The Battle Between Fear and Greed: What It Means for Investment Sales in `11

Last week, I reviewed New York’s investment sales market in 2010. Its performance demonstrated a significant 131 percent increase in the dollar volume of sales, rising to $14.5 billion from just $6.3 billion in 2009. With regard to the number of buildings sold, we saw an increase of just 16 percent as 1,667 properties sold versus the 1,436 properties sold in 2009.

These figures were somewhat expected, as the general trend in volume has been positive since 2Q09, which was obviously the bottom of the market in terms of sales activity. On the downside, the relatively small increase in the number of properties sold did surprise, but, based upon the relative strength of the financing markets, it was not surprising to see the dollar volume shoot up the way it did. Quarterly volatility exists in these figures, but the trend line is clearly positive, and we expect sales volumes to continue to rise in 2011.

What was most surprising were the statistics relative to value. The general perception in the market was that values were rising, as many of the headline-grabbing transactions indicated pricing levels well above 2009 levels. Unfortunately, this dynamic existed mainly in the core or institutional-quality property sector, as the supply-demand imbalance was particularly acute in that sector. This sector represented less than 5 percent of sales in terms of number of properties sold in 2010, and, when all sales are taken into consideration, average values, on a price-per-square-foot basis, dropped by 8.4 percent from 2009 levels.

This tells us that the market is still trying to find firm footing, and we believe that values will appreciate before the end of 2011.

The remarkable reduction in sales volume from the peak of the market in 2007 to 2009 was astounding. A 90 percent drop occurred, as a 2007 total of $63 billion in sales shrank to just $6.3 billion in 2009. The fact that values were still falling in 2010, and are currently at levels about 38 percent below the 2007 peak, is indicative of the fact that the real estate market, like all markets, is cyclical. Sometimes people forget the cyclical nature of our market.

I recently read a report from a research analyst at a national firm who wrote, “The underlying hope is for a return to fundamentals-based capital flows leading to less volatility and a more orderly creation of value in the markets.” These dynamics might occur over a very short term but will never exist over a long term, as our market is shaped by a constant battle between fear and greed. As conditions get better and participants make money, greed kicks in and all participants up the ante until a bubble is created and the market corrects. As the correction occurs, fear sets in and becomes contagious until someone has the guts to jump in. That party makes money, and then the greed dynamic kicks in again. And so on and so on …

The cyclical nature of our market reminds us of some historically proven truths:

  • When financing is available for everything from every source, soon thereafter there will be no financing available from any source for anything.
  • When money is easily accessed by borrowers, sellers are those who receive the benefits, not the buyers.
  • Even if your intended holding period is short, real estate is a long-term asset that requires substantial amounts of equity in order to provide an appropriate asset-liability match.
  • Financial models never incorporate recessions and capital shortages, but reality often does.
  • When everyone believes a “paradigm shift” has occurred and the market will never fall, it is about to.
  • When everyone believes a ‘paradigm shift” has occurred and the market will never rise, it is about to.
  • Any rapid change in market conditions that is attributed to demographic changes must be wrong, as these changes move through the market at glacial speed.
  • The real risk of using short-term financing is debt rollover renewal, not increases in interest rates.
  • Leverage is wonderful when all goes well, but extremely punishing when things go wrong.


SO, REMAINING cognizant of these truths, where are we in this cycle? Interestingly, many people I speak to who are active in our sales market say, “2010 was a great year, but I am pessimistic about 2011.” There are many mixed messages coming out of recent economic data. Some of this data portends a very optimistic forecast. However, there is also a pessimistic perspective that may temper this optimism. We must, therefore, answer the question: Is the glass half-full or half-empty?

The reasons for optimism are many.

As discussed, the volume of sales, while up significantly from last year, still has a long way to go to approach the long-term trend line. We expect distressed selling in 2011 to occur at a very healthy pace and have already seen signs that indicate discretionary selling will return in a significant way this year. Our forecast for 2011 sales volume includes an expectation that the dollar volume of sales will be in the $22 billion to $25 billion range. If this level is attained, it would reflect approximately a 55 percent increase in the dollar volume of sales. With respect to the number of properties sold, we anticipate citywide sales volume reaching 1.2 percent to 1.3 percent, or an approximate increase of 25 percent over 2010 levels.

With regard to property values, we expect average prices per square foot to increase in 2011 over 2010 levels. If this occurs, it will allow us to retrospectively call the bottom of the market, in terms of value, at some point in 2011.

Underlying real estate fundamentals appear to be firming as rent concessions, in both the commercial and residential markets, have been evaporating, and, for the first time in this cycle, we are beginning to read reports about increases in rental rates. As employment growth accelerates, it will impact these fundamentals positively, and all expectations are that job growth will gain traction throughout 2011.

Businesses are highly profitable today. Productivity is up and balance sheets are healthier than they have been in years. With record amounts of capital on corporate balance sheets, it is clear that businesses have refrained from strong hiring based upon sentiment and strategic decision-making rather than an inability to hire. Uncertainty regarding health care costs and the implications of financial regulation seem to be holding companies back. The financial strength of businesses today bodes well for future space utilization, which will further enhance real estate fundamentals.

Households are de-leveraging, which creates optimism for the pace of future consumption. Two-thirds of our annual G.D.P. is driven by consumer spending, so the health of consumers is critical. Approximately 18 months ago, total household liabilities were approximately $13 trillion; today, this figure stands at approximately $12 trillion. The amount of consumer credit is shrinking as well. At the peak, there were 435 million credit cards in the hands of Americans; that figure is now down to 320 million. In early 2009, there were about 19 million consumer loans outstanding in the form of mortgages, auto loans and student loans. This figure has dropped to 13 million, its lowest level since 1998. These dynamics are putting consumers in a much better position to fuel consumption as we move forward.

The banking industry is in much better condition than it has been in many years. The Fed’s highly accommodative monetary policy has allowed for a recapitalization of the banking industry. Unfortunately, this recapitalization is occurring at the larger banks more so than the smaller community and regional banks across the nation. The 20 largest banks appear to be overcapitalized and are continuing to lend. Credit card lending, car loans and home equity loans are now increasing for the first time in this cycle. We remain hopeful that this increase in lending trickles down to the commercial real estate industry.

The Battle Between Fear and Greed: What It Means for Investment Sales in `11