Dan Fasulo

Capital Synergies podcast with Mr. Dan Fasulo, Director of Market Research for Real Capital Analytics and guest host, Mr. Michael Green, Principal and co-founder of Virtu Investments.

In this interview, Mike and Dan speak candidly about the current market slowdown and the challenges facing commercial real estate investors today.


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DARBI: Hello, this is Darbi Worley your host for the "Capital Synergies" talk show for commercial real estate investors. Capital Synergies is brought to you by Steelhead Capital, your commercial loan advantage.

Today we have with us Mr. Dan Fasulo, Managing Director of Research for Real Capital Analytics. Leading the interview will be Mr. Michael Green, Principal and co-founder of Virtu Investments.

(fade music)

MIKE: Hi, Dan. Welcome to the show.

DAN: Oh, glad to be here.

MIKE: You know, interesting times we’re in these days. I think a lot of the listeners will be interested to hear your take on...on this market. I think sometimes in real estate things move so slowly, and...and lately, it kind of feels like we’re in...we’re in the stock market with real estate.

DAN: Yeah. There’s no question that, you know, sales activity has really fallen off a cliff, you know, over the past 6 to 12 months, and we’re actually running at that level that we haven’t seen since 2004. The second quarter of 2008, we’re looking at about 35 billion dollars worth of sales transactions that Real Capital has tracked, and the last time we’ve seen numbers this low are back in the first quarter of 2004.

MIKE: Unbelievable. Obviously, we’re seeing a result of both the available equity coming into deals slow down and sit on the sidelines and be more cautious, but also the availability of debt, particularly CMBS, given that that’s had such a tremendous impact on rising values, how much downside do you see in real estate values in the United States, given that credits are not available right now?

DAN: We supply data to Moody’s, create the Moody’s real commercial property prices index, and, you know, this massive liquidity of debt that came into our markets through CMBS really apexed at the end of 2006 into early 2007, where, you know, it’s basically a free-for-all. Anybody purchasing a property could get that financed by the CMBS market. And if you look at the index...the pricing index, it shows a pretty clear 10 to 15% price spike over that period, between the end of 2006 and mid-year 2007. So, you know, we feel that that...that 15% froth, if you will, on the market has kind of been wiped out, and, you know, if you look at some of the price points coming in on the deals that are actually happening...

MIKE: They’re proving that out?

DAN: Yeah, pretty much across the board, especially in, you know... they are more global markets on the coasts. It’s a little different story for certain property niches and types; anything that has a value-add component to it is really getting discounted heavily because the banks don’t want anything to do with future income anymore. They’re very much focused on, as you know, on what the in-place income is and, you know, whether a property has a really good story to it.

MIKE: Yeah, we’re seeing a lot of that...the old days of recourse lending is back, you know, and we were able to accomplish a lot of our value-add place, you know, with non-recourse financing over the last three years, and that’s pretty much gone out of the window since. So...

DAN: That game is over.

MIKE: Yeah, sort of back to the old business of going to your local bank and asking them to fill... if they’ll back you on a certain asset—and even they are more cautious because their balance sheets have been affected largely by a...you know, a lot of the single-family residential development-type deals that they’re...they’re involved in, and they’re having a mark to market and it’s just turning their balance sheets upside down.

DAN: Well, I’ll tell you what has kept the market afloat over the last six months have been the ability of, you know, the local and regional banks to loan to the commercial real estate markets. And, you know, this group had a lot of pent-up demand because they were shut out and getting outbid by the CMBS conduits...

MIKE: Sure.

DAN: ... for, you know, a few years. But we’re hearing anecdotally from many of our clients that many of those community and regional banks are not only under pressure from the Fed to make sure that liquidity is in good shape, but we’re hearing that many are hitting their...their entire 2008 allocations; they’re starting to hit them already and we’re only here in July. So...

MIKE: Yeah, I’m sure the Feds don’t want to see, you know, a repeat of the SNL crisis. So, they’re focused on that, trying to chew up all these, you know...all these guys that were...were selling CMBS bonds, but also making sure that the...that the banks don’t start going under.

DAN: Well, you know, I think the other question about different property types and what’s performing better than others, if any. Once, I was reading your questions over the past couple of days, I was going to mention multi-family, you know, apartment sales, which have held up relatively well compared to the other property types, because of the availability of the agencies financing...

MIKE: Yeah.

DAN: ... Freddie and Fannie, but now with the report that came out this morning and, you know, possible liquidity troubles...

MIKE: I know that Fannie and Freddie’s stock has been under a lot of pressure over the last few days, but I didn’t see the report this morning. What’s the latest news?

DAN: Well, there was a report that came out at Wall Street this morning that’s basically questioning their liquidity.

MIKE: Their solvency, huh?

DAN: And whether they would need to raise capital to go forward. You know,, obviously we know that there’s a kind of implied government backstop there, but, you know, they’re certainly going to be under a lot of pressure as far as putting additional capital out to the market, which is kind of in their mandate; help build the dearth of capital that disappeared with the CMBS

MIKE: Sure, being an apartment investor primarily, you know, we do feel like we’re in the place to be right now given that the fundamentals, the actual operating fundamentals, of the business are strong because we’re seeing a lot of people come back out of homeownership back into apartments, and yet the cost of construction and the financing available for constructions limiting supply, so... you know, our portfolio is as healthy as it’s ever been and just, you know, kicking off good cash; fortunately, most of it has permanent financing, it’s just where we are trying to execute on any type of new acquisition or any kind of sale where we’re seeing the market just stagnate because of, you know, lack of financing available and where it is available; as you point out, it’s in the Freddie and Fannie world, and I’ll tell you, if something was to happen there, we would see an absolute grinding halt to the business.

DAN: Yeah, it’s certainly pretty troubling. And, you know, I was watching CNBC this morning and they said—actually, the...President Bush assembled a team to kind of, you know, review the agencies and what their actual position is.

MIKE: Right.

DAN: I’m definitely going to keep a good watch on that.

MIKE: Keep a close eye on that, sure.

DAN: I think you had an interesting point in there. Something that hasn’t been really out there and highlighted as much as I think it should, and that’s how hard new development got hit by the credit crunch. You know, certainly development activity has always been seen as kind of the riskiest way for...for lenders to enter the commercial real estate base, and, you know, unless you’re a very established developer with a huge track record and a project that’s in the perfect location, it’s very difficult to get debt right now, and then you throw on the rise in construction costs and, you know, this is going to have a tremendous affect on limiting supply...

MIKE: Right.

DAN: (...) which, in many markets, is already pretty tight. And so that’s one of the biggest factors that’s keeping me bullish over the, you know, next two to four years, that there’s going to be a huge wave of supply coming in on the commercial side.

MIKE: You know, I was...you know, it’s so interesting to be, you know, in a cycle that isn’t driven by the supply-demand fundamentals. Usually, we see our real estate corrections, you know, occurring on the operational side when supply exceeds demand, and in this case, we’re seeing it, you know...it’s occurring on the...on the capital side, and largely as it relates to the original subprime meltdown is now, you know, tripled into our business and constrained credit to such degree that, you know, our values are dropping, not because of supply-demand fundamentals but because of the availability of credit. It’s...and I don’t, you know...I remember suffering a little bit of this in the late 90’s with the Russian crisis, but that only lasted, you know, six months. Do you have any idea? I mean, are you guys looking out and seeing it improve any time in the near future?

DAN: Well, you know, I think we really need to get the CMBS market jumpstarted again, and, you know, we’re all pretty confident that it’s going to come back, it’s just the question of when and in what format. I think we’re going to start to see some new issues trickling in the fall, and I’m hoping we get back to, you know, a more normalized situation in the middle of next year. But I think when it does come back, it’s going to look a lot more like it did when the industry was just going to go: you know, very conservative, under-riding LTV, and actually makes sense to a lay person.

MIKE: Sure. Real solid coverage levels, subordination levels for triple B’s that all of a sudden make sense.

DAN: I’ll tell you, you know, we have a very talented group of analysts here at Real Capital Analytics, and they’re all real estate people. And some of the CMBS issues got too confusing even for my real estate analysts, and that can never be a good sign.

