Foreclosures Set to Add More Years of Supply to Downtown Miami Condo Market

 

 

At Steelbridge Capital (www.steelbridgecapital.com) , we are ringside observers of the pain the Miami downtown condominium market is experiencing. As Miami based investors in distressed residential and commercial property throughout Florida, we saw the downtown condominium inventory increase five fold since 2003 to over 22,000 units this year. During the good years, demand kept up with supply, but now, with over 10,000 of these units unsold and current absorption slowing to just under 1000 units a year, there is over ten years of unsold supply in the downtown at current absorption rates and pricing.

 

How did the market get so overbuilt? Clearly, this is due to a multitude of factors, including cheap construction debt that encouraged overbuilding, particularly in marginal locations, the recession leading to current 10%+ unemployment in Florida,  and much tighter lending standards not only from the struggling banking community but also by Fannie Mae itself, which temporarily stopped lending last fall on buildings with less than 70% sell through.

 

Adding to the problem is that many units that were sold in the boom years are now facing foreclosure during a combination of borrower bankruptcy and at times outright mortgage fraud. Foreclosure rates in Miami Dade have increased 500% over the last year, to 56,000 last year and a projected 70,000 this year. These numbers contrast sharply with the County's peak foreclosure year (2002) during the last recession of only 14,000. And, these numbers don't even reflect the likelihood that many of the downtown condominium lenders may likely foreclose on the developers themselves in buildings where sales are slow; four buildings in the downtown right now are less than 10% sold.

 

So how does this market recover? This combination of unsold supply and a massive wave of foreclosed properties can only mean one thing: pricing is set , and has already started, to drop dramatically. A recent study we completed  on behalf of some of our investment clients on the future of the Miami condo market shows that for sales to increase and unsold inventory to burn off, pricing of unsold units must drop to levels dramatically below current construction cost pricing so that opportunistic buyers can buy at the discounts necessary to hold the units and rent them for attractive cash flow until the market returns.  There will be considerable risk to this kind of strategy, particularly since the bottom of this market will be hard to time (see Case-Shiller/Lawler research) and the downtown rental market continues to soften as more and more unsold units go to rental status. But we are tracking many recent sales that indicate that a few intrepid buyers are executing. The key to success in this strategy will be proactive and intelligent management  after acquisition not only of the properties but the condominium associations themselves, which in many distressed buildings are effectively insolvent.

 

The market will recover eventually as Miami's downtown continues to grow and develop as a 24 hour city due to Miami's dynamic economy. Once pricing reaches lower and acceptable equilibrium levels for investors, sales will pick up through bulk purchases and the years of unsold inventory will drop dramatically. But success in this strategy will require patience and partnering with local experts.

 

Gavin Campbell is Founder and Managing Principal of Steelbridge Capital LLC, a Miami and Chicago based real estate private equity firm.

 

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Gavin Campbell consults with leading institutions through GLG