" I am a bear (small guy) and I've had my ass kicked by the powers that be. I'm clawing back. I just wanted to ask you what you think of SRS/DRV. Will they finally start to move soon?? I am not asking for "investment advice" I am already in and holding. Love your stuff.....If you find who the bank is that owns this stuff [below] can you let me know ?? :)
Details below, Reader in Seattle, Wa.
The Business park I work in is in North Bothell Washington state. I attached a map with a black circled area. ALL properties pictured are right in here, maybe a square mile? The location is right off 405 in North Bothell at the Canyon Park exit. I've been there for a few years and seen some of these [have been] empty for 2-3 years. The Former Icos building had been empty the entire time but recently someone finally moved in there but I don't see many cars in the parking lot so they must be small. No pictures of that one. The really large nice reddish brown building was vacated by Safeco Insurance. They moved to a high-rise down town and their old building has been empty ever since, maybe 2 years? Most of the other ones I am not sure of the history of. Most of the small unit pics toward the end are all semi recent failures in the last year or so. Here is as detailed a rundown as I can give on the attached PDF file with all the pictures:
Pic 1 and 2 are the same building that was vacated by DHL when they went under. It has been empty ever since. Pics 3-6 are all of the former Safeco/unkown empty as long as I've been there, 9-10 are the same building, details unknown [but] empty a long time, 11-15 are all the same building but it is a HUGE long ass building maybe 100 yards long, possibly subdivided but ALL empty on 23rd SE, 16 is an unknown empty property, it had a church in it for a while but they've been gone for a year or so. 16, 17 and 18 are all in a row on the way into the park on 220th st SE, 16 had 2 guys at the door, I often see maintenance being done around the park but that one IS empty, 18 and 19 are the same building, 20-25 are ALL SEPERATE units that are empty and snake around the area between where it says ISSI data and Radar Electric on the map, 26 is Radar Electric supply, I think they ARE open, you can see cars through the shrubs, I took this because the sign was out front, I think there are other units IN the Radar building that are empty, 27 is just past Radar electric, details unknown. Building, Pics 7-8 are the same building,
Oh, also, even funnier, they started another HUGE commercial project in the same development. When you come in 16,17 and 18 are on your right but across the street is a HUGE open field that they have all ready to go, they even did landscaping and put up big signs with a picture of the "building to be". But I guess all that changed as they stopped the project.
Reggie, I took a ride down to the next business park south on 405 at 195th/Beardslee Blvd exit and found 20 more signs for "Available". This park didn't have quite as many completely empty units for that ghost town feel but I guess each one was 1/2 full."
Click here for a visual tour of what the reader was referring to: Green Shoots 2010.
Now, from Washington State to the wildfire (used to be) market, Washington DC:
So, back to the original question, "How the hell can the landlords have rocketing share prices while their business disintegrates?"
Conflict of Interest Number 1: The Managers of CRE Investment Funds Are Paid to Do Deals, Not Necessarily to Make Their Investors Money!
First of all, the big investment banks and private funds DO NOT have their investors best interests in mind. They made money regardless of the returns of the their investors due to the implicit call option that most investors have naively granted them. Thus, these agents cum principals actually did a flurry of multi-billion dollar deals at the height of the market to reap the tasty, foamy, "assets under management fee - froth" from the churn, and not necessarily because they felt they could produce an investment profit. Because of this height of the bubble, "dumb money" capital injection, you have had prices bid up totally unnecessarily during the boom times of CRE by hundreds of billions of dollars of (I don't intend to sound condescending, but the reality is) clueless and very naive institutional, foreign and high net worth capital in search of fees for the investment bank and private fund managers that ran them. Now those artificially high prices just have that much farther to fall.
On April 15th, 2010 I penned "Wall Street Real Estate Funds Lose Between 61% to 98% for Their Investors as They Rake in Fees!" wherein I espoused much of my opinion on market manipulation and the state of CRE. I will excerpt portions below in an attempt to explain how REITs and the bankers that they deal with get to add 2 plus 2 and receive a sum of 6, or worse yet have 4 subtracted from their 6 and get to sell 5!!! Straight up Squid Math!
Oh, yeah! About them Fees!
