by Calculated Risk on 10/07/2009 11:52:00 AM

Hotel investment has always been boom and bust, but the most recent boom was off the charts ...

Click on graph for larger image in new window.

This graph shows lodging investment as a percent of GDP since 1959 through Q2 2009.

Lodging investment peaked in mid-2008, but because of the length of time for hotel construction, there are many new hotels still coming online - at just the wrong time.

From the LA Times: Hotel defaults, foreclosures rise in California (ht Ann)

... Statewide, more than 300 hotels were in foreclosure or default on their loans as of Sept. 30 -- a nearly fivefold increase since the start of the year, according to an industry report released Tuesday.
...
Most struggling hotels remain open, but industry experts believe many properties are likely to be closed down in the months ahead, even if they are not in foreclosure, because they are losing so much money. ...

"I have never seen so many lenders contemplating mothballing properties," said Jim Butler, a hotel lawyer and chairman of the global hospitality group for Jeffer, Mangels, Butler & Marmaro. "It can and it will get worse for the hotel industry."
...
Statewide, 260 hotels were in default on their loans and 47 had been taken over by their lenders in foreclosure, the Atlas report said.

... a leading hotel consulting firm, Smith Travel Research, recently issued a report that predicted no significant improvement for the hotel industry until 2011 at the earliest.

"It's going to be a lot worse than it is now," said Bobby Bowers, senior vice president of Smith Travel Research.

... an increasing number of hotels have so little revenue that they can't even afford to pay their operating bills and payroll, not to mention servicing debt.

Owners of such hotels are increasingly handing the keys back to the lenders, and the problem is likely to get worse: As many as 1 in 5 U.S. hotel loans may default through 2010, UC Berkeley economist Kenneth Rosen said.

In some cases the lenders are simply locking up the properties...
emphasis added

Not only is the recession impacting business and leisure travel, but there are just too many hotel rooms, and many more on the way.

by Calculated Risk on 10/07/2009 10:31:00 AM

Last night Reis reported that the U.S. office vacancy rate hits 16.5 percent in Q3. (See Reis: U.S. Office Vacancy Rate Hits 16.5% in Q3 for a graph).

Click on graph for larger image in new window.

This graph shows the office vacancy rate vs. the quarterly unemployment rate and recessions.

The unemployment rate and the office vacancy rate tend to move in the same direction - and the peaks and troughs mostly line up.

As the unemployment rate continues to rise over the next year or more, the office vacancy rate will probably rise too. Reis' forecast is for the office vacancy rate to peak at 18.2 percent in 2010, and for rents to continue to decline through 2011.

One of the questions is why - with a 9.8% unemployment rate in September - the office vacancy rate isn't even higher? This is probably because of less overbuilding, as compared to the S&L related overbuilding in the '80s, and the tech bubble overbuilding a few years ago. Also a number of non-office workers (construction and retail workers) have lost their jobs in the current employment recession.

The second graph shows office investment as a percent of GDP since 1959 through Q2 2009.

Office investment peaked in Q3 2008, and with the office vacancy rate rising sharply, office investment will probably decline at least through 2010.

Of course many existing office buildings were purchased in recent years at very low cap rates, with excessive leverage, and optimistic income projections. Now that prices have fallen sharply, many of these building owners are far underwater - and that will lead to more losses for lenders. See the WSJ: Fed Frets About Commercial Real Estate

by Calculated Risk on 10/07/2009 09:21:00 AM

From Catherine Rampell at the NY Times: Support Builds for Tax Credit to Help Hiring

... a tax credit for companies that create new jobs ... is gaining support among economists and Washington officials ...

Timothy J. Bartik, a senior economist at the Upjohn Institute for Employment Research who is working on the draft with John H. Bishop of Cornell, estimates that it would cost about $20,000 for each job created.
...
Under the proposal from Mr. Bartik and Mr. Bishop, the credit in the first year would equal 15.3 percent of the cost of adding an employee. In the second year, it would fall to about 10.2 percent.
...
The authors estimate their proposal could create more than two million jobs in the first year.
...
Of course, even in recessionary times, some companies are hiring without tax breaks. So a subsidy could merely benefit those businesses that already would have added new workers.

An American Economic Review study has suggested that the 1970s policy was responsible for adding about 700,000 of the 2.1 million jobs that were awarded the credit.
...
Advocates argue that such incentives would be more effective this time around not only because of design, but also because of timing. In 1977, hiring was already on the upswing, whereas economists expect today’s job market to decline a bit more and then stagnate for months.

The timing is probably better than in 1977 when employment was already recovering. If the 1970s estimate is accurate (about 2/3 of the jobs would have been created anyway), this proposal is already much better targeted than the housing tax credit, and better for the economy and the housing market too.

A key problem for housing and the economy is that there are too many housing units compared to the number of households. This proposal will indirectly stimulate more household formation - more jobs will create more households - and more households is the key to the housing market and the economy.

by Calculated Risk on 10/07/2009 01:11:00 AM

Click on graph for larger image in new window.

This graph shows the office vacancy rate starting 1991.

Reis is reporting the vacancy rate rose to 16.5% in Q3 from 15.9% in Q2. The peak following the previous recession was 17%.

From Bloomberg: U.S. Office Vacancies Reach Five-Year High of 16.5%, Reis Says

U.S. office vacancies ... climbed to 16.5 percent ... New York-based Reis said in a report. Effective rents ... fell 8.5 percent, the biggest year-over-year drop since 1995.

“The decline in effective rents really accelerated after the fall of Lehman Brothers,” Victor Calanog, director of research at Reis, said in a statement. “Tenants will continue shedding occupied space as jobs are lost.”
...
“Weakness in rents is not concentrated in just a few” cities, Calanog said.

Earlier this year Reis forecast that the U.S. office vacancy rate will top out at 18.2 percent in 2010, and that rents will continue to decline through 2011.

No wonder the Fed is so worried (previous post).

by Calculated Risk on 10/06/2009 10:07:00 PM

From the WSJ: Fed Frets About Commercial Real Estate

Banks in the U.S. "are slow" to take losses on their commercial real-estate loans being battered by slumping property values and rental payments, according to a Federal Reserve presentation to banking regulators last month.

.... "Banks will be slow to recognize the severity of the loss -- just as they were in residential," according to the Fed presentation, which was reviewed by The Wall Street Journal.

A Fed official confirmed the authenticity of the document, prepared by an Atlanta Fed real-estate expert who is part of the central bank's Rapid Response program to spread information about emerging problem areas to federal and state banking examiners throughout the U.S.

While the Sept. 29 presentation by K.C. Conway doesn't represent the central bank's formal opinion, worries about the banking industry's commercial real-estate exposure have been building inside the Fed for months. ...

Mr. Conway's presentation painted a bleak picture of the sliding real-estate values and enormous debt that will need to be refinanced in the next few years. Vacancy rates in the apartment, retail and warehouse sectors already have exceeded those seen during the real-estate collapse of the early 1990s, Mr. Conway noted. His report also predicted that commercial real-estate losses would reach roughly 45% next year. Valuing real estate has always been tricky for banks, and the problem is particularly acute now because sales activity is practically nonexistent.
...
More than half of the $3.4 trillion in outstanding commercial real-estate debt is held by banks.

There is much more in the article, including a discussion on interest reserves masking bad loans (something we've been discussing for a few years) and "extend and pretend". Hey, hoocoodanode!

Note: REIS reported today that the apartment vacancy rate in cities hit a 23 year high: From Reuters: US apartment vacancy rate hits 23-year high-report and other CRE categories are also seeing rapidly rising vacancies and falling rents.