MIKE: No. I was actually talking to someone the other day about how it might reinvent itself and I think to simplify it—even to simplify it into product types. I mean, I don’t think people would...people thought when they were diversifying these pools—you know, cross-collateralizing office and mobile home parks and hotels with apartments and single-family—you know, that that created a diverse pool, but what it really created was something that no one could even understand the vehicle.

DAN: Yeah.

MIKE: And how do you underwrite those...you know, the various default rates because they all are...tend to be different? You know, that made it hard to value those bonds, I think, and...so I tend to think it’s going to come back in a form that’s more simplified. If you want to go buy a pool of apartment loans, you can buy a pool of apartment loans—or you want to buy a pool of office loans. And hopefully they’ll be underwritten differently and priced differently.

DAN: Well, and there’s definitely going to be much more transparency demanded by the buyers...

MIKE: Sure.

DAN: (...) of the bonds in the future.

MIKE: Well, another question I had which I had sent over to you and I think is...is interesting in this day, is this idea of the falling dollar and emergence of overseas capital. You’ve seen some large transactions where some of these, you know, sovereign wealth funds have come over and bought some prominent buildings in the United States. You know, given the strength of the dollar and also the fact that there’s a, you know, credit crunch, do you see that continuing, and can it have, you know, a bullying effect on the commercial market?

DAN: Well, I...you know, certainly, the falling dollar is one part of the equation, but I’m part of that camp that thinks that too much has been made on the actual dollar fluctuation. I think it’s a little naïve to think that, you know, these savvy investors from around world—you know, someone sitting in their office in London says, “The dollar is down 1% today, let’s go buy American real estate.” I think this is just occasional...international property players has gone to the point where they’re more interested in geographical diversification and, you know, if the currency is moving in their favor, fantastic; maybe they’ll wind up buying a little more here in the States. So I think it’s a part of a consideration, but I think it’s possibly a smaller part than...than many believe.

MIKE: You know, are there other macro trends besides, you know, the emergence of overseas capital that...that you...you all are looking at, that you think are going to, you know, sort of have a major impact on real estate investing over the next 12 months?

DAN: Well, I think the wildcard is the economy, and that’s where we’re going to have to watch very closely. You know, many of our markets that are linked to the global economy and its continued expansion are holding up very well. You know, you’re in Manhattan, D.C., San Francisco, or L.A., you know, activity and pricing has certainly held up much better than your more domestically linked markets here in the States. My biggest concern is, you know, a global slowdown in economic activity, which really affects our entire marketplace. So, you know, the economy is the wildcard, but I think we’re still in the middle of this major structural shift around the world with, you know, emerging economies developing and this demand from a rising middle class. I don’t think we’re at the end of that structural shift, and I think there’s going to be tremendous pressure for new modern commercial real estate product in the future—and that’s keeping me kind of bullish, at least over the next decade.

MIKE: Got you. You know, one of the questions that I had for you was...was this idea of deleveraging. You know, I was...one of my counterparts was in Sacramento this past week and talking about how much the retail segment of the market is suffering; you know, retail developments that are built now that have no one to fill them; you know, those retail stocks have been hammered, the death of the consumers being chanted, you know. Can you...can you sort of explain...if you see, you know, this consumer over the last decade has had more liquidity than maybe in...in any decade in recent history given their ability to borrow against their home and so forth? You know, do you think that we’re now seeing a fundamental shift; that we’re not going to see a consumer in the United States that’s as affluent and able to make those same buys? And do you...do you feel that it has a long-term negative impact on retail investing?

DAN: You know, we’ve been asked this question for years now, several years, and I just don’t understand the American consumers at all. I don’t understand how we could keep spending. I don’t know if you saw, you know, a top story in the Journal today—you know, Wal-Mart and a few other retailers showed increase in in-store sales. It’s just unbelievable how we keep spending and I...I just can’t get my arms around it.

MIKE: Where there’s a will, there’s a way, right?

DAN: Yeah, I mean, it’s...you know, we’re used to...we need to start looking at our economy more from a global perspective as opposed to just our local markets, because, you know, the falling dollar, if it has had an effect, it’s in tourism and, you know, in the personal level. You know, we’ve certainly seen a tremendous uptake in tourism and business travel from overseas folks. And in markets where there’s that strong attraction, it certainly helped to buoy the retail market from a slowdown—domestic slowdown. But, you know, back to your point, there’s no question that if there is one segment of overbuilding in our commercial real estate base, it’s in the...it’s in the retail property type in your secondary and tertiary suburbs around the country.

MIKE: Right.

DAN: But interestingly enough, one of the hottest property niches right now is urban retail, and we’re still recording record pricing on sales for urban retail around the country. So...

MIKE: Well, so...we...you know, the interesting part is we’re probably in the most turbulent real estate environment that we’ve seen in the last decade, which, as we all know, creates opportunities. So, yes, if we can maybe just end with you summarizing, you know, your views of some of those opportunities and what they may be, and give some of the listeners an idea of where, maybe if they have access to putting their dollars, they should be looking.

DAN: Well, if I know anything, the one thing I know is I’m not very good at telling the future. I’m certainly an Econ 101 guy, supply and demand, and I would much rather overpay in an expensive market where I know the supply dynamics are in a buyer’s favor; you know, coastal markets like Manhattan, D.C., San Francisco, L.A, and Boston, even...even some segments in Florida where there’s restricted supply. I really see the greatest potential for growth in those types of markets. And, you know, Real Capital Analytics is the midst of international expansion right now, and I’ll tell you, our rental rates for most commercial property types are starting to look very attractive when comparing our levels to locations overseas.

MIKE: Right.

DAN: It’s keeping me very, very bullish especially on the international markets here in the States.

MIKE: Well, Dan, where can our listeners go to learn more about the reports and subscription services from Real Capital Analytics?

DAN: They can certainly go to our website at rcanalytics.com. There’s a wealth of free data on commercial real estate markets up there, and they can certainly put in their e-mail and sign up for a free trial of our service.

MIKE: Okay. Well, thank you very much. I really appreciate the time. I’ve learned a lot. I think everybody else probably has, too, and I appreciate it. And hopefully we’ll catch up again soon because things are changing so fast that we...we may have some new things to say.

DAN: My pleasure.

MIKE: Thanks, Dan.

(fade music)

DARBI: Excellent. All right. Thank you again to Dan Fasulo, Managing Director of Research for Real Capital Analytics, and Michael Green, Principal and co-founder of Virtu Investments for joining us today on Capital Synergies.

So guys, if you are an investor looking for expert assistance with financing commercial real estate, be sure to check out the new commercial loan programs offered by Steelhead Capital, your commercial mortgage advantage. Again, that web address is http://www.SteelheadCapital.com.

Dan Fasulo

Capital Synergies podcast with Mr. Dan Fasulo, Director of Market Research for Real Capital Analytics. On this show, Dan explores with us the emerging global markets for commercial real estate investors and offers key insights to capital trends and opportunities you won't want to miss...


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DARBY: Hello! This is Darby Worley, your host for the Capital Synergies Talk Show for commercial real estate investors. Capital Synergies is brought to you by Steelhead Capital, your commercial loan advantage. Today, we have with us, Mr. Dan Fasulo, Managing Director for Real Capital Analytics. Dan, welcome back to the show.

DAN: Thank you for having me.

DARBY: So, let's go ahead and hop on to the interview. So your focus is on global market for commercial real estate. Most of our listeners are U.S. investors, but increasingly, we hear of overseas opportunities that may be getting more attractive while our own markets recover. Do you see an increasing number of U.S. investors making that leap into the global market today?

DAN: We are seeing more and more U.S. investors interested in opportunities in emerging markets around the world. At Real Capital Analytics, our client base is really the institutional investors of the world.

DARBY: Right.

DAN: And it was really our clients that drove us to track data...

DARBY: Really?

DAN: ... throughout Asia and Europe over the past couple of years, and, you know, we began in 2006 and, you know, we were getting feedback from all of our investors, many of them are U.S. based, that, "Hey, we want to invest our capital over in Asia, over in Europe, but we just can't get comfortable with the type of information like the way you guys provide it here in the States."

DARBY: Right, right.

DAN: So, there's definitely an education process going on right now, but if you go across the board, almost every major global property player based here in the States has already announced their intentions to increase their allocations overseas.

DARBY: Yeah, and that really only makes sense.

DAN: Yeah. CalPERS, the largest U.S. pension fund, has already stated their intention to move their overseas real estate allocation to 50%, five-zero, from 15%.