Last year I felt compelled to comment on Wall Street private fund fees after getting into a debate with a Morgan Stanley employee about the performance of the CRE funds. He had the nerve to brag about the fact that MS made money despite the fact they lost abuot 2/3rds of thier clients money. I though to myself, "Damn, now that's some bold, hubristic s@$t". So, I decided to attempt to lay it out for everybody in the blog, see "Wall Street is Back to Paying Big Bonuses. Are You Sharing in this New Found Prosperity?". I excerpted a large portion below. Remember, the model used for this article was designed directly from the MSREF V fund. That means the numbers are probably very accurate. Let's look at what you Morgan Stanely investors lost, and how you lost it:
The example below illustrates the impact of change in the value of real estate investments on the returns of the various stakeholders - lenders, investors (LPs) and fund sponsor (GP), for a real estate fund with an initial investment of $9 billion, 60% leverage and a life of 6 years. The model used to generate this example is freely available for download to prospective Reggie Middleton, LLC clients and BoomBustBlog subscribers by clicking here: Real estate fund illustration. All are invited to run your own scenario analysis using your individual circumstances and metrics.
To depict a varying impact on the potential returns via a change in value of property and operating cash flows in each year, we have constructed three different scenarios. Under our base case assumptions, to emulate the performance of real estate fund floated during the real estate bubble phase, the purchased property records moderate appreciation in the early years, while the middle years witness steep declines (similar to the current CRE price corrections) with little recovery seen in the later years. The following table summarizes the assumptions under the base case.
Under the base case assumptions, the steep price declines not only wipes out the positive returns from the operating cash flows but also shaves off a portion of invested capital resulting in negative cumulated total returns earned for the real estate fund over the life of six years. However, owing to 60% leverage, the capital losses are magnified for the equity investors leading to massive erosion of equity capital. However, it is noteworthy that the returns vary substantially for LPs (contributing 90% of equity) and GP (contributing 10% of equity). It can be observed that the money collected in the form of management fees and acquisition fees more than compensates for the lost capital of the GP, eventually emerging with a net positive cash flow. On the other hand, steep declines in the value of real estate investments strip the LPs (investors) of their capital. The huge difference between the returns of GP and LPs and the factors behind this disconnect reinforces the conflict of interest between the fund managers and the investors in the fund.
Under the base case assumptions, the cumulated return of the fund and LPs is -6.75% and -55.86, respectively while the GP manages a positive return of 17.64%. Under a relatively optimistic case where some mild recovery is assumed in the later years (3% annual increase in year 5 and year 6), LP still loses a over a quarter of its capital invested while GP earns a phenomenal return. Under a relatively adverse case with 10% annual decline in year 5 and year 6, the LP loses most of its capital while GP still manages to breakeven by recovering most of the capital losses from the management and acquisition fees..
Anybody who is wondering who these investors are who are getting shafted should look no further than grandma and her pension fund or your local endowment funds...
Conflict of Interest Number 2: Those Banks That Are Selling and Recommending REIT Securities Are The Same Banks That Got In Trouble Holding Said (Underperforming and Underwater) Securities and Needed to Dump Them On Naive Investors
The next point to ponder is that many of these banks upgrading the REIT sector and underwriting said securities (with government assistance may I add) also financed the same real estate developers and REITs that are now underwater and in desperate need to get from under them. Hence the banks that are selling you product are also underwater (via bad debt) through that very same product that they are selling you. So, why should you buy it? Because they are selling it to you, that's why silly... And everybody knows that Morgan Stanley and Goldman is the best there is at what they do, just like Wolverine. If you bought that bullshit, you would have been gutted, just like Wolverine would have done 'ya, too!
Despite the carnage that I-bank clients have grown to know and love, they still buy those self destructive I-banking products - and buy these products they still do... Sadomasochism is to I-banking real estate funds and products as Masochism is to RE Private Fund Clients... In its simplest format, sadists desire to inflict suffering and masochists want to receive suffering.
