Landmark Links July 26th – Nip and Tuck

michael-jackson-before_and_after

Lead Story… Home renovations, which are already near record highs, are projected to accelerate over the coming year according to a new report by the Harvard Joint Center For Housing titled Above Average Gains in Home Renovation and Repair Spending Expected to Continue.  The study estimates that growth in the home improvement and repair space will reach 8.0% by the beginning of 2017, well in excess of it’s 4.9% historical average.  From the Joint Center’s press release:

“A healthier housing market, with rising house prices and increased sales activity, should translate into bigger gains for remodeling this year and next,” says Chris Herbert, Managing Director of the Joint Center. “As more homeowners are enticed to list their properties, we can expect increased remodeling and repair in preparation for sales, coupled with spending by the new owners who are looking to customize their homes to fit their needs.”

“By the middle of next year, the national remodeling market should be very close to a full recovery from its worst downturn on record,” says Abbe Will, Research Analyst in the Remodeling Futures Program at the Joint Center. “Annual spending is set to reach $321 billion by then, which after adjusting for inflation is just shy of the previous peak set in 2006 before the housing crash.”

Housing sales do indeed spur renovation activity, but there is something else at play here not referenced in the study that we seem to be witnessing a lot of lately: a market with increasing prices, little move-up inventory and low sales will lead to renovations as well.  It’s been well documented that the number of move-up homes on the market has been shrinking, meaning that those who wish to trade up out of an entry-level home have few options that are often bid up to high sale prices.  Calculated Risk’s Distressing Gap chart helps to explain this: new home sales are still extremely subdued (although recovering lately) and existing home sales are still well off their prior peak despite a growing population.

In most markets, if you are an owner of an older, entry level home and you want to upgrade, there are currently few options despite the fact that you may be sitting on a large amount of equity as prices have appreciated.  At the same time, debt yields have plummeted, sending mortgage rates plunging to record lows.  So what do you do?  Tap into some of that home equity to fix up your existing home (and, for Californians maintain a low property tax basis).  This is a potentially-self-perpetuating cycle where starter homes get upgraded and people stay put longer, meaning that new construction is being relied upon for an ever-higher percentage of entry level supply.  However, it becomes particularly daunting to build new homes at an entry level price point when approximately 24.3% of the final sale price of a new home is attributable to regulation.  “We could see percentage growth rates in the remodeling and home- improvement sector that exceed those for new home construction in the next few years,” according to Brad Hunter, chief economist with HomeAdvisor, an online home services marketplace.  Great news if you own stock in Home Depot, Lowe’s, Masco, etc or own a home in an aging neighborhood where this is going on but I’m not as convinced as the Joint Center authors are that it will necessarily lead to higher sale volume.

Economy

Still Bright: Despite all of the noise and bold print headlines, Bill McBride of Calculated Risk still doesn’t see an impending recession.

Yellow Light: JBREC sees Baby Boomer retirement keeping a lid on US economic growth through 2025.

Flattening: Renters (at least those at the high end), are starting to get some relief from ever-rising rents as inventory grows.  This could lead to lower inflation, making it more difficult for the Fed to hike rates.  See Also: Yellen still waiting for overwhelming evidence to warrant a rate hike.

Commercial

Feeding Frenzy: Restaurants, not shops, are  increasingly becoming the driving force behind retail centers in the US. See Also: As e-commerce continues to hit retailer margins, the mall of the future will offer dinner, movies….and a colonoscopy.

Crowding Out: Vancouver’s port is facing a potential crisis as the local housing boom continues to encroach onto former industrial sites leaving operators with few options for warehouse space.

Residential

Telecommuting: The boom in co-working space, combined with insane home prices and rents in the Bay Area has made telecommuting from low-priced rust belt cities a reality for some former Bay Area tech workers.

Roadblock: Construction labor unions are  throwing a hissy fit and fighting Governor Jerry Brown’s plan to make it easier to build more housing in California because he has thus far refused to make a massive union handout part of the deal.

