USC Lusk Center Says Commercial Real Estate Will Continue to Weaken and Markets Won’t Grow for Two Years

LOS ANGELES--(BUSINESS WIRE)--A lack of liquidity remains the major obstacle to a recovery in the commercial real estate markets at least until the end of this year, according to real estate finance expert Stan Ross, chair of the USC Lusk Center for Real Estate. “We will also see a curtailed supply of new construction, more focus on cash flow, new incentives for tenants, greater equity required of borrowers and increased government regulation,” said Ross, who estimates he is experiencing his 10^th real estate cycle.

Citing retail bankruptcies, bank closures, greater unemployment and an oversupply of office space, Ross does not see commercial or residential real estate markets starting to recover—and then only slightly—until the fourth quarter of 2009 with another full year before they grow again. “Now is the time for building owners to carefully weigh each project’s risk and return, tallying the long-term keepers versus the ones slow to recover,” he advised. “Some projects should be resized. Sometimes the right product type in the right location should be frozen so it can be ‘unwrapped’ when the conditions are right,” Ross suggested, adding that many office, retail and condo projects will still go back to lenders this year because cash flows have declined and, more importantly, debt coming due cannot be refinanced while credit is scarce. “Borrowers can still avoid foreclosure with creative restructuring, giving the lender an equity position in return for a lower interest rate or getting a temporary moratorium on principal payments,” he explained, pointing out that borrowers should demonstrate a willingness to take action by selling assets to raise cash or getting new equity investors.

For well-financed developers in no rush to break ground, the current slow market bodes well. “Lumber, steel, concrete and labor fall to the bottom of the cost cycle whenever development and manufacturing are stalled. By locking in material and delivery dates, and taking advantage of historically low interest rates, owners will ride out this market until conditions are right to build,” said Richard Green, Ph.D., director of the USC Lusk Center.

Green and Ross pointed to another advantage in a slow market – the opportunity for well-capitalized opportunity funds to buy distressed assets or debt at a deep discount. “More Warren Buffett-type investors will emerge this time around,” said Ross. Some of the biggest names in real estate finance emerged during the downturn in the late 1980s including Colony Capital, Carlyle Group, Whitehall Real Estate Interests and Apollo Real Estate Advisors. “These funds grew to manage billions of dollars for pension funds and global institutions while creating an abundance of value. While some are having problems with their assets now, others are positioning themselves for another good ride,” Green added.