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Today Is Cancelled Due to Conflagration 7/21/23

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This time could be different for CRE?

Fed and others promote Extend and pretend. Good short read about it.


"Basically what they’re saying is similar to past troubled-debt restructuring programs. They’re saying, listen, any asset out there where you’ve got a qualified borrower and you’ve got a quality asset, we will allow you to work with that borrower to ensure you can re-create the value that was once in that asset itself. And we’ll give you an 18- to 36-month extension, basically ‘pretend and extend.’ Whereas what happened in 2009, that was more of a long-term forward-guidance proposal and it really impacted the SIFIs (systemically important financial institutions). This policy direction is really geared toward the regional banking system. And why I say that is because right now the SIFIs do not have a real big book of real estate debt, probably less than 8% or 7%. Whereas the regional banks across the country right now, thousands of them have over probably 30% to 35% and some even up to 40% of the book in real estate. So that guidance gave at least the good assets and the good borrowers an opportunity to go through a workout at the end of the day. "


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This happend also with Regional Banks - they offered them more than 700 bln usd to pretand that their bonds and other assets are still worth 100%. The same story (pretend and extend) I hear from VC/PE -> cut costs as much as you can to go thru this pain phase and later on in h2 2024 we will offer you new financing for you startup based on the valuation from previous peak in 2021.


So there is a chance for soft landing if Fed could lower the rate really fast before the economy implode. The Q is will it happen? I think the chances are pretty high that it will.

Some are sayin that thr biggest mistake was to let the Lehman go. I think in 2023 they would give lehman a credit line or something like that. Just look at FHLB - they offered 700 bln usd to regional banks. it worked so far.  Fed also introduced asset swap on par for bonds for regional banks. So market is in pretending mode till spring 2024. Mark that down. Spring 2024.

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Consistent with cycle analysis as well. 

The problem with commercial RE today is that the changes are structural. In appraisal parlance, we call this functional obsolescence. There's no longer any use for vacant office and retail space, and these trends are likely to persist, leading to even more office and retail vacancy, although at a reduced pace. 

In short, unlike past RE crashes, which were cyclical, they can't simply wait this one out. These properties are functionally obsolete, and cannot be re-rented or sold for the same or similar use. The properties are land value only, and the land value must be predicated on the current highest and best use, not what it was in the past. Office commercial land has the highest value. Retail is next, industrial is next, residential, in most cases is next, although in major cities, it with multifamily, it would be higher than industrial. 

So the revaluations could be orders of magnitude less than past value when these buildings were full of tenants.  This would apply to all properties that aren't generating enough rent to pay expenses. If memory serves, the breakeven is somewhere around 70% occupancy if rents haven't collapsed. But if rents drop 30%, and you're only 70% occupied, then you're at zero for income value. At that point, the property is worthless. 

In those cases, I think that we're talking 10-20 cents on the dollar in the best cases. In most cases, the value would be zero or negative because the demo cost would be greater than the value of the land as if vacant.  

Got that? 

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Got that and in broadest sense I agree with you Lee but there are difference between US and Europe.

In Europe we have less remote work so the trend is less acute. There is also different mechanism for bankruptcy. In US you give back keys and thats it. In Poland tou have to pay back the credit and its way harder to "cancel" the transaction.

Nevertheless such practises (extend and pretend) would smooth the trend. There is less chance for credit event like in 2007/2008. CBs are more willing to use tools, like asset swap on par. It happened also in Europe. For many assets there were literally no haircuts.

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"why rate hikes have not had as much punch in 2022/2023 as they might have in other cycles. Long story short: A huge cohort of American consumers and businesses rolled their duration at very low rates in 2020 and 2021. As such, the cost of servicing debts has not responded much to Fed rate hikes so far. The burden of higher interest rates has fallen on the sovereigns and the deficits created by those extra interest payments are at least temporarily stimulative."



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