Sale of the Century: It’s apparently a great time to buy a mansion in the Hamptons as the market has cooled with sales down around 60% from last year……if you have around $10MM or so to burn.

Profiles

Dinosaurs: Believe it or not, VCR’s are still being produced in Japan but won’t be after this month.

The Juice is Loose: David Ortiz aka Big Papi of the Red Sox who was washed up a couple of years ago, hit a home run so hard that it got stuck in Pesky’s Pole, because steroids.

Chart of the Day

High Building Costs Make it Tough to Construct Affordable Homes

WTF

Lazy Shit: For those of you who don’t like to lift a finger to do much of anything, there is now an app called Pooper that allows you to summon someone to pick your dog’s poop up off the sidewalk or your neighbor’s lawn.  Don’t laugh, it was valued at $850MM in it’s latest funding round.

That Escalated Quickly: In-store video footage captured a man attempting to build a chemical weapon in a California Walmart.  See Also: Five weird crimes that could only happen in a Walmart.

Tenement: Members of Australia’s Olympic team refused to move into Rio De Janeiro’s Athlete’s Olympic Village over safety concerns and issues with plumbing.  Rio’s mayor responded by offering to get them a kangaroo in order to help them feel more at home to which an Aussie team spokesperson replied: “we do not need kangaroos, we need plumbers to account for the many puddles found in the apartments.”  This has the potential to be a huge mess.

Landmark Links – A candid look at the economy, real estate, and other things sometimes related.

Visit us at Landmarkcapitaladvisors.com

Landmark Links July 26th – Nip and Tuck

Landmark Links May 6th -Exodus?

Rush to the Exit

Lead Story… We’ve been talking a lot about the Bay Area market over the past few weeks and there are a few signs that some of the most egregiously expensive ones like San Francisco are nearing a breaking point where even well-paid employees can’t afford to live there anymore and may begin to leave.  A survey by the Bay Area Council published earlier this week found that 34% of Bay Area residents are considering leaving due to high housing costs and traffic.  I know that I’m starting to sound a bit like a broken record but….

“We can whine about this, or we can win by solving our traffic and housing problems,” Carl Guardino, president of the Silicon Valley Leadership Group, told The Mercury News. “The last time the Bay Area had seemingly solved its traffic problems was the worldwide recession of 2008. A recession is not how we want to solve our traffic and housing problems.”

I think it goes without saying that relying on massive global recessions to correct your cost of living and traffic issues is far from a viable long term solution.  For years now, service workers, educators, policemen, firemen, etc have been priced out of these and similar markets.  It should not come as a surprise that Bay Area school districts are facing a teacher retention crisis along with their housing crisis.  Teachers haven’t been able to purchase homes in the area for years.  Now they can’t afford to rent either.  Their salaries aren’t adequate to justify a long commute.  Cities have been aggressively increasing teacher pay but they can’t keep up with cost of living increases:

For a teacher earning $73,000 — the average teacher salary in the nine-county Bay Area — a rent payment of $1,800 would eat up 30 percent of monthly income. And just finding a rental at that price would be very difficult in this economy. The average monthly price for studio apartments in the Bay Area is $2,137, according to RealFacts, and two-bedroom, two-bath apartments are going for $2,850 — and for much more in hot markets.

“Every year we have a problem. It’s always a challenge to make sure that the schools are staffed,” said Jody London, an Oakland Unified school board trustee. “But with the rapidly rising housing market, the fact is it’s crazy right now. And it’s getting harder for teachers to stay in Oakland.”

And that’s in Oakland, which, while expensive isn’t close to Silicon Valley or San Francisco.  So how do you fix things?  Beyond building more housing  (which many younger residents are now in favor of much to the dismay of aging hippy NIMBYs), one idea is dramatically build out infrastructure to the outlying suburbs in order to fix the commuting issue and add more units where it is more affordable.    The BART is already being extended but this would require something far larger (and more efficient for that matter) in order to work.  From the Bay Area Council survey mentioned above:

Rather than building more housing in the Bay Area, 60 percent of residents say it should be built outside the region, with 84 percent saying they support stronger transportation networks between the Bay Area, Sacramento and other areas in the Central Valley to take pressure off regional housing supply.