DARBY: Wow.

DAN: And when you're talking about a multi-billion dollar pension fund, you could see the capital adds up pretty quickly.

DARBY: If you were to gauge the flow of U.S. dollars entering global markets, I mean, what kind of deal flow are we seeing?

DAN: You know, it's this...there's certainly this wave of geographical diversification going on right now. You know, kind of a way what happened in the stock world about 10 years ago where everyone realized, "Hey, we only have U.S. equities, we should really diversify geographically." And we're right now in the beginning of that wave, and I think the effects of the credit crunch and the domestic slowdown in the economy we're seeing here in the States has only speeded up that process and interest for U.S. investors to invest more capital overseas for diversification purposes.

DARBY: Okay. So in terms of the flow of capital, you know, it's heading out in the near future, what do you see about the longer-range future?

DAN: Well, I really see this trend continuing until investors based in the U.S. feel like they have the appropriate geographical split to get the best returns for their portfolio that are, you know, risk-adjusted. You know, there's a lot of risk in having your entire portfolio in just one country right now, and if that country, you know, undergoes economic downturn, you know, all your eggs in one basket, and every one's realizing the benefits of geographical diversification now.

DARBY: Okay. So, what about the other direction, you know, in terms of the inflow of foreign dollars into domestic acquisitions? We've seen a couple of major landmarks here in New York purchased by Middle East investors just recently; can you comment on that trend?

DAN: Yeah, this is a big week in New York with the announcement that the Chrysler Building was sold to the Abu Dhabi Investment Authority, basically the southern world fund of that country, and, you know, we've seen more and more trophy acquisitions here in the States by overseas investors, especially from the Middle East. It's a pretty simple equation. You know, these groups right now are benefiting from the run-up in oil prices. Their coffers are full of capital that needs to be placed in investments throughout the world, and, there's only a finite amount of places for them to invest their capital and, you know, they try to do it in a most efficient process that they can. And that's why they look for larger assets to buy, you know, billion-dollar plus, and there's just only a finite amount of property in the world that's worth a billion dollars.

DARBY: Yeah.

DAN: So, any time one of these trophy assets, like the Chrysler Building, does come on the market, we'd certainly seen a tremendous amount of bidding activity from foreign investors.

DARBY: Okay. Let's move on to China. The last time that your cohort, Pete, was with us, we spoke briefly about the China market-the opportunities, maybe even some of your concerns with pollution in the upcoming Olympics. What are your thoughts on China these days?

DAN: Well, it's just a tremendous market. We've been tracking a deal activity there for about two-and-a-half years now and it's already the fourth largest country for real commercial real estate investment. An overwhelming majority is going into the development of new properties. You know, they don't have the modern assets for investors to purchase so many institutional investors are entering the country through development activity with local joint-venture partners. There's certainly been a tremendous property boom over the last several years, and, you know, driven by their just overwhelming demographics-you know, you hear about all these...all these hundreds of millions of people entering the middle class and demanding all the types of modern services that other, you know, western countries have around the world, and it's just driving tremendous demand for all types of commercial real estate: apartments, retail, office, industrial...

DARBY: It's also driving the pollution issue. See, I heard this, Dan, yesterday that they will have as many drivers and as many cars as we do within 15 years, and they already have such a horrible pollution problem. How does that play into your market goal? Do you think about that kind of thing?

DAN: There's no question that our investors are concerned in such issues and you would hope that they would learn from some of those mistakes that the U.S. has made over the years, but unfortunately, it seems that every country needs to learn their own lessons. But this new middle class...and as the population there is becoming more well-to-do, they are understanding and recognizing and starting to speak out about the environmental degradation and, you know, the need for there to be some safeguards. Because, from reports we've heard, it doesn't sound like what they're doing right now is sustainable, and it's certainly going to have an impact in the future on investment activity in the way that offshore investors look at their market.

DARBY: So what about India? You know, I hear that there have been some improvements in the transparency of their commercial real estate market recently. First of all, can you talk a little bit about that for our listeners maybe who are unaware of what types of improvements have been made. If you could kind of like back up and give us a little bit of background on that, and then also do you agree with that? Do you think they really are more transparent? Is this a good thing? What are your thoughts there?

DAN: Well, there's no question many of the emerging markets around the country are becoming more transparent, albeit that coming off a very low base, so we still have a far way to go on the transparency part to really get to the point that investors feel overly comfortable the way they do in the U.S., in the UK, throughout Europe, and Australia -- and we're not there yet. But it is improving, which is certainly a positive sign. We are seeing a tremendous amount of capital, foreign capital, flowing to India mainly also through new development. You know, many of the similar trends that are being witnessed in China with the emerging middle class... we're also seeing that in India. And I expected with a billion people and with a much younger population than China, that not many people recognize, I think that India is going to have to be a place where global real estate investors have a significant allocation of their portfolio in the future in order to capture the growth that's going to happen over the next couple of decades.

DARBY: Okay. What about Australia? The past years have seen a lot of Aussie dollars entering the U.S. market, but today, according to Bloomberg, there's talks that Australian Real Estate Investment Trust may have to sell much of the U.S.' 67 billion dollars in overseas property assets. What do you think of that?

DAN: Well, I actually just got back from a two-week Asia trip where I spent a week in Australia, in Melbourne and Sydney, so I got some great first-hand information from many of the property players down in that market. You know, Australia has a situation where there's a tremendous amount of capital that flows into the major property players there through their state-mandated pension plan that basically contributes capital to these funds, these listed funds, every year. So, they're flush with capital, but unfortunately, some of these listed funds, have gotten so large that they've basically outgrown Australia as an investment opportunity, and they've having to look in other countries throughout the region and in the U.S. and Europe. And the Australians have been a major acquirer of commercial property in the United States, mainly retail centers, over the last several years, and some of those players got caught up in the middle of the credit crunch through their use of short-term debt financing, and that certainly sent some shock waves through these companies down in Australia and many of their stock crisis have become fully depressed because many fear that this could some liquidation or...excuse me, some liquidity concerns with those companies as ongoing concerns. And you know, correspondingly, we've certainly seen little to none, no Australian investment in the States this year, and until they turn their ship around, I think it's going to be a while before they are really a player in the States again.

DARBY: Okay. We're covering a lot of ground here, but then, you know, this is the global report. Can we move on the brick countries, which are Brazil, Russia, India, and China? Now, you obviously have already talked a little bit about India and China, but what about Brazil and Russia and their, I guess, relationship with the other two countries that we've already talked about?

DAN: Yeah, they all have their unique factors right now, and with the economic slowdown in the U.S. and throughout Europe, they've been the hot buzz word of the time right now, and more and more investors are looking to allocate capital in these markets which they consider to be great places for growth on the commercial real estate side. And you know, they just have great trends and great supply-demand demographics right now that make it a very attractive place to put your capital in real estate.

DARBY: Okay. Now, let's pretend that it's you, your personal finances; which one of these emerging markets would you be most interested in if you yourself were considering a cross-border investment?

DAN: If I myself, I would say none.

DARBY: Really?

DAN: I'm a big believer in buying what you know, and my base is here in New York and I do purchase properties locally, and real estate is always going to be a local business. That being said, major investors who are interested in investing in emerging countries, I would recommend that they find a very good local partner that they can work with, where they can get their interests in line, and that's only way to make it work.

DARBY: I'm assuming you have a relationship like that overseas.

DAN: We certainly are making relationships with many local firms, and it's the best way to go to navigate those markets which, you know, there are some transparency issues, there's always political risk, and I've already heard some horror stories from investors who, used the wrong local partner and are learning that this learning curve is not going to happen overnight, and you're going to have to team up in the beginning to really learn the market and be successful there.

DARBY: Right. Of all the trends in the global or national marketplaces, which ones do you think are potentially the most problematic for U.S. investors, and then after you speak of that, I'd sure like to hear some good news in what do you think are them most promising for U.S. investors?

DAN: I think the biggest wild card right now is the economy...

DARBY: Right.

DAN: ...and where it goes...

DARBY: Yeah. What do you think of Mr. Gramm's comments that we're not in a recession?

DAN: Well, you know, we're certainly not in a technical recession...

DARBY: Right.

DAN: ...but for many folks around the country, it certainly feels like one.

DARBY: Right.

