Commercial Real Estate Time Bomb Ticking for REITs

We are on a unstoppable trajectory toward higher foreclosures and exploding delinquency levels that haven't been seen in decades. The change over the last few months has been startling. The east coast states hold many of the top positions with Rhode Island leading the list during the past few months.

We have seen the 90 day+ delinquency rate for properties go from a weighted average of 0.09% in May of 2007 and then to 0.25% in May 2008. Now we are seeing it approaching 1%. But the problem is really with the worst areas such as we see below.

Commercial Real Estate Delinquencies as of 4/2009)

1. Rhode Island 3.58%
2. Montana 2.65%
3. Florida 2.48%
4. Indiana 2.45%
5. South Carolina 2.38%
6. Arizona 2.32%
7. Michigan 2.10%
8. Nevada 2.04%
9. Tennessee 2.02%
10. Hawaii 1.78%

The foreclosure rates are also moving higher as states like Michigan, Nevada and Georgia are all approaching 1% this month.

(Click to Enlarge)

The concern is that while the percentages may seem small, they are growing exponentially. For example, the weighted average foreclosures are up 20% from March to April and there has been an increase of 10% for those newly late in payment by 30 days and that is up by 25% since the beginning of 2009.

Companies we are watching…. (P/E ratios are there for informational purposes as they are not the best to use for valuing REITS)

Click to enlarge:

Comments

[sr9web:]

Excellent post

Apr 17 10:04 AM

[Mad Hedge F...:]

Totally. George Soros says that it is “inevitable” that commercial real estate falls another 30%. Rents are falling, tenant bankruptcies are rising, there is tons of debt to be refinanced for which there is no market, so cap rates are rocketing and “ghost mall” has joined the recessionary lexicon. This all adds up to lower prices. Some credit default swaps are trading at levels suggesting that a major REIT bankruptcy is imminent. I know George is sometimes prone to extreme statements, but this time he may be on to something. If you want a short play, or if you have an existing long position in commercial real estate which you can’t get out of and want to hedge, try a short position in the (IYR), although it has already dropped from $85 to $21. You can also play one of the sicker REIT names like Brookfield Properties (BPO).

Apr 17 11:38 AM

[User 397098:]

Don't forget the SRS . I LUV THE SRS BIG WEEK COMING . C and GS running reits on low volume . THEIR DAY HAS COME .

Apr 17 09:48 PM

[nukldrager:]

Thanks


On Apr 17 11:38 AM Mad Hedge Fund Trader wrote:

> Totally. George Soros says that it is “inevitable” that commercial
> real estate falls another 30%. Rents are falling, tenant bankruptcies
> are rising, there is tons of debt to be refinanced for which there
> is no market, so cap rates are rocketing and “ghost mall” has joined
> the recessionary lexicon. This all adds up to lower prices. Some
> credit default swaps are trading at levels suggesting that a major
> REIT bankruptcy is imminent. I know George is sometimes prone to
> extreme statements, but this time he may be on to something. If you
> want a short play, or if you have an existing long position in commercial
> real estate which you can’t get out of and want to hedge, try a short
> position in the (seekingalpha.com/symbo...), although it
> has already dropped from $85 to $21. You can also play one of the
> sicker REIT names like Brookfield Properties (seekingalpha.com/symbo...).
>
>

Apr 18 09:51 AM

[Linda Jones:]

Suggest using ETF's instead of shorting because your risk is limited to the amount invested in the ETF. Agree with above comments and
SRS could be an interesting trade here. Also could look at buying puts on BPO to limit risk.

Apr 18 11:42 AM

[davidbdc:]

REITs are already down more than 50% across the board and many are down 80%+.....its a little late in the game to start shorting.

Those REIT's that were buying properties in the past 5 years will have trouble and some others will end up in BK. But many are going to work their way through their problems and investors will be well rewarded for the risk.

RPT, PEI, CBL, SHO, are all good risk/reward investments. Is there a lot of risk? yes.....is there a lot of reward? IMO yes.

And what is Buffet's saying - be fearful when others are greedy, and be greedy when others are fearful.....well REIT FEAR is everywhere today - newspapers, MSNBC, blogs, etc. Must be time to buy!!!

Apr 18 02:52 PM

[Fighting Yoda:]

In addition to foreclosures, the bigger problem for REITS is refinancing - with the current credit situation - they are unable to refinance. GGP went under due to that.

Apr 18 06:32 PM

[Allan Frain:]

"REITs are already down more than 50% across the board and many are down 80%+.....its a little late in the game to start shorting."

The P/E ratios are far too high in the face of so likely the eve of a CRE crisis. As to where they were:

1) It doesn't matter where the were
2) where they were was at the epicenter of the bubble
3) they still can go down 100% from here

Apr 18 07:10 PM

[William Cowie:]

One interesting note: malls with movie theaters as anchors are not doing as bad. Guess people still go to watch movies. There's a REIT based in Kansas City, the name of which escapes me (hey, it will happen to you, too, when you get my age!) that, last time I checked, was doing surprisingly well. I came close to buying some of their pref. shares, but opted instead for hotel REIT's AHT, LHO and (for a little higher risk) FCH. The pref shares have a great dividend yield (over 20% a month ago when I bought) and considerable upside potential.

Apr 18 09:30 PM

[whidbey:]

Commercial RE and Credit Card debt are both in play and no one has the bucks to float this load to safety.

The banks, e.g.,BAC, have started trying to secure the Credit Cards with added trans costs, but they are late, and liars too.

They knew the stuff had hit the fan 90 days ago, but they want to spread the bad new out. You know suck the market in "we are not all just lovely faces, we are liars too". God, and on Sunday too.

