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The Collapse In Commercial Property Towers Of Debt

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http://www.economist.com/businessfinance/d...e=hptextfeature

FROM a distance Potsdamer Platz looks a bit like its old self. Once the central hub of Berlin, before it was turned into a rubble-strewn no-man’s-land divided by the Wall, it is now surrounded by shiny new towers. Get a little closer, however, and it becomes clear that many buildings are just façades painted onto giant hoardings that rise ten stories high between actual office blocks.

This subterfuge makes for a far more pleasant view than that provided by vacant lots. It also points to an unusual degree of restraint among developers in Europe’s second-largest property market (by transactions). The commercial-property market in most other parts of the developed world is in deep trouble.

Unlike other property busts, this downturn has not been driven by speculative overbuilding but by investors’ overenthusiasm. Commercial property was a popular asset class for much of this decade. Institutional investors who lost a lot of money when the dotcom bubble burst were persuaded that switching from the stockmarket into property would diversify their portfolios and reduce their risk. Cheap finance was plentiful. Investors could indulge in a version of the “carry tradeâ€â€”borrowing at a low interest rate to buy buildings and counting on the rental yield and capital growth to more than cover their financing costs.

That strategy looked smart when rents and capital values were rising and vacancy rates were low. But as cheap financing has dried up and economies have tumbled into recession, investors have become badly exposed. According to Marcus & Millichap, an estate agent, the office-vacancy rate in Manhattan climbed by more than three percentage points in the first half of the year, to 11.2%. As tenants have disappeared, rents have fallen too—by 16% over the past year, Marcus & Millichap reckons.

Property prices have also been badly hit. Moody’s, a rating agency, estimates that American commercial-property prices dropped by 7.6% in May alone, leaving them almost 35% below their peak in October 2007. Prices would have gone down even further had not transactions dried to a trickle (see chart). Owners are loth to sell into a falling market, although some distressed sales are occurring.

All this sounds like a replay of the downturn in the residential-property market, where easy borrowing terms allowed homebuyers to push prices to extreme levels. To add to the sense of déjà vu, property loans have also been bundled into complex financial instruments, known as commercial mortgage-backed securities (CMBSs). The riskiest of these, mainly those issued between 2005 and 2007, are now running into trouble.

Realpoint, a credit-rating agency, says that nearly $29 billion of CMBSs, around 3.5% of the total, have become delinquent (ie, borrowers have not kept up interest payments) in the past 12 months. It thinks the delinquency rate could reach 6% by the end of the year. Richard Parkus of Deutsche Bank reckons the default rate could eventually reach 12%. Together with bad construction loans, that could push the losses of American banks on commercial property to $200 billion-230 billion. Many small banks will go under as a result.

European banks are exposed to property, too. The good news is that the two biggest euro-zone economies, France and Germany, have seen only modest declines in rents and prices. But one of Italy’s biggest property companies, Risanamento, is fighting to stave off its creditors. And pain is being felt all around the periphery of the euro area. In Spain (see article) and Ireland vacancies are surging, property prices are plummeting and cranes are standing idle.

Prices are plunging across central and eastern Europe, too, although the volume of transactions remains slim. Yields in many of these markets were driven down by hopes that they would, in time, converge with those in mature European markets. Vacancy rates in cities such as Budapest have surged to about 15% while those in Prague have almost doubled (to roughly 10%) over the past year. Some of the biggest falls in rents are taking place in Russia. Rents in Moscow have fallen by 63% in the 12 months to the end of June although they are still the third-highest in Europe (after the West End in London, and Paris). With almost one-fifth of office space empty, further falls in rents and prices seem likely.

Asia has not been spared either. The worst-affected property markets in the region have been financial centres such as Singapore and Hong Kong. Shrivelling bank balance-sheets have meant shrinking demand for office space, as armies of bankers have lost their jobs. Singapore’s s*****iest business district led the retreat in office rents across the region, shedding more than half between June 2008 and June 2009, according to Cushman & Wakefield, a consultancy. Hong Kong was not far behind with a 43% drop in the same period. Mumbai (down by 40%) and Shanghai (32%) were the next hardest hit.