“This is an understandable reaction to decades of failing to keep pace even minimally with the Bay Area’s housing needs and the transportation to support it,” said Jim Wunderman, President and CEO of the Bay Area Council. “There’s now an entrenched misperception that our region doesn’t have the capacity to add the housing we need. What’s unfortunate is that pushing housing outside the region still doesn’t solve the problem of supply and affordability in the Bay Area. It simply means that fewer working families and workers in lower-income jobs can afford to live here. It hurts the diversity of our region and our economy. It also means workers are commuting longer and longer distances in their cars, which pushes up damaging carbon emissions.”

The issue is that it would cost a fortune, take forever to build and would likely lead to environmentalist/NIMBY lawsuits.  Think of this as a Marshall Plan to fix area housing…assuming that it can actually get done which is, IMHO a stretch.  What I can assure you won’t work is what the City of San Jose is currently doing.  Silicon Valley’s largest city (and the nations 10th largest) has a goal of building 35,000 new units between 2014 and 2023 with 60% of that total being affordable.  Sounds like a great objective until you get into the details.  Rather than incentivizing developers to build more units,  the city is charging them an increased impact fee of $17/sf on all housing built by those evil “for-profit” developers which will then go into subsidized housing, which is apparently what San Jose means when they say “affordable” since it gets incredibly difficult to build market rate housing that’s anything close to affordable when you start layering on fees. Naturally, developers are mostly staying away and the city built only 426 units of affordable housing last year, around 20% of it’s lofty goal of 2,100/year.

Back to my broken record: the only way to fix the affordability crisis is to build more units to satisfy the demand in the region.  That won’t happen so long as cities continue to hike fees to the moon and make the entitlement process increasingly difficult.

Economy

Leading Indicator: The Wall Street Journal has seemingly cracked the code to the health the tech sector: sales of ping pong tables from a store in San Jose.  Lets just say that the tables have turned.  I bet you can find a great ping pong table on Craigslist though.

How Low Can You Go: Earlier this year, the dollar was on a tear as the Federal Reserve indicated that they would raise rates at least 4 times in 2016.  That likely isn’t happening as a sluggish economy plus mounting financial disasters abroad have made the Fed increasingly dovish, sending the greenback into a tailspin and leaving it at a 15-month low.  Interest rates and mortgage rates have both stayed low now that sluggish growth appears here to stay for the foreseeable future.  If dollar depreciation continues, one must wonder if a resurgence by foreign investors is in the cards.

Commercial

Market Update: Our friends at JCR Capital see market fundamentals disconnecting from tepid investor appetite, creating opportunity.  As always, their quarterly market commentary is a must read.  It goes hand in hand with our comments about the land market versus the home sale market that we made previously.  In a related story, fundraising for private equity real estate funds is slowing.

Don’t Call it a Comeback: After starting the year off extremely poorly, CMBS loans for multi-family assets are making a comeback, albeit with tougher underwriting standards.

The Commercial Real Estate Market in Once Sentence: FOOP (Fear of over paying) is the new FOMO (fear of missing out).

Residential

Shots Fired: Bill Pulte, the founder and largest shareholder of Pulte Homes had some very pointed criticism of his hand-picked CEO Richard Dugas before the company’s annual shareholder meeting this week. Basically, Pulte accused Dugas, a former protege of being incompetent when it came to monetizing existing land positions, leading to poor company performance and demanded his resignation.  Analysts don’t anticipate Dugas leaving anytime soon.  In recent years, the company has focused on profitability over growth and was mostly sidelined from buying land positions in 2012-2013 when others were active.  Much of this stems from the Centex merger in 2009 according to the Wall Street Journal.  That transaction saddled the new company with a ton of land inventory that they had to write down effectively sidelining them from buying lots at a better basis when the market bottomed out.  They are still sitting on some of those lots today even while out buying more.

Sluggish: The previously-hot million-million-dollar-plus home sale market is slumping. See Also: Some of America’s fastest moving housing markets are slowing down.