Apr 19 08:27 PM

[johnthebears:]

Thanks for your charts and analysis. I agree that SRS $27.50 is due to explode as IYR falls back to $20.

Apr 19 11:43 PM

[charliezap:]

This is a quite useless and misleading article.

1. Not one of the five numeric columns in the tabulation is of any use in assessing whether to buy sell or hold any of the listed REIT's. In real estate, EPS and PE are not useful, as they are based on earnings after the deduction of accounting (book accounting, not even tax accounting). The non-cash accounting depreciation number has absolutely no relation to market appreciation of the building (or market depreciation as we have now). FFO (Funds From Operations) and FFO/Price are far more meaningful, as FFO shows the cash flow available to cover debt payments and to pay dividends (REIT's are normally required to pay dividends of at least 90% of taxable income in order to maintain a REIT's non-tax-paying status). The tabulation would have been helpful it it had columns for FFO/Share, FFO/Price and Debt Coverage Ratio.

2. The commercial mortgage refinancing "problem" lies more with privately held real estate, including private equity firms and pension funds, than with publicly traded REIT's, such as the stocks listed in the table. It was mostly private real estate that paid excessively high prices for buildings during the past few years while taking on short-term (2-4 year maturities) debt with variable rate interest. A few REIT's, such as General Growth (GGP), made major new acquisitions this way, but they are the exception rather than the rule. The article would have been useful if it had examined the debt structure and maturity schedules of the REIT's in the table.

3. After the S&L debacle, of the early 1990's, many privately held real estate operators went public as REIT's in order to raise capital and pay down debt. Most of these REIT's adopted conservative debt policies, keeping debt to less than 50% of total market capitalization (debt + equity). A few may have strayed from these guidelines, but, again, they are the exception rather than the rule.

4. Most REIT's are now priced well below NAV (Net Asset Vaue, based on the reduced market values of the properties. Before the October-November 2008 bust, most were priced in excess of inflated NAV's. Simon Properties (SPG, largest mall operator), for example, declined from a high price over $120 at the beginning of 2008, to near $22 recently. It has subsequently rallied to near $43, after refinancing some of its debt by issuing new stock and bonds. Citigroup has a Buy on SPG and estimates FFO for 2009 at $6.02 and put 12/31/08 NAV at $73

Apr 21 11:40 AM

[charliezap:]

I should also add that the looming problem is a bigger one for the banks than for conservatively-financed, publicly-traded REIT's, especially as some of the commercial mortgages are non-recourse. And many of these non-recourse notes were packages into CMO's, so who knows where they ended up!


On Apr 21 11:40 AM charliezap wrote:

> This is a quite useless and misleading article.
>
> 1. Not one of the five numeric columns in the tabulation is of any
> use in assessing whether to buy sell or hold any of the listed REIT's.
> In real estate, EPS and PE are not useful, as they are based on earnings
> after the deduction of accounting (book accounting, not even tax
> accounting). The non-cash accounting depreciation number has absolutely
> no relation to market appreciation of the building (or market depreciation
> as we have now). FFO (Funds From Operations) and FFO/Price are far
> more meaningful, as FFO shows the cash flow available to cover debt
> payments and to pay dividends (REIT's are normally required to pay
> dividends of at least 90% of taxable income in order to maintain
> a REIT's non-tax-paying status). The tabulation would have been
> helpful it it had columns for FFO/Share, FFO/Price and Debt Coverage
> Ratio.
>
> 2. The commercial mortgage refinancing "problem" lies more with
> privately held real estate, including private equity firms and pension
> funds, than with publicly traded REIT's, such as the stocks listed
> in the table. It was mostly private real estate that paid excessively
> high prices for buildings during the past few years while taking
> on short-term (2-4 year maturities) debt with variable rate interest.
> A few REIT's, such as General Growth (seekingalpha.com/symbo...),
> made major new acquisitions this way, but they are the exception
> rather than the rule. The article would have been useful if it had
> examined the debt structure and maturity schedules of the REIT's
> in the table.
>
> 3. After the S&L debacle, of the early 1990's, many privately
> held real estate operators went public as REIT's in order to raise
> capital and pay down debt. Most of these REIT's adopted conservative
> debt policies, keeping debt to less than 50% of total market capitalization
> (debt + equity). A few may have strayed from these guidelines, but,
> again, they are the exception rather than the rule.
>
> 4. Most REIT's are now priced well below NAV (Net Asset Vaue, based
> on the reduced market values of the properties. Before the October-November
> 2008 bust, most were priced in excess of inflated NAV's. Simon Properties
> (SPG, largest mall operator), for example, declined from a high price
> over $120 at the beginning of 2008, to near $22 recently. It has
> subsequently rallied to near $43, after refinancing some of its debt
> by issuing new stock and bonds. Citigroup has a Buy on SPG and estimates
> FFO for 2009 at $6.02 and put 12/31/08 NAV at $73

Apr 21 11:49 AM

[On Going Co...:]

Fighting Yoda has the a great point. Cap rates that lenders are using today are drastically higher than in the past three years. With higher cap rates higher, these properties can not support the inflated values that they were originally financed.

On Apr 18 06:32 PM Fighting Yoda wrote:

> In addition to foreclosures, the bigger problem for REITS is refinancing
> - with the current credit situation - they are unable to refinance.
> GGP went under due to that.
>

May 21 12:50 PM

[Incae:]

anybody have debt/capital ratios>? which are shortable?


On May 21 12:50 PM On Going Concern wrote:

> Fighting Yoda has the a great point. Cap rates that lenders are using
> today are drastically higher than in the past three years. With higher
> cap rates higher, these properties can not support the inflated values
> that they were originally financed.
>
> On Apr 18 06:32 PM Fighting Yoda wrote:

Jun 21 11:40 AM