"Clearly, the sense of gloom that prevailed a year ago has eased, property values no longer seem to be in a freefall, and market participants are feeling more confident. Some are even saying we may finally be at or near the bottom of the commercial real estate downturn, which would mark the beginning of the road back to recovery. But, while sentiment is up, that's not to say things are 'good.' Refinancing remains difficult for many, and defaults are still rising, which means more pain ahead," said Roundtable President and CEO Jeffrey DeBoer.
Although it is difficult to gauge property values definitively at a time when very few buildings are changing hands — transaction volume is down 80 to 90 percent since 2007 — estimated values are down by as much as 40 or even 50 percent in some markets and segments. In a sign that values may be leveling off (albeit at low levels), only 28 percent of those polled perceived asset prices today as lower than they were a year ago — compared with 57 percent in the previous quarter. Correspondingly, 46 percent said valuations today are better than a year ago, compared with only 22% in Q1.
Looking ahead, 56 percent expect valuations to be "somewhat higher" a year from now and 35 percent expect them to remain "about the same" — compared to 42 and 35 percent, respectively, in the previous survey. The percentage who expect values to be "somewhat lower" in a year dropped from 19 percent last quarter to 6 percent in the latest survey.
Despite these encouraging signs, the sharp devaluation of commercial properties over the past 18 months has left many owners with vastly reduced equity — just as lenders have been demanding larger down payments in order to refinance maturing loans. [This devaluation was caused in part by a sudden lack of financing — a casualty of the subprime mortgage crisis that erupted in mid-2007 — but also by falling net operating income (NOI) tied to rising vacancy levels and unemployment.]
Joint Economic Committee Chair Carolyn Maloney (D-NY) warned last summer that, if commercial real estate borrowers cannot refinance or pay off the hundreds of billions of dollars in debt coming due, "We could expect to see the default rate on commercial mortgages climb much higher." More recently, the chair of the Congressional Oversight Panel (COP), Elizabeth Warren, stated that "about half of all commercial real estate loans will be under water by the end of this year." The panel's February 10 report expressed concern that loan losses could jeopardize the stability of many banks, and that a "significant wave of commercial mortgage defaults would trigger economic damage that could touch the lives of nearly every American."
In another important metric, the Q2 survey shows "signs of life" in the debt and capital markets, although numerous respondents qualified their statements by saying improved availability is limited to certain parts of the market or types of properties (e.g., with positive cash flows). Of the 65% who said debt capital is more available today than one year ago, 27 percent characterized availability as "much better." By contrast, only 19 percent of Q1 survey participants felt conditions were "much better" than one year earlier.
On the equity side, 76% said availability is better than one year ago (with 26% characterizing it as "much better"). However, the number of respondents predicting conditions will be better "one year from today" declined from 75% in Q1 to 66% in Q2, with a corresponding increase in the number who expect equity availability to remain "about the same."
"What's needed now is robust job creation; more equity; and a restoration of secondary market functioning so that can banks can clear their balance sheets of toxic assets and begin lending again to credit-worthy borrowers," DeBoer concluded.
