Further confirmation the commercial real estate market has a downward bias...how long and deep will this decline become?

Implications: Now that the numbers are coming in, there is no doubt the commercial market has just begun to feel the pain this writer has been predicting. The only question is far down can the market go and for how long. All indications are it will be a decent decline probably not the worst in terms of historical standards but it will last for a fairly long period of time. However, although the United States economy is very resilient there are major factors that could derail this resiliency and hence impact the commercial market for some time to come.

Analysis:  The commercial real estate market’s statistics have finally demonstrated what this writer has been predicting. We all knew and its been evident for a while that property prices are in retreat. The real question has been when will the market see leasing activity begin to be impacted by the sagging economy. There are those who want to keep a happy face on things, especially in the Washington DC Regional Market, where every area’s statistics are confirming a down turn, but no area admits it is affected. In other words, any decline has not been in their particular backyard. It was inevitable the leasing activity was going to dramatically slow down. If this is happening in what has been the second best commercial market in the Country, what does this say for the rest of the Nation? Rental rates although having increased by small margins has been off-set by the rent concessions being negotiated.


As the article points out the range of free rent alone has been between 3-12 months. This level of free rent concessions has not been seen since the depth of the early 1990’s commercial real estate implosion. Keep in mind a 3 month rent concession on a 5 year lease term is a 5% reduction in rent. On a 10 year term its represents 2.5%. These numbers completely off-set any “gains” in the rental rates. This also does not take into account increased Tenant Improvement dollars being offered. Furthermore the article highlights how companies are staying put rather than move.

Therefore the new construction that has taken place in the DC Market and anywhere else for that matter with virtually no pre-leasing is in for a major problem as well as being problematic for those lenders who provided the construction loans for these projects.  

Keep in mind that as of the 2002 the share of securitized commercial loans that were fully amortizing -- or structured to be paid off in full by the end of the loan period -- fell from more than 92 percent at the start of 2002 to just 13 percent by mid-2007...those are pretty dramatic figures.   Further as reported on Bloomberg...It is quite possible that the tighter credit conditions and economic slowdown has barely started to filter through,'' Merrill Lynch & Co. economists Sheryl King and David A. Rosenberg recently wrote. ``We have little doubt, though, that it will. In spades.''    


This article is focused on the Office Sector; however, the retail sector has and is continuing its downward spiral. It’s a matter of time until the Industrial sector sees a drop in leasing activity. Keep an eye on the vacancy rates and leasing activity in the major port areas such as Los Angeles, New York/New Jersey, South Florida, and New Orleans. With Consumer confidence waning (its at the lowest its been in 28 years) and gasoline prices still on the rise to record levels, there is no doubt this will keep a cold chill on the economy.  

The ever rising gasoline prices has already been felt due to its inflationary impact on most consumer goods despite what happy spin the Federal Government wants to put on the inflation numbers. Its laughable they always exclude food and energy, but as we all know those two items are the staples of our standard of living. So if those items are going up at a rapid pace, so is inflation.  

The other interesting spin that has been reported, is the notion the credit markets have finally hit bottom. It may be good for the banks themselves, as the Federal Reserve’s strategy has been working, and that is keeping the Banking industry afloat. However, this does not mean credit for the business and consumer borrower has become any easier.  

My friends in the Franchising Industry have told me that franchise sales have dropped significantly. The worry here is this impacts small business.  

It seems everyone overlooks the great importance small business has on the national economic footprint. Small business in the aggregate has been the primary creator of jobs for the past 10 years creating 75% of all new jobs. It represents more economic impact in the aggregate to the National GDP than the major corporations.  

So unless the situation with gasoline and overall energy prices begins to settle down, the banks begin lending more aggressively and the housing market hits bottom the only direction the commercial real estate market has to go is down.   

Does anyone for an instant believe these major factors are anywhere near resolution?