DAN: And we've certainly slowed down significantly, and I don't think the full effects of higher oil prices have really run through the economy just yet.

DARBY: Right.

DAN: I think we'll continue to see that over the next 6 to 12 months. And, you know, commercial real estate has always been directly related to the economy and, you know, that's why many investors are looking to geographically diversify and look for locations where they feel like there is tremendous growth on the commercial real estate side.

DARBY: Okay. And what about the most promising trends for U.S. investors?

DAN: Many of our clients who are of the institutional crowd of the world, many of them are still very much flush with equity capital that they've raised and needs to be invested over the next 12 months, and it's just a question of when and where. You know, right now there's a disconnect between buyers and sellers because debt cost has risen significantly and, you know, buyers are looking for a discount right now, and sellers, for the most part, are sitting on relatively good fundamentals with many of their buildings being leased and have decided to just pull their properties from the market and wait for a brighter day, as opposed to you know, selling their assets at a discount. So, this game of chicken will have to come to an end at some point because investors are in the business of investing, lenders are in the business of lending, and we all have to get back to work.

DARBY: Right.

DAN: So, I think confidence and having confidence in the market is the most important thing that we could use right now to really jump start everything and get us going.

DARBY: Okay. So, let's talk about the light at the end of the tunnel... Imagine, if you will, that it's there. What does it look like? What kind of economic or political signs are you looking for that might signal a recovery?

DAN: Well, I think it's going to be a combination of things. You know, everyone is waiting for the presidential election.

DARBY: Yeah.

DAN: ...coming up here in the fall in the States, and there is always concern that policies could change especially related to the economy. And I think in this more challenging environment, I think if there's any significant public policy changes on the economics of the tax side, it could be a perilous event for commercial real estate industry. But overall, I think the light in the tunnel, something that keeps me very bullish right now, is the fact that we haven't really overbuilt in this cycle. You know, in the past downturns, it had been created by just a tremendous amount of oversupply, and that's just not the case this time. And it's really keeping me bullish that especially in your built environments like the coast of the United States, I really see a supply-demand scenario that is very favorable for commercial real estate investors over the near term.

DARBY: Any last words of advice or encouragement for our listeners?

DAN: In this challenging time it's very difficult to understand where pricing is and I certainly recommend that folks come to our website and look at some of our information, and we're happy to help investors disseminate the market and try to figure out where the true market pricing levels are.

DARBY: So, guys, if you want to get this kind of investment research data on a regular basis, you can subscribe to these reports at your website, correct?

DAN: That's correct.

DARBY: And what's the URL again?

DAN: www.rcanalytics.com

DARBY: Excellent. So, there are things they can look at right off the bat that are out there and available all the time, but they can also subscribe to receive the reports on a regular basis, is that correct?

DAN: Absolutely.

DARBY: So, that website again, guys, is www.rcanalytics.com. Excellent. All right. Thanks, Dan. This has been a really insightful discussion on commercial real estate, and I'm sure that our listeners appreciate you spending time with us today.

So, guys, if you're an investor looking for expert assistance with financing commercial real estate, be sure to check out the new commercial loan programs offered by Steelhead Capital, your commercial mortgage advantage. Again, that web address is steelheadcapital.com. This has been Darby Worley, your host for Capital Synergies. Dan, thanks as always for joining us, and we hope to speak with you again soon.

DAN: My pleasure, Darby.

DARBY: Take care.

DAN: Bye, bye.

Pete Culliney

Turn your volume up and take a listen to this highly informative and timely podcast from Mr. Pete Culliney, Director of Global Research for Real Capital Analytics, industry leader in commercial real estate trends, tools, and transaction analysis. In this edition Pete talks about the effects of the US economy on global markets and new opportunities for investors, including:

– A record setting flow of capital into China and abroad
– Current state of affairs in western and eastern Europe
– Emerging risks and opportunites in BRIC countries
– The rise of middle eastern captial in US investment sales
– Are US investors heading for a soft landing or hard fall?


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DARBI: Hello. This is Darbi Worley, your host for Capital Synergies Talk Show for Commercial Real Estate Investors. Capital Synergies is brought to you by Steelhead Capital, your commercial loan advantage. So today, we are pleased to welcome to the show Mr. Pete Culliney, Director of Global Research for Real Capital Analytics. Pete, welcome to the show.

PETE: Thanks very much, Darbi. Pleasure to be here.

DARBI: All right. So we're actually sitting here in the Real Capital offices in the southern [ph] area of Manhattan. Okay. So, Pete, your focus is on global markets for commercial real estate. Most of our listeners are U.S. investors but we hear more and more questions about overseas opportunities. So first off, has the U.S. economy caused what some people are calling a "global slowdown" or are other markets still performing?

PETE: The answer is both to your question, Darbi. Players in the United States were looking to global markets before the slowdown really started to set in. Global investors for the last couple of years, or shall I say U.S. investors for the last couple of years, have been looking abroad, diversifying their investment strategies, looking for more up and coming markets, trying to insulate themselves from U.S. markets. We were on great upswing in the U.S. commercial real estate in the last, you know, seven years. We knew that it was going to come to some kind of an end. It's not coming to a dramatic end. It's coming to a really nice end for the commercial real estate industry. Volume is off very much but prices have not suffered dramatically in the United States. Someone more overseas but there's opportunity out there in a lot of different markets and there's also a lot of emerging markets throughout the world. And I think that's what U.S. investors are looking to get into.

DARBI: So if you were to gauge the flow of U.S. dollars entering global markets versus foreign capital investments and domestic deals, what does this look like today?

PETE: Overall, capital is flowing both ways, into the United States and out of the United States. We're finding that about 70 percent of overall capital spending takes place in the country of origin. So about 70 percent of buyers worldwide are buying in their local market and then that other 30 percent is flowing one way or the other. So overall that 30 percent of the deals coming in to the U.S. and into other markets globally are funds coming from other nations.

DARBI: Okay. Where do you see this bulk of capital going in the near and longer range future?

PETE: The amount of money that's flowing into China is phenomenal. China is the largest center of investment for money coming out of Hong Kong, which is acting as a pump of funds into China. It's also coming from Singapore, it's coming from Europe, it's coming from other parts of Asia, and it's coming from the United States. Most of this is flowing into land for development where the government is really seeing huge quantities of land to account for the growth of cities. There are 20 cities in China that are growing tremendously, second and third-tier cities, and it's a huge opportunity for commercial real estate. There's a huge demand for housing, for infrastructure, and for retail and other kinds of shopping and all of the kinds of real estate of living for the developing Chinese middleclass. It's a huge magnet for investors from all over the world, both local Asian investors and global investors.

DARBI: Okay. So often when economic pressures increase as they have done in the U.S. lately, it's easy to kind of lose sight of the global picture. Why do you think it's important for commercial real estate investors to remain aware of what's happening abroad?

PETE: Global markets help U.S. investors hedge against what's happening in the U.S. markets. When the U.S. markets are tightening or slowing down, there are other opportunities in developing markets elsewhere. Western and advanced markets are also slowing down considerably throughout Europe but in Eastern Europe there's still a very fair amount of growth; the same thing in Asia. The numbers are very close at this point. We thought early in the year that - and we definitely continue to think that this year is going to be the year that the Asian markets see a higher level of volume perhaps than U.S. or European markets. It'll be the first time that anyone's ever seen that happen. And it has a lot to do with the tightening in the advanced western markets. Deal flow is down 70 percent to 80 percent in a lot of U.S., Europe, Eastern Europe, Germany, U.K. There's money out there but without credit, there's no way to leverage the deals and make the numbers work for a lot of investors.

So they're wondering where else can they put their money. The high prices of advanced western markets aren't quite making it but the advanced returns that are available in developing markets, buying into development projects, working with local developers to fund new deals, or buying deals that are in progress, which they call a "forward sale," which is a very popular kind of transaction in Eastern Europe where there's no old stock to buy but a lot of brand-new stock, both in shopping, apartment living, and office properties coming into the marketplace and investors are buying these properties now, when they're half or three quarters completed and that's continuing to fund the development cycle in these markets by giving the developers the next level of capital to start their next project after these projects that are coming to completion in '08 and early '09.

DARBI: So let's look a little closer at some of these markets. There's been news that parts of Europe are seeing the same kind of hardships as we are here in the U.S. What's going on in Western Europe right now in terms of deal flow and property types?