In the post, "Doesn't Morgan Stanley Read My Blog?”, I lamented on the fact that I made very clear in 2007 that anyone who bought the Sam Zell/Blackstone flips were guaranteed to lose money. It was literally etched in stone. It was a miracle that Blackstone didn't lose their shirt attempting to flip large office building parks like overpriced single family homes at the top of a bubble (and they almost did). Well, guess who bought those "Peak CRE" buildings on behalf of their clients as they raked in the fees? You guessed it. None other than Morgan Stanley on behalf of their fund clients. This particular purchase was a 100% equity loss - just as I clearly and resolutely warned it would be back in 2007 when they made the purchase. See “Will the commercial real estate market fall? Of course it will” 09 December 2007. So, how could I have seen this coming and the wizards at MS could not have? Well, as smart as I would like to declare myself to be, it is easily argued that MS did see it coming and didn't care, for they made money on the deals anyway (more on that in a minute). For the time being though, the entire fund apparently lost about 61% of the shareholder's money. See this WSJ article: Morgan Stanley Property Fund Faces $5.4 Billion Loss.
Not to be outdone by those "lesser" brands on Wall Street. Goldman Sachs lost nearly 100% of their clients money in a similar CRE fund. Reference this FT article: Goldman real estate fund down to $30m (they lost $1.76 billion, yes, that's a very big percentage loss).
These funds did very well during the boom, but when the obvious bust came (and I blogged about it in full detail, so no one could say they didn't see it coming), these funds crashed. Professional asset managers should know better. They are simply delivering leveraged market beta, not alpha. Investors are paying a fortune in fees to ride the mortgaged ups and downs of the real estate market.
Here's another tidbit of information. Some of the banks that sponsored these investment funds also helped arrange the financing of the buildings that the funds bought. Without discussing the wide implications of this potential and actual conflict of interest, it remains to be said that if the building goes underwater, the lenders (which were often the banks) were underwater on the deals as well. The banks were underwater obviously need to get out from under these securities. What's the easiest way to do that? Upgrade the sector and sell them to suckers, that's how...
As stated Reggie Middleton vs Goldman Sachs, part 1, For Those Who Chose Not To Heed My Warning About Buying Products From Name Brand Wall Street Banks, and “Blog vs. Broker, whom do you trust!”, Goldman's peddling of products often spells doom for the consumer (client) and bonus for the producer (Goldman). Goldman is now underwriting CMBS under a broad “buy” recommendation in the CRE REIT space reference Reggie Middleton Personally Contragulates Goldman, but Questions How Much More Can Be Pulled Off .Now, after all of the evidence that I have presented against the CRE space, who do you think would be better for clients net worth, Reggie's BoomBustBlog or Goldman?
As excerpted from "No One Can Say I Didn’t Warn Them About Goldman Sachs, Several Times…"
And in Bloomberg: Goldman Sachs Hands Clients Losses as Seven of Nine `Top’ Trade Ideas Flop Now there’s a big surprise! Listen, everybody makes mistakes, and no one is perfect (except for Goldman’s prop desk, but we’ll get to that point shortly). I will never criticize anyone for having a bad month, quarter or year. The thing is this is not about Goldman having a bad month, day or year, it is about their taking advantage of their clients. Excerpts from the afore-linked article:
May 19 (Bloomberg) — Goldman Sachs Group Inc. racked up trading profits for itself every day last quarter. Clients who followed the firm’s investment advice fared far worse.
Seven of the investment bank’s nine “recommended top trades for 2010” have been money losers for investors who adopted the New York-based firm’s advice, according to data compiled by Bloomberg from a Goldman Sachs research note sent yesterday. Clients who used the tips lost 14 percent buying the Polish zloty versus the Japanese yen, 9.4 percent buying Chinese stocks in Hong Kong and 9.8 percent trading the British pound against the New Zealand dollar.
…“This says that Goldman’s guys are only human,” said Axel Merk, who oversees $500 million as president and chief investment officer of Merk Investments LLC in Palo Alto, California. “No one is always right. There are a lot of cross currents in this market.”
This my dear friend, is what we in the industry refer to in technical parlance as BULLSHIT!!!! Goldman literally had a perfect trading quarter recently, with not one day losing money. Yes, the guys at Goldman are only human, but they are front running humans!