There are some signs that the speed of the downward adjustment is slowing. In Hong Kong, office rents in the prime central district declined by 20.1% in the first quarter. The fall was much more moderate, but still 10.4%, in the second. Looking ahead, Singapore seems particularly dicey, because 8.3m square feet (770,000 square metres) of new office space will be coming into the market by 2013. According to CLSA, a broking firm, oversupply will also weigh heavily on office property in China. Vacancy rates in Shanghai and Beijing could rise to 35% in 2010 from around 17% and 22% respectively today.

A year ago everyone was worried about losses on residential-property loans. If the latest data are any guide, both American and British house prices may be finding a bottom. Concerns are now switching to the commercial sector. History suggests downturns in that market last for years, rather than months. Almost 20 years have passed since the Japanese property market peaked. Prices still fell by 4.7% last year.

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I think this will report will shock many on here, I mean who could possible have predicted this. :rolleyes:

The figures are staggering and are global, all I can say is thank god for the green shoots, we'd be truly stuffed without them.

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IT IS VERY POSSIBLE that a slide in Commercial property may bring a renewed slide in banks, and share prices.

If the banks have to go back to the government to cover more loss, how keen will they be to maintain present levels of LTV finance?

I think we are headed to maximum 60-70% loans, even less for "investors" (read: BTL speculators)

Isnt that a case of "Back to the future" though?

I'm wondering if thats the real sensible level and the higher levels were just a temporary phenomenon (sp?)

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does the queen know anyone to ask

She might know someone to ask, but I suspect the only response she would get is why no one saw this coming.

If only people could see things coming we could avoid disaster.

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People did see it coming but chose not to see beyond their next bonus cheque.

I mean if you could see it all ending in tears, but could trouser a few million before TSHTF you would carry on wouldn't you?

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the bbc have just shown margate - empty shops in centre galore

they also showed london, brixton 1 in 5 commercial prem empty.

"expert" said of london : '' they had loads of empty shops in the boom part of the cycle, so little hope of filling them now in the bust. prop guardians are moving in.''

Edited by loginandtonic

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someone else who could see the debt problem

http://market-ticker.org/archives/1273-The...Government.html

The Idiocy Of The Media, Fed And Government

Let's cut the crap here and now and talk macro economics and debt.

I'm going to go back to this chart again:

This shows total non-government debt going from 150% of GDP (approximately) in 1981 to 350% of GDP (approximately) last year.

In 1981 GDP was $3.128 trillion, so the total amount of debt in the system (non-government again) was approximately $4.5 trillion.

In the last year GDP was $14.264 trillion, so total debt in the system was approximately $50 trillion.

This is an increase in the outstanding (not taken and paid-off) debt of roughly $45 trillion dollars.

In the same period of time the aggregate gross output (GDP added over all years) was approximately $218 trillion dollars. That is, if you sum the GDP of all years in the dollars of the day (not constant dollars) from 1981 to the present, you get about $218 trillion.

The growth in debt outstanding is therefore responsible for pulling forward demand - that is, increasing GDP - by about 21%.

That is on average in each year since 1981 the addition to the current debt incurred by private parties (again, not including the government!) has resulted in GDP being 20% higher than it would have otherwise been over the entire 30 year period.

The parabolic nature of the above graph however makes clear that at the start of the period the "pulled forward" amount of demand was smaller than 20%, and as such it is clear that the "contribution" now is greater than 20%.

But since we live in the here and now, and it is only fair to bias our discussion in the direction of not facing the apocalypse, we will use the 20% figure.

This recession began due to the impossibility of consumers and businesses paying their debt down. Remember - the recession did not start with job losses and a business slowdown - it began with people defaulting on mortgages and credit cards, and businesses defaulting on lines of credit. That in turn led to a business slowdown which then fed back and caused even more defaults.