PETE: The western advanced markets very similar to the U.S. markets, high reliance on the CMBS market to fund the debt that goes to making a lot of transactions over the last few years happen, comparing some statistics about CMBS issuings in U.S. and in Europe. We're seeing about 40 percent of U.S. and European deal volume. Western European deal volume is represented in the CMBS flow. So it's a tremendous amount of the market volume that was taking place over the last couple of years was being supported by that part of the debt market. With the evaporation of the CMBS market last August, September, a large significant part of the financing of these transactions have slowed down.

So we've just seen a tremendous withering of volume in U.S. and the major Western European marketplaces, London and in Germany, throughout the U.K. Prices are down in the U.K. more than in some other markets. Prices are not down so much in the U.S. because sellers are holding firm to what they're looking for. Their fundamentals are good; rents may still be increasing. They have good tenants; their tenants are not defaulting. So if the underlying fundamentals are strong, you're not having a capital call from your bank on your funding, then you can continue to work through the malaise and not have to sell your property for a return that's going to be sub par according to your planning.

DARBI: Right. Now you mentioned Eastern Europe before. Can you expound on that a little bit? Is there Overlay?

PETE: Sure. Eastern Europe is a developing marketplace. Eastern Europe is a place where a lot of these markets are in their first up cycle. These are places where the economy has changed radically over the last 20 years. And we've gone from a period of radical change from what happened in the late '80s and the fall of the Wall and crumbling communist systems, through a lot of political trouble and growing, shaking off the old. And it took these nations sometime to get their stride, but they're starting to really get into their stride now. And as I've been working on this global project, building a database and looking at every market here at Real Capital, it's been amazing to me the number of small markets that you wouldn't even think of where there's really exciting real estate activity going on, new modern shopping centers springing up for developing middleclass who wants to get out. They want to shop. They want to be out there. They want to buy consumer goods.

Anyone who travels throughout the world knows that there's a branded culture out there that you see everywhere you go. And there's something good and bad about being every corner of the world and seeing Prada everywhere you go. The good is that, wow, there's people here that can afford Prada and can afford to shop in this great shopping mall. So if you're in the real estate business and you see these quality shopping centers, quality live-work centers, nice office properties springing up, it's an impressive thing to watch in the real estate industry.

DARBI: Okay. So we've heard that for Asia the country again, as you mentioned, currently seen as the favored destination for foreign investment is China. Does your research…

PETE: Totally backs that up, yeah. I mean, the big - China they're buying a lot of developing land. It's just a huge country, so it has to be the biggest market. There's a whole…

DARBI: What do you think about this - the Olympics and all these protests and the torch Overlay?

PETE: Well, yeah, you know, they should have seen that coming, I think.

DARBI: Yeah.

PETE: I think the thing that's going to be the most interesting is if the Chinese are able to control the pollution issue there. And I come from here in New York where it's not the clearest of skies but it's not that bad. For athletes out there, I think that's going to - might - it could theoretically be an issue. You know, political issues that they have to deal with over there. And that's all part of the game.

DARBI: Yeah. Yeah, I do a sketch comedy here on Monday nights and we did a joke about the torch, you know, finally arriving in China and then they relit it and then they used it to ignite, you know, six new coal-fired power plants and garbage operators. You're laughing, not crying.

PETE: Yes. Overlay

DARBI: So it sounds like Japan may also be in financing troubles similar to ours. Is it true that they also relied heavily on the CMBS market? What's your take on that?

PETE: Yeah. It's - I mean, the numbers are much lower in Japan but they were - they are the real advanced, modern market in Asia. There's a couple of other smaller ones like Seoul. But China, Vietnam, and Malaysia, these are real developing up and coming markets. The advanced markets in that part of the world are going to be Australia, Japan, and these nations are going to therefore be part of the modern western financing system. They're going to have modern capital markets that use extensive REIT and other public structures and therefore they're also going to have public debt markets. So while they're not quite at 40 percent, Japan saw a significant amount of CMBS flow as well and their market has tightened as well but it doesn't seem as if this is going to really offset the economic gains that Japan has made over the last few years.

DARBI: Okay. So amidst all this slowdown, we've heard that investment in Asia and South America doubled in the first two months of this year, especially in the BRIC countries: Brazil, Russia, India, and China. What does your data say about that?

PETE: That's exactly what our data says. I mean, these nations, these areas of the world are still booming. They're the developing economies. Now, it's easy for the numbers to double when the numbers are kind of small. And the investment flowing into these places compared to the flows into Western Europe or flows into the United States into cities like New York, London, Paris where the numbers are in the multiples of billions, it's a smaller number of billions in these other nations. Eastern Europe is similar.

It's really the case down in South America where it's only been the last couple of years where people are starting to look there. Some long-term players like (Inaudible 0:11:22) have been down there for years, and they're really involved in the marketplace. But for the most part a lot of the new players since this BRIC phrase was coined a couple of years ago, I think by Morgan, people have been looking more and more at the South American portion of it and questions about Brazil come to me hot and heavy on an almost a daily basis from our client base. Questions on these other parts of the world as well, Russia, Eastern Europe, they've been hotter longer. The spike has been Brazil and other South American countries in the last couple of months.

DARBI: Okay. So what about if it was your money? If you were considering a cross-border investment yourself, where would you go?

PETE: I've got a fairly decent risk tolerance, so I would definitely be thinking about these things. You know, it's the risk-reward balance that comes in a lot of real estate. This isn't New York City. It's not a New York City office building. That in a lot of ways is a bond with a high-quality tenant that you know it's going to be there and paying for a long period of time. You go to Brazil or Poland or Romania and you have to make friends and partners with local groups. You have to hope you get in with the right people. You're vetting a lot of relationships.

But there's a lot more risk and there's also the chance for a lot more reward. And that's the game. So if you are a foreign investor and you know that you're going to get your, you know, 5 percent to 8 percent return for your investors and you're going to buy a high-quality office building in a high-quality, well-known marketplace, you're not going to (Inaudible 0:12:53). If you're going to buy an up and coming kind of office building where you're hoping to have in a developing market where their value is going to have a greater increase, you would think about maybe buying a quality office building at places like that and U.S. investors are.

There's also the risk that could come with being in one of these markets that if something happens in their economy, if there's some kind of political upheaval, that's not the way Brazil is operating these days or has been for years, so there's a lot more comfort with how these things, you know, will go forward and a lot more comfort with that you're going to be able to put your money in, you'll be able to get your money out with a very nice return.

DARBI: Okay. So let's move back over to the U.S. commercial real estate trends. There's word of a fairly strong push from wealthy Middle Eastern buyers to pick up real estate investment trusts in our market, particularly apartments. Is this trend anything to be concerned about? What are your thoughts on that?

PETE: If they're paying quality price then buyers and sellers are happy. That's what a good marketplace is all about. If people want to bring their money here - the great thing about a real estate investment is they can't take it home with them, you know.

DARBI: Yeah.

PETE: They can come and they could buy art, they can buy cars, they can buy anything and ship it away and we could think that we're losing something. They could - you know. But with an office building, apartment building, any kind of real estate investment, it's here. It's going to stay here. Do they maintain it? Do they upkeep it? Do they continue the quality of the investment? And is it going to grow for them? Yeah. And then maybe the next time around an American will buy it. We've seen it happen before and everybody makes a profit. Whenever anyone worries about one class or other of an investor coming in, I think it's just more activity; it's good for the marketplace.

DARBI: So the same thing happened with Australia in recent years with U.S. commercial properties. What's going to shake down from that? There are several Australian investments.

PETE: Well, the Australians have made a couple of really large investments in the United States over the last couple of years. Now (Inaudible 0:14:49) into some debt problems in the last couple of months and there's some issues whether they're going to have to unload some of their holdings here in the United States because they were over leverage. We'll see what happens with that.

Again it's all the business - do you over leverage, you stretch yourself too far in the credit crunch. There's a massive credit crunch going on. If you are in a situation where you were going to have to refinance at the end of 2007, you've got significant problems right now and we know who the players are that are caught in that kind of trap. But we also know that most players were not caught in the have-to-refinance-now. Maybe they'd like to but with rates are coming down, properties are still strong, hopefully there's not going to be a lot of distress in the marketplace that, you know, creates underlying weaknesses and causes a rough market. At this point, it seems as if soft landing is, as people were talking about, is kind of where we're at.