Let’s take a look at another big, marketing push they made into residential MBS a few years ago…
Apathy and the need to masochistally follow name brand investors is what enables this malarchy, and is what has allowed CRE prices to be artificially elevated this high for this long. Believe you me, reality will reassert itself and will do so in quite the destructive fashion. Again, For Those Who Chose Not To Heed My Warning About Buying Products From Name Brand Wall Street Banks, and “Blog vs. Broker, whom do you trust!”
Believe it or not, very few institutional investors are interested in seeing the mechanics of how they have been bilked to fund Wall Street bonuses. I have been very generous with the CRE analysis on BoomBustBlog, but there have been relatively few takers for custom analysis. For those institutional investors who actually care about making money, or at least not losing 91% of it, I suggest you go through the public version of the model designed to create the analysis above. You can download it here: Real estate fund illustration & Interactive model. For those with even more interest, you should download our 2010 CRE outlook: CRE 2010 Overview and our CRE consulting capabilities statement: CRE Consulting Capabilities. I must say, any client of mine would have been very hard pressed to lose 91% of their money in a Goldman or Morgan Stanley fund.
Well, the Wall Street Marketing Machine AKA "sell side research" is at it again. Just as I turn bearish on CRE for the second time (see Re: Commerical Real Estate and REITs - It's About That Time, again...), check out the "pump and dump job" from Merrill: Here's a Big Company Bailout by the Taxpayer That Even the Taxpayer's Missed!
It is my opinion that the CRE equities are back into bubble mode. Despite the fact that CRE is still in the crapper, with rising defaults, rising cap rates and falling rents and values; the equities of those companies (even the troubled ones) that invest in that very same troubled CRE are skyrocketing. Yes, even in the face of awful macro conditions. Why? Because many of them were able to (in cahoots with the very same banks that lost you all of that money) slough off their bad and underwater debts to unsuspecting equity investors. As a result, the bank issued buy ratings across the board. Of course, as soon as the analysts that issued those ratings left the banks, they nasty truth comes out.
The need to conserve cash, as explained above, stems directly and primarily from imprudently participating in bubble binging, and from a tertiary perspective, the dwindling refinancing market - of which would not be such a big deal if companies didn't overpay for, and overleverage properties in the first place. The solution? Team up with the Wall Street banks that gave you the imprudent loans that most should have known couldn't be paid back in an effort to shift the losses to the retail investor. This is a win -win situation for the banks that made the loans as well as for the REITs that took the loans. Here is the playbook (for illustrative purposes only, of course):
Step #1: Pump the stock - Reference the upgrades, and notice they happen to occur right before a secondary offering - From ZeroHedge: Merrill Lynch In Full REIT Upgrade Mode - The Sequel. Notice that the upgrades are made despite the fact that the CRE market is in total shambles with no near to medium term improvement in sight.
Step #2: Dump the stock: Again from ZeroHedge: Bank Of America Merrill Lynch Gets Paid To Pay Itself Back In Developers Diversified.
Today, Developers Diversified Realty announced it was issuing $300 million in senior notes, with lead underwriter "BofA Merrill Lynch"...
... The final deal terms were $300 million of 9.625% notes due March 2016, priced at 99.42% to yield 9.75%. The syndicate, primarily BofA ML will pocket $5 million in underwriting fees (oddly, less than the customary 3% for a HY offering - are companies starting to demand more bang for their buck?).
And the ever crucial Use of Proceeds? Why paying back Bank of America's 2010 maturing credit facility, as if there was ever any surprise. More specifically:
We intend to use the net proceeds of this offering to repay debt, including, without limitation, one or more of:
•·Borrowings under our $1.25 billion unsecured revolving credit facility maturing June 29, 2010 (with a one-year extension at our option subject to the satisfaction or waiver of customary closing conditions); as of June 30, 2009, total borrowings under our $1.25 billion unsecured revolving credit facility aggregated $1,169.5 million with a weighted average interest rate of 1.5%;
•·Borrowings under our $75 million unsecured revolving credit facility maturing June 29, 2010 (with a one-year extension at our option subject to the satisfaction or waiver of customary closing conditions); as of June 30, 2009, there were no amounts outstanding under our $75 million unsecured revolving credit facility;
•·A portion of our 4.625% Senior Notes due August 1, 2010; as of June 30, 2009, there was approximately $260.8 million aggregate principal amount of our 4.625% Senior Notes due August 1, 2010 outstanding; and
•·A portion of our 5.000% Senior Notes due May 3, 2010; as of June 30, 2009, there was approximately $193.6 million aggregate principal amount of our 5.000% Senior Notes due May 3, 2010 outstanding.
