to be dumped at fire-sale values. Larger private equity firms are fully-funded and are aggressively scouring the market for discount notes and assets.

Conference attendees also affirmed the potential for more activity in the acquisition and disposition of distressed notes. Over $350 billion in vintage 2007 commercial loan originations are expected to mature this year, and it’s projected that half of these notes will not be able to meet refinancing criteria and will be classified as distressed or non-performing assets. While this may constrain full market expansion, it presents some real opportunities to acquire commercial notes.

Commercial real estate investors are now finally experiencing an uptick in acquisition opportunities after several years of limited options. Investors generally expect the note market to remain active for another two to four years. In the next five years, close to $1 trillion of commercial loans will mature, putting additional pressure on US banks to step up efforts to shed more than $100 billion of non-performing loans currently on their books. They also cited the high number of construction, acquisition and development loans made by regional and local banks nationwide, now labeled as distressed. Two-thirds of potential loan purchasers last year completed their transactions. In the previous year, less than 50 percent were successful.

The Conference also highlighted some emerging trends that have the potential to hinder a robust recovery:

• The financial strength of municipalities and pension funds. Retirement obligations that are coming due will bankrupt many institutions that are already in trouble. Taxes, taxes and more taxes will be necessary thereby creating a recessionary impact.

• The loss of manufacturing jobs. This is a huge problem as is the outflow from California of these valuable jobs. Manufacturing jobs present one of few opportunities for disenfranchised groups to move out of a lower-income status into the middle class. As these jobs disappear, so will middle class productivity and wealth. A sobering statistic: 65% of U-Haul’s business in 2010 and 2011 was moves out of Southern California.

All in all, the tenor of the Conference was the over-whelming feeling that commercial real estate is working its way back; good news for all.