DARBI: Okay. Of all the trends in the global and national marketplace, is there one that you think is potentially the most problematic for American investors?

PETE: Again, it's always the risk-reward play, you know. Are there things that could happen in certain markets that could be really bad for investors? You know, there are all these issues. How do you get your money out of India? How do you get your money out of somebody's developing markets? You know, you can put together a portfolio in Malaysia. Are you going to be able to float it on the local stock exchange and bring your investment back home? Or are you going to have to just continue to roll that forward and hope that at some point, the capital flows are going to work a little bit more in your favor?

In a lot of these markets, they recognize that in order - and they're enhancing their systems. They're bringing in REITS. They're bringing in other public entities that make the markets a lot more efficient and make it a lot more transparent because they know in a lot of these developing nations that transparency brings deal flow, brings happy buyers and sellers, brings better prices for everybody. They know that happy investors who don't come up short and are able to go home with their profit or understand their loss are happy investors who are going to come back. Investors who feel they got burned by a political system going to be gun-shy investors who are not going to come back. So as the world develops and the world evolves, I think a lot of the developing nations realize that they want happy investors bringing their money in and out of their markets.

DARBI: Okay. So just to recap, what are some of the encouraging trends for U.S. investors? I think you've touched on a few of them. If you can kind of hit the highlights.

PETE: Encouraging trends for U.S. investors, I think that the home market is solid and stable. It's an encouraging trend. There's not a lot of pain out there here or in Western Europe. Volume is really down. But prices are still stable and I think that's something that's really a tremendous strength to our market and everyone should be kind of happy about that. A downturn or a softening without a lot of pain is, I think, a good thing. You know, I know a lot of people profit on the pain but it's a balance. And I think that where the market has - in the West has found a pretty nice balance as it slowed down. And I think that as the economies get through this credit issue and start to pick up, real estate is going to be at a nice plateau to start picking up again in the western markets.

If you are a risk player, a value-added player, you're into development, you're looking for higher returns, I think there's a tremendous amount of opportunity out in the world that an investor who is looking for that can really be happy with. I think the ability to invest in development in Asia and in Europe and in Central America gives you a tremendous amount of options to look at in terms of the economies that you're dealing in and the currency issues that you may or may not want to take into effect as to why you may or not want to get into a Euro or into a South American currency.

I think it's great to have a variety of opportunity plays. Variety of potential distress plays may be coming up for the people in the western markets who really got hurt by the credit crunch but it's not a tremendous part of the market. I think overall the market is really pretty stable. So while some people maybe aren't that busy these days, I think that the pain is not so thorough is really a great sign for the marketplace.

DARBI: Okay. Well, if listeners want to get this kind of investment research data on a regular basis, what kind of subscriptions are available from your company, Real Capital Analytics?

PETE: We publish a variety of monthly capital trends reports on the U.S. market, looking at all the common property types: office, industrial, retail, apartments. We publish a quarterly hotel transaction that looks at the world. And we now publish a global capital trends report that comes out eight times a year being fed into the famous Real Capital Analytics Online Database. You can go in and you can see the actual transactions that are taking place behind the numbers, which adds a lot of transparency to the marketplaces and a big value of what we bring to the market. So if anyone goes to www.rcanalytics.com, they can download some of our sample global reports. First couple of issues are there for free. Sign up for a free trial. And if you're interested in becoming a client, we have a lot of subscription options available.

DARBI: And they can sign up right on the website. Okay, so give that website address again.

PETE: The web again is www.rcanalytics.com.

DARBI: Excellent. All right. Thanks, Pete. This has been a very insightful discussion on commercial real estate and I'm sure our listeners appreciate your spending time with us today. So, guys, if you are an investor looking for expert assistance with financing commercial real estate, be sure to check out the new commercial loan programs offered by Steelhead Capital, your commercial mortgage advantage.

Again that web address is www.steelheadcapital.com. This has been Darbi Worley, your host for Capital Synergies. Pete, thanks again for joining us and we hope to speak with you again soon.

PETE: Thank you, Darbi.

DARBI: This has been Darbi Worley, your host for Capital Synergies. We will see you next time.

Dan Fasulo

In this month's interview, Dan and Darbi talk about the questions and fears in today's uncertain capital markets, including:

– The current disconnect between buyers and sellers
– Why apartment property values remain strong
– The speculations surrounding CMBS markets
– Some notes of comfort going into the slowdown ahead
– The spike in properties being pulled off the market
– Risks of falling asset values and rising cap rates
– REITs and foreign market opportunities in 2008


Click to Listen (18:40)
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DARBY: Hello. This is Darby Worley, your host for Capital Synergies Talk Show for Real Estate Investors. Capital Synergies is brought to you by Steelhead Capital, your commercial loan advantage. Today we have with us, again, Mr. Dan Fasulo, Managing Director of Research for Real Capital Analytics. Dan, welcome back to the show.

DAN: Thanks for having me again.

DARBY: So Dan is here to take a look at the recent activity in the investment sales market trends, and to share with us his take on some of the dramatic changes we've seen in the commercial real estate sector. Dan, so last time we spoke with you back in December, we talked about the affect of the residential sub-prime on the commercial market. Where do you think we stand today?

DAN: Well, you know, unfortunately, for whatever reason, too many investors clump up residential and commercial in the same bag, and the residential and commercial real estate markets are really two distinct marketplaces, and there's not much crossover. Where the crossover certainly is, is investor psychology and how that's impacting decision making on that side. I certainly don't think...besides maybe in the condo arena, there being a direct connection on the sub-prime part, however...

DARBY: So there isn't a commercial lending version of the sub-prime products with those high...?

DAN: Well, I think maybe your closest comparison could be the CDO Marketplace for commercial real estate, which many expect to have significant troubles as asset values have dropped. And CDOs usually represent the riskiest part of the loan structure, and many have expected the values for those types of assets to fall dramatically.

DARBY: And just to back up for a second. What does CDO stand for?

DAN: Commercialized Debt Obligation.

DARBY: Okay. You also shared with us some words of caution regarding secondary markets. Are you still feeling the same way about that?

DAN: Well, I mean, nationwide, everyone's being affected by the liquidity crunch right now, and just the lack of availability of debt capital. But certainly the U.S. hasn't been affected the same throughout. There's certainly a bifurcation going on between the more domestic based U.S. markets – which are arguably already in recession – versus the markets that are more linked to the ongoing global economic expansion – like your Manhattan, or San Francisco, and D.C. The primary markets with global exposure have held up better than your more domestic U.S. markets as far as activity and pricing. But we still are seeing declines across the board, unfortunately to report.

DARBY: So now, does the issue continue to be access to credit? Or are there other dynamics in play?

DAN: Well, at first there was certainly a credit crunch, and raised debt costs, and lenders really were putting more restrictions on who they would lend to, where geographically they would lend, but now I think we're moving into a period where there seems to be more economic uncertainty which is driving decision making at this point. And I say that comfortably because in our recent analytics that we've put together, in previous slow-downs we've seen, we track all the major buyer capital groups – whether it's institutional debts, or is it private investors – and previous blips on the down cycle we would always see one sector pull back and another kind of fill the gap. Right now, we're seeing an across the board slow-down in acquisition activity by all different capital groups, and it really seems to indicate that there is uncertainty right now in the marketplace, and there's certainly the disconnect between buyers and sellers right now. Sellers... and we've seen the situation over the last several months where we've seen a tremendous spike in offerings pulled from the market, where sellers would bring their property to market, and they would receive some bids for a particular asset, and they didn't like, basically, what the market was telling them. They didn't like their bids and they decided to just pull their property off the market as opposed to going through with the sale, and we've seen a tremendous spike in that activity. And that leads us back to the disconnect between buyers and sellers, and you have a situation where property fundamentals – occupancies and rents – have remained relatively strong, but the buyer is coming into a situation saying, “Hey, my debt costs are so much more expensive. I've got to put in more equity. You're going to have to lower your price.” Unfortunately, sellers just haven't come to the table ready to throw real significant discounts yet.

DARBY: Right. So as a follow-up to the question on the health of secondary markets, is there any hard data yet on how far values or cap rates may have moved?