Not a bad deal: the company refinances BofA's 2010 bank facility, which has a 1.5% interest rate with a 2016 term piece of paper, paying 9.625%. Any way you look at it, it goes to show the "solid fundamentals" behind the sector, where the cost of extending a maturity is 6 times the current interest rate!
This excerpt was taken from the ZeroHedge posted linked above. What I think they missed was that the yield on the secondary was much less relevant than it appeared, since DDR was probably going to pay it in stock (that's right, that funny stock split cum dividend thing).
Step #3: Shift the tax liabilities upon those who you dumped the stock on... The last step in this new REIT game, after dumping the unpayable debt converted into follow-on offering stock is to push the fake dividends and shift the tax liabilities of said fake dividends from the entity that generated the liability on to the investor. Normally, if the cash is not paid out, the REIT would have to pay the taxes on it. Now the REIT can keep the cash, dilute the stock by offering the pump and dump secondary, then pass the tax liability off to the guys that were suckered into buying the stuff, most likely by sell side brokers and analysts - as was exemplified by the BofA Merrill Lynch excerpts above. If you feel as if I (actually, Zerohedge since they broke the story) am being a little hard on the Merrill guys, check out what their ex-REIT analyst head had to say as soon as he left the company - More from Zerohedge: Some Totally Unexpected REIT Lack Of Love From Merrill Lynch -
"From a financing standpoint things are far worse; from a fundamental standpoint things are certainly getting worse.".
As a matter of fact, this alleged "bait and switch" behavior was called out by ZeroHedge in an open letter to the SEC: Open Letter To The SEC Regarding Wall Street's REIT Bait-And-Switch:
Zero Hedge is well aware that our regulatory friends at the SEC and FINRA enjoy going through our articles in search of the "next big scam." We are always happy to make their lives a little easier and not only connect the dots but give them everything they need on a silver platter so that even a green securities lawyer, 4 hours fresh out of law school, would be able to comprehend and litigate.
A few weeks ago I caught on a troubling trend whereby Merrill Lynch/Bank of America embarked on an epic quest to underwrite equity follow on offerings for a vast majority of the lowest quality REITs including Kimco, ProLogis, Duke Realty and others. I say lowest quality, because Merrill's own analysts had a Sell rating on these names as recently as March 31 (for Kimco) and January 6 (for ProLogis). How the global economy has really changed for the better of REITs since then is still a mystery to me. But I digress.
I received emails about DDR's predicament (Diversified Development Realty Email of Interest), which makes sense, because Goldman Sachs is pushing CMBS secured by this company's malls (Reggie Middleton Personally Contragulates Goldman, but Questions How Much More Can Be Pulled Off), which of course had a AAA tranche (see more on this Goldman phenomena below). What a coincidence! If you think that is a coincidence, just as pressure starts to turn up on in the CRE space with a bad macro outlook and an even worse fundamental outlook, Goldman upgrades the entire sector and issues a buy on Taubman (see my take. The Taubman Properties Research is Now Available). Anyone want to bet that Goldman won't help these REITs trade bad debt for more bad debt or bad equities??? The following table summarizes the valuation of each property through NOI-based and CFAT-based approaches. Individual property valuations will be discussed in detail separately, and released to professional subscribers. Click to enlarge...
The two deep underwater properties - The Piers Shops at Caesars and Regency Square were written down to the fair value by recording impairment charge in 3Q09. While the former is being handed over to the lenders for auction proceedings, the latter still remains with the Company and the Company continues to service its debt obligations. Additionally, there are 5 more properties with LTV of more than 80%, making them highly susceptible to reach the negative equity territory in case of further declines in rentals or increase in cap rates.
Do you think they will have the gall, nerve, ability to push AAA financing for Macerich (A Granular Look Into a $6 Billion REIT: Is This the Next GGP?)?
