Magazine article Real Estate Issues

CRE Perspective: Where Do We Go from Here?

Magazine article Real Estate Issues

CRE Perspective: Where Do We Go from Here?

Article excerpt

Recently, many in our industry have asked the question: Is this the beginning of the end for the latest real estate up-market - or the end of the beginning?

Finding an answer, or more likely a "guesstimate," to that question, requires nothing less than a systematic approach to gathering information - followed by a dispassionate evaluation of the possibilities.

The following is a fairly straightforward evaluation to help you cut through the confusion and understand the basic dynamics of forces now at work in the marketplace.

First, a quick look at some basic macro economic factors should produce a logical prognostication. These include: the state of the economy; geo-demographics, the local regional and national dynamics of real estate markets and property sectors; the comparative health of overall capital markets; issues affecting the market for publicly-traded real estate securities; and outside influences such as the socioeconomic-political status in Asia.

The general feeling right now is that we will continue to have an exceptionally low rate of inflationand there is certainly no reason to believe that the U.S. economy is headed in a direction other than a soft landing. Currently, inflation is at a 1.3 percent annual rate, U.S. commodity prices have fallen because Asian demand for raw materials has fallen. Despite the changes in the world economy, the U.S. is still chugging along, albeit at a lower GDP rate than originally projected.

Given our current economic environment (a slower growth rate than projected), interest rates (although recently lowered twice), in my belief, are still about 100 basis points higher than they should be. As a result, we can probably expect to see additional rate decreases - which will again spur economic expansion as capital and carrying costs are reduced and corporate margins are increased. If you look at real interest rates (interest rate minus inflation), they are still high in relative terms, thus accounting for the premature expectation of future interest rate reductions.

No doubt the onus of a recession, and the precedent for a turn in fortunes, is out there as well. Remember when, just 10 years ago, the U.S. had a robust economy one year - and the beginning of a recession a year later? Commentators believe that although our economy is moving in the right direction, there is a chance of a recession as we enter the latter part of 1999 and the year 2000. Some on the other hand, see us gaining altitude in the year 2000 without even touching ground.

With its recent volatility, the stock market is not a good indicator of whether we will see a recession. The beginning of the Bear market in the U.S. - followed quickly by a recovery to almost all time highswas a result of a hint of global bad news, (first from Asia then to Mexico and Russia, and now even in Brazil), offset by positive U.S. economic news.

To their credit, however, stock prices have certainly been responsive to interest rate changes. The Fed's last Ik percent drop in interest rates, spurred a 500-point, four-day rally by the Dow Jones. Are we better off today than we were a year ago? One only needs to look at the Dow Jones just one year ago to see that we are still higher than that record breaking benchmark. Sustainability of recent gains is the key question.

Which brings us to the question of public real estate ownership, specifically real estate investment trusts. The REIT market -- and its health -- is a major factor going forward in how the real estate market operates. Predicting annual 20 percent increases in REIT stock prices year after year for the foreseeable future was, and is, overly optimistic. We cannot realistically expect to have a repeat of the 36 percent increase in REIT prices in 1996 and the 20 percent rise we saw in 1997. REITs follow the stock market and there is some correlation between stock market advances and declines and the value of REIT stocks. …

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