DAN: Yeah. Well, I think it's obvious that from the height of the marketplace – probably in the summer of '07 – we're certainly down 10 to 15 percent for commercial property values nationwide. Now, it certainly varies on a market-by-market basis. In Manhattan it may be 5 to 10, in certain markets in the Midwest it may be 15 to 20, but there's no question that we've seen asset values fall and cap rates rise recently.

DARBY: Yeah. There's a big article on – it must be three or four weeks ago – in New York Magazine talking about how historically, real estate in Manhattan has been kind of impervious to market fluctuations, but because there is so much new commercial building going on in terms of condos, that perhaps five years from now it might be – for the first time maybe ever – better to rent in New York than to buy. Do you... what do you think about that?

DAN: That kind of moves over to the residential side a little bit.

DARBY: Right. So that doesn't affect the guy who's building the rental building or the condo? That doesn't qualify as commercial?

DAN: Yeah, I guess on the development side of it, but from my perspective development versus historical norms has been very limited in all the major markets across the U.S. like in Manhattan or D.C. And I think the market is actually tremendously undersupplied with new construction, and that's what gives me a little comfort going into this slow-down, is that we certainly have not seen the type of over-building on the commercial side that we have seen on the residential side.

DARBY: Okay. So following on with that, is there...would you say then that like the hotel or office industrial/retail space might be better than apartments? Or are other areas there are property tax that stands out as either particularly bad or surprisingly resilient in this market?

DAN: Actually, we've been a little surprised that multi-family property – apartments – have held up relatively well versus the other property types in the U.S. and we were sitting down a few months ago and trying to figure out why, and we came to a couple of different conclusions. One was: apartments in the U.S. already went through a significant correction in 2006, so we had a situation where we lost the condo converters, if you recall, and it really drove cap rates back up and shot prices down. So we had that significant correction already in apartments. And then on top of that, the debt markets haven't dried up on the multi-family side because Fanny Mae and Freddie Mac are still very active lenders there, and really giving some support for the debt markets for apartments where that support is obviously lacking for the other commercial property types right now.

DARBY: Okay. So where do we stand on foreclosure rates for commercial properties?

DAN: I think the latest report was that it's slight increase, but we've been very fortunate not to have any significant commercial default at this point. This goes back to the point we were talking about before, that underlying property fundamentals remain in relatively good shape right now. We're not seeing any widespread tenant defaults. While there may be decreasing occupancies in certain markets, overall occupancy levels and rent levels still remain at or near their record highs for many markets. So we haven't seen a situation where that many investors are in danger of a default. Probably the only investors that are really in jeopardy are the investors who purchase property at the top of the marketplace and then finance those investments with short-term financing. They're obviously in a very difficult position right now because the refinancing markets have pretty much dried up, or if not dried up they're on completely different terms than when the investor originally made the deal. So... all-in-all, I don't see any real significant situation where we have tons of commercial defaults unless there is an extended slow-down in the economy.

DARBY: Okay. There are some analysts that would say that for all practical purposes the CMBS market is gone forever. Do you agree with this?

DAN: No, I don't believe that at all. Not in the slightest. I think it's a very efficient way of placing debt. It really divides the risks appropriately among those who can take them. I think it's only...I think when it does reappear, eventually, I think it will reappear in a much more conservative format, probably the way it was when it was a novice product. But I think it's only a question of when it comes back, not if.

DARBY: Okay. So you don't think there's some kind of like hybrid of it that could emerge that would supplement it? Or...?

DAN: No, not at all. I think there's a lot of unfounded fears right now, a lot of misconceptions, and unfortunately, the same thought process that drove investors to really buy up all this paper originally is really driving the lack of activity now – if you know what I mean. It's just more investors need to be educated about what CMBS is, and what it could do, and I think it's a very efficient way of placing debt, and it will be back.

DARBY: Okay. So that leads me into my next question. So given that the forces of capital have changed significantly, what do private investors need to know to be able to adapt and succeed to the new market position?

DAN: Well, there's no question this is going to be a challenging year for private investors, especially if there's a necessity to access the debt markets. I think 2008 will be a great year for your private investors to really focus inward on their portfolio – just try to strengthen the core of their assets, improve property fundamentals, et cetera. And I think there will be many opportunities for investors who can use a significant amount of equity in their acquisitions. I think there certainly will be some great deals to be made in 2008, but overall it's going to remain difficult until the debt markets can return to a period of normalcy. We'll always come back.

DARBY: Yeah. Good times don't last, bad times don't last.

DAN: There's a lot of drama both ways.

DARBY: Yeah. So looking ahead kind of near term, what do you see on the horizon for the rest of 2008?

DAN: Real Capital Analytics – my firm – has expanded our operations overseas. I tell you, the more we venture out and start really tracking overseas markets, and understanding the fundamentals, and the pricing structures, I seem to get more and more bullish about the prospects for the U.S., especially in many of the major markets where there's no oversupply. I think 2008 could, if we're looking back, could wind up to be a very great buying opportunity for commercial property investors here in the U.S.

DARBY: When you say that the major markets, you're talking Washington, New York, but where...are there others around the country that are...?

DAN: I'm talking an overall. There's a good deal in every single market. You just have to find it. And there's bad deals in every market. I think if you're just trying to play a market, per se, I would be in the primary market for 2008, but on a deal by deal basis, you can find opportunity in every U.S. market right now. I just think that some of our global cities in the U.S. remain relatively undervalued versus our global counterparts that we're tracking – whether it's London, or Paris, or Moscow, or Tokyo. I think there's certainly value, and if you recall after the credit crunch occurred in August, and we had a corresponding fall in the Dollar about the same time versus the Euro and the Pound, and everyone expected this flood of capital – this flood of foreign capital – to come into our market, and it never really came. And it was... from many conversations with overseas investors, it mostly had to do with the economic uncertainty surrounding the U.S. economy as opposed to, “Hey, my currency is worth 5 or 10 percent more. Let's go buy in the U.S.” But there certainly is a mindset out there developing that on a risk adjusted basis the U.S. is starting to look more and more attractive to overseas investors. There's certainly some value on the rate side that many are noticing right now. It's rumored that for the first time some of the Sovereign Wealth Funds might be interested in maybe taking down a rate or two. It's rumored that Cutter is... their Sovereign Wealth Fund is interested in maybe partnering and taking down McGuire Properties – a major office based in southern California. So I think that there is going to be opportunity in 2008, and investors are just going to have to do the proper homework, and not make any blind bets this year.

DARBY: Yeah. And speaking of proper homework – and I'm going to guess that you're going to say this is kind of a case-by-case situation – but for people... regarding the management of their portfolio, is there a general word of advice that you would give in terms of buy, sell, hold?

DAN: Well, you answered my question originally. It always depends on the position of the assets, or whatever position the investor is in. But I think this is a great year to really focus inward on one's portfolio and improve it as much as possible, and bring it to market in a better day when the markets are really back to normal.

DARBY: If an investor feels that they really need to sell relatively soon, should they try and get out before anything gets worse?

DAN: That is not a mindset that we've seen much of at all. We certainly have not seen any type of panic selling yet, nor do I expect it unless there's some sort of severe economic downturn. We've seen none of that whatsoever.

DARBY: Okay, great. Well, Dan, if our listeners wanted to get this kind of investment research data on a regular basis, where can they go to learn more about subscribing to your reports from your company Real Capital Analytics?

DAN: They can certainly go to our website at www.RCAnalytics.com. We have a bunch of free reports up there that they can download, and they can certainly find all the information they want on the side.

DARBY: Okay. Say it one more time.

DAN: www.RCAnalytics.com

DARBY: Excellent. All right. Thanks, Dan, this has been a very insightful discussion on commercial real estate, and I'm sure our listeners appreciate you spending time with us today. So guys, if you are an investor looking for expert assistance with financing commercial real estate, be sure to check out the new commercial loan programs offered by Steelhead Capital, your commercial mortgage advantage. Again, that web address is www.SteelheadCapital.com. This has been Darby Worley, your host for Capital Synergies. Dan, thanks again for joining us.

DAN: My pleasure.

Matt McLeod

Capital Synergies podcast with Mr. Matt McLeod and A Sean Aguilar, CCIM, both executive Vice Presidents of Steelhead Capital.

As a boutique real estate brokerage firm, Steelhead Capital specializes in the acquisition and disposition of multifamily investment opportunities, and the offers unique ability to provide the individual investor with an institutional approach to buying and selling multifamily investment property.