Below is an excerpt of the full analysis that I am including in the updated Macerich forensic analysis. This sampling illustrates the damage done to equity upon the bursting of an credit binging bubble. Click any chart to enlarge (you may need to click the graphic again with your mouse to enlarge further).
Notice the loan to value ratios of the properties acquired between 2002 and 2007. What you see is the result of the CMBS bubble, with LTVs as high as 158%. At least 17 of the properties listed above with LTV's above 100% should (and probably will, in due time) be totally written off, for they have significant negative equity. We are talking about wiping out properties with an acquisition cost of nearly $3 BILLION, and we are just getting started for this ia very small sampling of the property analysis. There are dozens of additional properties with LTVs considerably above the high watermark for feasible refinancing, thus implying significant equity infusions needed to rollover debt and/or highly punitive refinancing rates. Now, if you recall my congratulatory post on Goldman Sachs (please see Reggie Middleton Personally Contragulates Goldman, but Questions How Much More Can Be Pulled Off), the WSJ reported that the market will now willingingly refinance mall portfolio properties 50% LTV, considerably down from the 70% LTV level that was seen in the heyday of this Asset Securitization Crisis. Even if we were to assume that we are still in the midst of the credit bubble and REITs can still refi at 70LTV (both assumptions patently wrong), rents, net operating income and cap rates have moved so far to the adverse direction that MAC STILL would not be able to rollover the debt in roughly 37 properties (31% of the portfolio) whose LTVs are above the 70% mark - and that's assuming the credit bubble returns and banks go all out on risk and CMBS trading. Rather wishful thinking, I believe we can all agree.
... As stated above, Goldman is now underwriting CMBS under a broad fund our $19 billion bonus pool "buy" recommendation in the CRE REIT space. Let's take a look at another big bonus development exercise, marketing push they made into MBS a few years ago...
Anyone wishing to discuss my CRE outlook further can easily reach me via this link.
Select (free) Commercial Real Estate Opinion and Analysis from the recent BoomBustBlog archives. A must read for those with interest in this space.
- The REIT Fundamental Performance vs Share Price Performance Heat Map is Available for Download Monday, January 11th, 2010
- Commercial Real Estate is Pretty Much Doing What We Expected It To Do, Returning to Reality Wednesday, May 19th, 2010
- Commercial Delinquencies Rise Again, Data Goes Ignored Monday, April 12th, 2010
- The Taubman Properties Q4-2009 Earnings Opinion: The CRE Trend Continues as Expected Thursday, February 11th, 2010
- Deflation, Inflation or Stagflation – You Be the Judge! Tuesday, January 12th, 2010
- Thoughts on Ackman’s GGP analysis and trade Tuesday, December 29th, 2009
- Wall Street is Back to Paying Big Bonuses. Are You Sharing in this New Found Prosperity? Tuesday, December 29th, 2009
- Doesn’t Morgan Stanley Read My Blog? Thursday, December 17th, 2009
- It Doesn’t Take a Genius to Figure Out How This Will End Thursday, December 31st, 2009
- Bad CRE, Rotten Home Loans, and the End of US Banking Prominence? Thursday, November 12th, 2009
We performed a fresh short scan of the US REITs arrived at a shortlist of 8 comps based on the following selection process –
• We retrieved initial list of 77 REITs in US with market cap of more than 200 million and share price of more than $15.
• We excluded 37 comps with increase over their 52 week lows at less than $10.
• We selected comps which were meeting either of following criteria –
o High leverage - Net Debt to Gross real estate investment more than 50% and net debt to EBITDA more than 7.5x
o Over-valuation - P/FFO in 2010 and 2011 more than 15x or EV/EBITDA in 2010 and 2011 more than 15x
Out of the selected comps, excluded 1 comp with negative net debt. Total comps selected in the step were 26.
• We selected top 16 comps with high leverage as well as those that are over-valued
We have shortlisted 8 REITs – 3 with high financial risk and 5 comps with relatively moderate financial risk but look overvalued. The comps are placed in order of preference for short candidates. The comps with high financial risk are highlighted in green and the overvalued comps are highlighted in orange (Professional and Instutional Subscribers only).
Non-subscribers can click here to subscribe and/or upgrade.