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As I am going over the final draft of one of the upcoming REIT research reports and a rough draft of the following report (I will release it after Thanksgiving, probably Friday), it is now coming into focus exactly how far underwater this industry actually is. I latched onto one company that appeared to be weak on the surface, but after digging further, actually turned out to be solvent. It is actually one of the better run companies, and outside of the fact that about 20% of its portfolio is underwater, it does not have any lethal issues to contend with. So, "What's the catch?", you say. It is trading at a very significant PREMIUM to it its NAV (yes, and that's with 20% of its portfolio underwater) and is also trading at a PREMIUM to its cash flow after taxes valuation as well. Why is this? Bubble, bubble, bubble. This will probably not end well.

There is also the 2nd REIT subject which I will try to push out next week, but will preview between now and then as well. This company is in trouble. Although it has decreased its overall LTV, it has done so by selling off its prime properties or material interests in said properties. This sabotages the prospects of a decent recovery when the market turns around (whenever that will be). In addition, it still has about half of its wholly owned properties that are unfinanceable in today's (and most likely tomorrows as well as yesterday's) credit market.  This is after hocking the family jewels! GGP comes to mind, for they behaved in a very similar fashion and contrary to popular belief, the CRE credit markets appear to be worse now than they were then. The banks did the extend and pretend for about a year with GGP until they finally filed for bankruptcy. See the whole chronology here,  GGP and the type of investigative analysis you will not get from your brokerage house, for it will probably be useful as follow the chronology of this latest research subject. One thing that I will do different this time around is that I will actually name the banks and CMBS/mortgage pools behind the underwater properties - some of which have 120%+ LTVs!!!

For those that think the economy will save the CRE crew through expanded GDP, let me again refer you to the Nomura/Richard Koo chart that I have been reusing so much lately:

japanese_land_vs_gdp.jpg

This is a balance sheet recession borne from asset deflation in the face of excessive debt. The assets tanked in 2006 while GDP was soaring, what is to keep them from tanking as GDP has started to creep up? In addition, that creeping has yet to indicate that we gave truly left global recessionary territory. This excerpted from RGE Monitor's latest global outlook report:

The global economy is beginning to recover
from the first synchronized contraction of the
post‐war era and global GDP will turn positive
in H2 2009. While Q2 and Q3 of 2009 have
brought signs of stabilization in growth rates
and industrial production for many economies,
the path to a sustainable recovery is not yet
clearly shaped.

He expects the US to shrink but 2.7% in 2009, and: 

Japan and the eurozone will suffer sharper downturns
of 6% and 4% respectively. While a 2.9% global expansion for 2010 represents a significant improvement from the
2009 global contraction, growth nevertheless remains well below the growth rates of this decade’s boom (global growth averaged 5% in 2004‐2007).
Only a year ago, the IMF suggested that a yearly global growth rate of 3% was consistent with the definition of global recession. That definition might have to be revised as global growth is expected to remain around 3% in 2010, and the IMF now argues that we are in the aftermath of a deep global recession (World Economic Outlook, October
2009, Ch. 1).

Hey, that's a good idea! If global growth doesn't support the concept of exiting recession, why not just change the definition of the term "recession" and Voila!

I'm of the idea that even if GDP does take off, we will be mired in deflating asset prices for some time. This assertion is bolstered by the performance of real assets in the face of literally trillions of dollars thrown deflating assets by Central Banks globally, all the while having these asset prices still drop - or at best hover. What is to happen after the bump from extend and pretend policies wear off? More importantly, what happens if (or more accurately, when) the counterparties of the many holders of the deflating assets make the inevitable collateral call that will be necessary for them to maintain their economic (as opposed to the mutually consented to, accounting) semblence of solvency?