Steelhead Investment Advisors have a solid background in working with institutional investors, which are defined as organizations whose main purpose is to invest capital in real estate. At Steelhead, our goal is to give the same level of sophistication that we see on the institutional side to the individual investor who looking to buy or sell real estate for their portfolio.


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DARBI: Hello! This is Darbi Worley, your host for the Capital Synergies talk show for real estate sectors. And today we have with us Mr. Sean Aguilar, CCIM and Vice President of Steel Head Capital, along with Mr. Matt McLeod, also Vice President of Steel Head Capital. And Matt is also the head of their Investment Advisory Services division. Ah, good morning Sean and Matt, welcome to the show.

SEAN: Good morning, Darbi.

MATT: Good morning, Darbi.

DARBI: Great! Thanks for joining us. So, many investors, especially the more experienced ones, with portfolio values of, say five to ten, even hundreds of millions of dollars, realize the value of having independent, objective, investment advisors on their team. More importantly, these services help investors maximize their portfolio earnings and minimize their risk. So Matt, what does a buyer of commercial property gain by working with your buyer representation services?

MATT: We try to provide the individual investor with an institutional approach to buying real estate. We have a solid background in working with Institutional Investors, which we define as organizations whose main purpose is to invest capital in real estate. Our goal is to give the same level of sophistication that we see on the institutional side to the individual or "Mom & Pop" investor, who is looking to purchase real estate for their portfolio. We've identified tools which are essential to the success of the institutional buyer but typically are not utilized or available to the individual. What our clients gain is access to these tools and information which allows them to make more informed decisions when buying real estate. Examples of the services that we offer to our clients include Deal Flow or access to investments that we see, our market knowledge and insight, and our institutional strength underwriting. These services are crucial steps to the investment process and many investors just don't know that they are available to them.

DARBI: Well let's say that an investor from the Bay area comes to you with a smaller portfolio, maybe three or four properties and wants to expand; does it ever make sense for an investor... an investor in California to look outside the state for a new acquisition?

MATT: That's a great question, and the answer is yes. And let me give you an example. About four/five years ago, the Southern California market was seeing record sales prices. As a result, many apartment owners took the opportunity to sell their investments for strong returns. However, once they sold, they did not necessarily want to reinvest their dollars in the Southern California market as they felt it was at its peak. They also didn't want to go to Northern California that had already seen record sales prices.

Many wanted to look for a market where they could get more for their money and have the potential for appreciation rent growth. Many of the Southern California investors took their sales proceeds or investment dollars and purchased apartments in Las Vegas. Las Vegas, just so you know, at that time was seeing strong growth in the apartment market as people and employees were leaving high cost of living in California and moving to more affordable areas. The Las Vegas strip was also expanding as hotel construction was at a record pace, further driving up demand for housing in Las Vegas. I had an investor that sold a fifty unit apartment building in Los Angeles and traded it into a two hundred unit building in Las Vegas.

DARBI: Yeah, I was going to say, it's really... it's an opportunity to take advantage of the lower cost of living in another state without having to move there.

MATT: Absolutely! I can tell you that many investors who bought in Las Vegas from four/five years ago, made a wise decision as those investment dollars have doubled in that five year span.

DARBI: Okay. So what about if that investor wants to sell off only part of his/her portfolio? What's the reason for them to work with Steel Head, as opposed to simply listing the property with a realtor, or putting an ad on Loop.net or something like that?

MATT: Well, when it comes to selling a property, exposure and presentation are really the key elements in the sales process. And we have a system in place that creates the broadest possible exposure for a single property or for someone that wants to sell their entire portfolio.

DARBI: Okay. Great!

MATT: We use a direct marketing campaign, which uses a database that we have, that would actually match the property with the most likely potential buyer.

DARBI: So Sean, what do you think of all the talk surrounding the residential lending market? And what kind of impact do you see this having on commercial real estate investing? We've talked about this on our show a few times, but I'd like to get your input.

SEAN: Well, clearly, more recently the Feds lowered their discount rate as well as the Federal Fund Rate by fifty basis points and, you know, it's having an immediate impact on the market in the short term. Cost of credit, you know, which basically means from a homeowner or consumer point of view, your credit card debts are going to, your cost of debt will drop slightly for those residential owners out there who have adjustable... adjustable rate mortgages, you know, their payment is scheduled to go up, but maybe it won't go up as high as it was expected to because of the drop in the discount rate.

You know, that said, I think for the single family market there's, you know, there's still some pain out there still to be taking place and it... it'll probably take maybe nine months to two years to stabilize depending on which markets you are in throughout the mainland U.S. But its impact on the commercial real estate really isn't as big as I think everybody is perceiving it to be because they're basically two different asset classes.

We're still seeing a lot of activity on commercial real estate where there's been some hiccups, quite frankly it's, when you look at the amount of leverage being obtained by; on the institutional side with the hedge funds you know, clearly that source of debt is having its challenges in getting placing... in getting closed on. You're reading about it in the papers right now, when it comes to certain larger companies doing buy-outs of others. But in reference to the focus of our clients through our advisory services, we really think it's a benefit right now because they're not really playing in that field.

There's plenty of capital right now with the local banks and insurance companies, you know, the regional banks, they basically have been unaffected by what's been happening with this so-called credit crunch. The life insurance companies and the regional banks, if anything, their business has picked up dramatically. It's been the Wall Street money that's been having an impact closing deals. And for the market, we tend to work with; as much as we do business with the Wall Street, we still have all the other available flavors of lenders, if you will that we work with that are very much committed to doing deals.

So, our financing side for the real estate investing... the money's there, to lend ... I still think it's a good time to be buying real estate if you're buying the right property and you're buying with the fundamentals in, you know... just to kind of leverage off something that Matt said, you know, we've got the background here, we have kind of a platform and the experience, you know, we just don't source properties but we also do diligent analysis and financing. So...

DARBI: Sounds like it... it's still a good time to... sounds like it's always a good time to invest in commercial real estate but now, more than ever, it's not the time to really go it alone.


SEAN: Absolutely not! It's... yeah you really need a partner to, you know, somebody who is active in the market on a daily basis to help you anticipate where some of the hiccups may come and help you structure a way so that you could execute your plan so you can acquire the properties that you're looking.. but, you know, it's a good time to buy; interest rates overall are still low but you definitely need to partner with somebody that is active out there that knows what's going on and can help you get through the deal because, you know, as much as there is a lot of uncertainty out there, there's still good deals out there. You know, Matt referenced the experience with the South Cal. buyer selling and buying many more units in the Las Vegas area. You know, there... there's still good deals out there if you can find properties that have maybe rents that are below market at... therefore, you know, by increasing rents you can still get a really good return on the deal in lieu of, you know, what's going on out there in the capital markets.

DARBI: Great! So Matt, where can our listeners go to learn more about the New Investments Advisory Services from Steel Head Capital?

MATT: We invite everyone to visit our new website, which is www.steelheadinvestments.com.

DARBI: And there's all kinds of tools out there, correct, there is they can fill out a form and kind of get some information, kind of see where they're at with their deal.

MATT: And if they want someone to do a free evaluation of their property or their entire portfolio, we would be more than happy to get in touch with that person.

DARBI: Okay. Well before we close, you have any other final words of advice for our listeners?

MATT: Please take advantage of us. One of the best things about our service on the purchasing side when we're out there helping you try to find an investment property, is typically our fee is paid by the seller of that property so you get the advantage of all these great tools that we have at no cost. So really try to take advantage of what we have to offer.

DARBI: Outstanding! Well guys, thank you so much for coming on the show. It's really been a helpful discussion on commercial real estate and the New Investment Advisory Services from Steelhead Capital, your commercial financing advantage. Thanks for coming on.

MATT: Great! Thank you, Darbi.

SEAN: Thanks, Darbi.

DARBI: So, if you're an investor looking for guidance in the acquisition or disposition of commercial real estate, be sure to check out the New Advisory Services offered by Steelhead Capitol. Especially in these changing economic times, having this experience on your side may be more important and wise than ever. So you can go to www.steelheadinvestments.com and request a no obligation portfolio review today. This has been Darbi Worley. I'm you host for Capital Synergies. Join us next time on the show and thanks for listening.