Bernanke and everyone else knows this.

They know that we cannot "stuff" the debt channel any more, because we are up against the wall where people cannot pay.

This means that GDP must contract until equilibrium is restored, which is likely to be significantly more than 20%, because (1) we've intentionally understated the recent-year impact of this "pulled-forward" demand and (2) as the economy contracts and people are laid off this results in a spiral of less spending, which then feeds back to even more business contraction.

The total de-leveraging of debt by the consumer so far, since January 09 (which was the top in consumer credit outstanding) has totaled three percent - or about 10-15% of the total amount that is required to restore balance just in the consumer lending space.

You have not and will not see this reported in the mainstream media or discussed by Ben Bernanke, but it is in fact the crux of the problem - the only way "out of the box" is to try to ramp lending somewhere so as to create yet more debt to maintain final aggregate demand. The amount of debt required to do so has gone parabolic and cannot be paid down privately; ergo, the attempt to shift it all to the government via the alphabet soup programs.

This is doomed to fail despite any transient appearances of success as the amount of debt required to maintain the pulled-forward demand is now growing exponentially.

Yet there are only two choices: Face this reality, default the debt and accept a 20% or larger GDP contraction, or keep trying to stuff the federal government (since the private sector has hit the wall and cannot absorb any more credit) and when THAT blows up we lose our government and political system.

The math is irrefutable and Bernanke is fully aware of it, as are the wonks in Wahington DC.

They simply don't care about the truth and neither does the mainstream media.

If you're wondering why I go after the media and government so aggressively, this is the reason: The facts are right in front of their face and require nothing more complicated than a 4-function calculator to add it all up.

You are being intentionally misled by all of them. Period.

Edited by lowrentyieldmakessense(honest!)

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They know that we cannot "stuff" the debt channel any more, because we are up against the wall where people cannot pay.

Yep, for the same reason you can't drink yourself sober.

A lot of people have likened the credit binge to drug addiction.

Last night I was reading up about the Opium Wars - where Britain fought wars to ensure the Chinese took the opium we were shipping there from Afghanstan. I find it hard to believe that British could have behaved this way but it is absolute fact. China was flooded with opium.

Any parallels between this and the pumping of excess credit into the economy are entirely coincidental.

You know you want some.

Edited by Dave Spart

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apparently CGNAO saw this and passed out, he is now so mentally exhausted his GP had him commited to the mad house (no not parliament!)

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You never, ever see Sibley post in articles about commercial property, saying that we're all deluded and that the price of office space is about to shoot through the roof. I wonder why?

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Yep, for the same reason you can't drink yourself sober.

A lot of people have likened the credit binge to drug addiction.

Last night I was reading up about the Opium Wars - where Britain fought wars to ensure the Chinese took the opium we were shipping there from Afghanstan. I find it hard to believe that British could have behaved this way but it is absolute fact. China was flooded with opium.

Any parallels between this and the pumping of excess credit into the economy are entirely coincidental.

You know you want some.

We gave the Chinese opium, they gave us cheap credit and low inflation and everyone got hooked.

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a lot of retail space needs to be bulldozed due to the overcapacity due to the malinvestment due to the central banks artificially lowering the cost of credit

Yup...

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This is a great article. If only people could see things coming we could avoid disaster. Any parallels between this and the pumping of excess credit into the economy are entirely coincidental.

regards,

lucy

I've repeatedly said if only we had leader with a PHD in history.

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Isnt that a case of "Back to the future" though?

I'm wondering if thats the real sensible level and the higher levels were just a temporary phenomenon (sp?)

"Black to the future" ? :blink:

I put in a offer on a licence for small premises (one months notice, easy in /out - not a lease) of 20% off the rent,

I'm going to call them to withdraw the offer as this is getting scary. Probably much better deals about.

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