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Keynotes Provide Compelling Commentary on Today’s Turbulent Economy, Commercial Real Estate Market

SAN DIEGO – A number of hot button issues dominated the 16th annual Trigild Lender Conference last week – historically low interest rates, homeownership shifts, global volatility, the oil market slump and a growing political divide to name a few – but despite the headwinds, one thing remained clear: the U.S. commercial real estate market and overall economy remain relatively healthy, at least in the short term.

“Despite constraints, the U.S. economy is sailing, and we expect the expansion to continue,” said Peter Muoio, Ph. D., executive vice president of Ten-X, an online real estate platform. “Employment is healthy, wage growth continues to pick up, household wealth continues to improve and the housing market continues its recovery.”

Yet according to most panelists and speakers the historically prolonged CRE boom strongly signals a cyclical downturn ahead.

Hundreds of real estate, legal and finance industry leaders joined Muoio and other keynote speakers – Sam Chandan, Ph.D., a noted economist and president of Chandan Economics; Robert Guest foreign editor of The Economist; and Donald Sheets, managing partner of AlumCreek Holdings – to examine the state of commercial real estate and overall economic trends at the annual conference, presented by Trigild, a San Diego-based real estate services company.

According to Trigild president Judy Hoffman, with a special focus on non-performing loans, the conference was aimed at lenders, special servicers, legal counsel, investors and loan buyers – offering an ideal forum to help participants prepare for the next wave of distress. In addition to the keynote presentations, the many topics covered included
strategies for recovery, managing environmental challenges, bank regulation and risk retention and unique issues for both balance sheet lenders and special servicers.

While the economy remains stable, Chandan said, “We have a monetary policy consistent with crisis conditions, and the Fed is unsure of how to unwind its current position. As it stands now, our quiver is empty. Monetary policy is as loose as it can get.”

Chandan’s keynote, “The State of Commercial Real Estate,” kicked off the conference and raised compelling questions about the economy, interest rates, housing, fundamentals, capital and regulations – providing an important reminder that set a cautious tone for the rest of the event: “If we think nothing can go wrong, this is good indication that something is going to.”

“Our economy has been growing since 2009, with average growth of two percent GDP per year, but we are still not where we should be,” Chandan said. “Drags on U.S. growth include under investment in infrastructure, a need to adjust the education system and regulation of capital markets.”

The key to further growth on all fronts: the labor market. For the median American family, a stable economy depends on personal experiences. Ultimately, Chandan said, job growth matters more than GDP growth.

While unemployment is low and people are not losing jobs like they once were, we are experiencing “one of the biggest mismatches between skills and lack of qualified job hunters in history,” he said.

CRE: Transactions Slump, Prices Rise

On the CRE front, said Muoio, deal volume is slowing, while prices – bolstered by the white hot multifamily market – are on the increase. “There is a disconnect between buyers and sellers,” Muoio said. “We saw $105 billion in CRE transactions in the second quarter, the lowest level we have seen since mid 2014.”

As far as pricing, real estate values vary considerably, depending on asset class and location. Lodging, however, is the only commercial property sector to see year-over-year declines in values. Concerning other sectors, Muoio said:
• Retail is being eaten alive by e-retail, with store footprints shrinking;
• Industrial is booming, fueled by technology and a boom in distribution fulfillment centers;
• Office fundamentals continue gradual improvement, but marked by a distinct bifurcation of markets – central business districts versus suburban. Moreover, said Muoio, “the regional divergence in markets is stark.”

Chandan said the titles of his Trigild presentations over the last few years – The Hunt for Liquidity, 2011; The Hunt for Yield, 2012: From Expansion to Recovery, 2013; An Appetite for Risk, 2014: The Best of Times, 2015 and Too Soon for Hindsight, 2016 – are especially telling, and indicate a slow move off the peak.

“There are more dollars chasing a fixed number of opportunities,” he said.
“At one point, we were worried about where capital would come from. Now we see some segments saturated with capital. The U.S. is a safe harbor, so capital flows here.”

While we are seeing a tightening of lending standards, we are still finding ways get deals done, Chandan said. “There is still more lending in more places to more borrowers. The loans we need to worry about are the ones we make when we’re comfortable about the market. “

While The Multifamily Industry Soars, Homeownership Wanes

Homeownership, said Muoio, is at a 51-year low. “Millennials, who now outnumber Boomers, were hammered by the Great Recession. Saddled with student debt, they witnessed the housing bust first hand at a formative age.” This seared their memories, Muoio pointed out, and they will not quickly forget that homeownership can be risky. This sentiment, along with rising home prices and a tendency to have families and marry later, are all fueling multi-family demand.

However, the rental population is growing because of demographics – and Chandan questioned whether the rental bias will hold. “While there has been a dramatic swing toward renting, Millennials will not always be 22 and their preferences will change too.”

“There is a record amount of more multifamily under construction – mostly high-rise, luxury properties in urban cores,” Chandan said. Yet investors should be cautious. The market is cyclical and “if things don’t go our way in multifamily, some loans may be problematic.”

Global Volatility and the Great Political Divide

Robert Guest of The Economist, posed some compelling questions about trade and immigration. There is a growing political divide fueled by a “rise in populist parties of the far left and far right. Should we embrace trade or protect local industry? Welcome immigrants or build barriers?”

“The cumulative damage when you try to cut off trade is enormous,” said Guest. And the benefits of trade are many, he noted. You have “a willing buyer and willing seller and both benefit from the exchange. Trade allows specialization; companies do what they are good at. It also raises living standards and increases purchasing power.”

Keynote speaker Donald Sheets addressed clouds gathering over the global economy, raising concerns about growing economic volatility – and the mounting level of negative yielding global debt.

“We are seeing indications in emerging markets that not all is fine,” he said. Especially troubling, he said: continuing global instability in places like Turkey and Brazil; the fact that Japan’s Central Bank owns 60 percent of the (ETF) market; massive debt maturity looming in China; deterioration in equity values of global banks; and a spike in downgrades of sovereign credit ratings.

The only two countries whose bond spreads have tightened are Serbia and Croatia, Sheets said. “There is a real disconnect in sovereign markets. And trillions of U.S. dollars are in sovereign debt. There has been nothing like this before – we are seeing negative yields across the board.”

Chandan concurred the most significant threat to the global outlook may be rising debt levels, serviceable at historically low interest rates.”The growth outlook is subject to exogenous shocks, and longer term challenges are still largely unaddressed.”

Adding to global woes, said Muoio are the depressed energy sector, stagnant trade flows and ongoing uncertainty in the aftermath of Brexit.
Ultimately, said Muoio, the hindrance for economic growth is “uncertainty.”
Added Chandan, “economic expansions don’t die of old age – our risk-taking behaviors simply start to return.”

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