Tuesday, October 28, 2008

SL Green on CRE

by Bill McBride on 10/28/2008 03:09:00 PM

From the SL Green conference call today (SL Green is a REIT focusing on commercial office and retail properties):

Analyst: Based on your estimation, when should we expect some of the [distressed property] to potentially start to enter the market?

SL Green: I think you'll certainly see more in 2009 than we did in 2008 as interest reserves run short. And then the real forced selling to the extent that there's not a replacement debt market and to the extent, depending on where cap rates shake out will be in '10, '11 as you start getting floating rate maturities. There are unlikely to be a lot of final maturities next year without extension options. But we'll see the stress where people burn their interest reserves and don't come up with cash.

Analyst: In the last few leases that you've actually signed, if you were to do those deals or look at those same deals a year ago, how far off are the economics on the deals you just signed versus what they would have been say at the peak on a percentage basis.

SL Green: They are probably down 10% on nominal rent with slightly bigger concession packages than we would have offered a year ago. So I think squarely within the ten to 15 that we've been referencing in the past. Some less, not many more. Not many more on a net [effective] basis ... we do costs dozens and dozens of leases per quarter it's hard to generalize but I think we've been taking most of those rents down by 10% what have we would have gotten earlier in the year.
The CRE version of stated income loans involved lending on overly optimistic pro forma income projections (aka wishful thinking), and the NegAM feature was called "interest reserves".

Just last month, chief economist at REIS, Sam Chandan noted:
"Even a modest slowdown, as we have already observed in the New York market, confutes the underwriting assumptions that prevailed in the period leading up to the last year's investment peak."
And Michael Slocum, executive vice president at Capital One Bank, added:
"The key issue is what happens to the overleveraged properties purchased and financed in the past three years. In many cases, the financial projects were based on rising rents and debt markets remaining stable. Many of the loans required the borrowers to provide interest reserves, but they will likely exhaust over the 2009-2010 time frame." ... "It always comes back to cash flow on commercial real estate. Properties financed on true cash flow should be fine."
At least everyone sees the problem coming!