Money and Markets: Investing Insights

Is a New Real Estate Crisis Looming?

Mike Larson | Friday, January 29, 2016 at 7:30 am

The real estate crash that began in 2006 is one of the most painful economic crises this nation has ever faced. Housing collapsed first, followed by commercial real estate — and the financial system was pushed to the brink of a full-scale meltdown.
I’m very glad I warned readers of the Safe Money Report well in advance of that crisis, and helped them avoid the crushing fallout. Now, I’m worried we could be facing yet another day of reckoning.
In a nutshell, too much cheap, easy money has flooded into the commercial real estate (CRE) market. That has pushed valuations to astronomical highs, property yields to rock-bottom lows, and CRE lending to dangerously aggressive levels. As the credit cycle turns and easy money drains back out, investors who overextended themselves in the sector are going to get hammered.

Too much cheap, easy money has flooded into the commercial real estate market.

We’re also going to see additional, potentially very hefty losses among banks with too much exposure to CRE. That will put additional stress on a sector that’s already struggling, not to mention the markets as a whole. Regulators are so worried, they warned the entire banking industry in December to back off and take steps to insulate themselves from future losses.
What’s behind these concerns? Just consider the following:
* A benchmark commercial property index rose 10% in value last year — even as junk bonds tanked, credit indices tightened up significantly, and many sectors of the stock market struggled. Can that divergence really persist for long? I’m skeptical.
* CRE values are so inflated, they have now eclipsed the credit mania peak from 2007 by around 16%. Select, high-profile properties in major metropolitan markets like New York City are as much as 60% more expensive now than they were back then. If the economy is slowing, it will drive vacancy rates higher, rent growth lower, and make those valuations look patently ridiculous.
* CRE transaction volume surged 26% last year to $546 billion. That’s just shy of the 2007 credit mania peak. M&A among publicly traded Real Estate Investment Trusts (REITs) more than doubled between 2014 and 2015 — hitting a record high. We all know what happened after 2007 in real estate, so this M&A/purchase mania is another red flag.
Lastly, foreign capital and sovereign wealth fund money dog-piled into CRE in the past 12-18 months. I hate to say it, but foreign money has a history of being “dumb money” in real estate. You probably remember how Japanese buyers overpaid for real estate in California, New York, and elsewhere in the late 1980s and early 1990s … then took a huge bath when that bubble popped.
With commodities, foreign currencies, and foreign economies slumping, today’s foreign buyers are going to have less capital and fewer reserves to commit to future purchases. Some will have to liquidate, and the pressure will only grow the weaker the global economic picture gets.
So keep a close eye on REIT shares, and the underlying CRE market. I believe this could be the next major market story — and that there will be steps you can take to both protect your wealth and to profit from the trend.
Until next time,
Mike Larson
P.S. Kathy Lien and Boris Schlossberg have prepared a special three-part presentation. Its called “Three Shocking Forecasts for 2016.”
The three presentations will be hosted by Larry Edelson, Mike Burnick and yours truly!
It contains vital information to help make 2016 a very profitable year.
Click this link to get all the information, and to register.

Mike Larson graduated from Boston University with a B.S. degree in Journalism and a B.A. degree in English in 1998, and went to work for Bankrate.com. There, he learned the mortgage and interest rates markets inside and out. Mike then joined Weiss Research in 2001. He is the editor of Safe Money Report. He is often quoted by the Washington Post, Reuters, Dow Jones Newswires, Orlando Sentinel, Palm Beach Post and Sun-Sentinel, and he has appeared on CNN, Bloomberg Television and CNBC.

The investment strategy and opinions expressed in this article are those of the author and do not necessarily reflect those of any other editor at Weiss Research or the company as a whole.