Profiles

Hero: The next time that someone asks me why I like dogs more than people, I’m going to send them this:

A four-year-old white Labrador called Dayko has been hailed as a hero after rescuing seven people from the aftermath of the Ecuador earthquake – before dying from exhaustion.

RIP Dayko….and now I need a Kleenex.

Chart of the Day

I’m finding myself wishing that I was seeing more of this….

WTF

Finger Lickin’ Good: A woman in Florida (naturally) reported to local police that a chicken sandwich that she ordered “contained semen.”  Consider this a friendly reminder that fast food is disgusting.  Also, if you absolutely must eat at a KFC, don’t ask for extra mayonnaise.

Mistaken Identity: Villagers in Indonesia were disappointed to learn that an “angel” that fell from the skies is actually a sex toy.  The quote from this article is to good not to post:

The tale begins in Bangaii, days after an auspicious solar eclipse appeared over the region. A 21-year-old fisherman was walking the beach when he spotted a beautiful, lonely angel on the sand. Naturally, he took her appearance as a sign from heaven and he gently bundled her up and took her home.

There, he attired her in a blouse and skirt, which his parents changed daily as a sign of respect. Intrigued by reports (or maybe just really bored), local police visited the house to see the angel for themselves.

There, they made the less-than-holy discovery.

“It was a sex toy,” police chief Heru Pramukarno told a local newspaper.

What was unclear was whether that ruined or made the fisherman’s day.

Landmark Links – A candid look at the economy, real estate, and other things sometimes related.

Visit us at Landmarkcapitaladvisors.com

Landmark Links May 6th -Exodus?

Landmark Links May 3rd – Mind the Gap

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Lead Story… The Washington Post posted a fascinating series this weekend with interactive maps last week about the tremendously uneven recovery in the US housing market.  The first story focused on the nation as a whole and the others drilled down on the Bay Area and Atlanta.  They are posting similar articles on DC and Charlotte later this week.  The underlying theme of these stories is that more affluent sub-markets have experienced a strong recovery from the housing bust while less-affluent secondary markets that often saw the most new home construction activity in prior cycles are still languishing.  Many primary markets have blasted past their prior peak in terms of pricing while secondary (and tertiary markets) are still well below, contributing greatly to a widening wealth divide:

The findings of The Post’s analysis underscore another way in which the economy, despite its improvements over the past several years, continues to deliver better returns for some Americans than others.

In good times, housing converts income into wealth. It turns a paycheck into the next generation’s inheritance. But in neighborhoods that haven’t weathered the past decade as well, homes have become a source of debt, a physical trap and an obstacle to life’s other goals.

The Bay Area story focused on the divergent fortunes of San Francisco which has boomed like no other market in the US post housing bust and Stockton which was ground zero for the housing crash and foreclosure crisis in the Central Valley and has failed to recover. The difference between the two markets which are separated by only 80 miles of freeway could hardly be more striking:

You get there (Stockton) on Interstate 580, through 80 miles of suburbs and farmland, up into the bald hills of the Diablo Range that are suitable for neither. The highway, eight lanes wide, cuts through at the Altamont Pass, 1,009 feet above sea level. And then the hills part and California’s Central Valley comes into view: an unexpectedly flat landscape that feels very far from San Francisco, and where Stockton and its neighbors are still suffering the lingering effects of the worst housing bust in the nation.

The low ridge line is a physical barrier between unequal fortunes, between record housing riches in the Bay Area and an epidemic of lost wealth in the Central Valley. Home values have doubled in some San Francisco and Silicon Valley Zip codes in little more than a decade. But in the hardest-hit Stockton Zip codes, homes over this same time have lost 20 percent of their value.

Believe it or not, it hasn’t always been this way.  Decades ago, average incomes in Stockton and SF were somewhat comparable and the gap between housing cost was far smaller. Beginning in the 1990s, incomes and population grew and the Bay Area’s housing supply simply didn’t keep pace, resulting in very expensive housing prices and pushing people who wanted to own a home out to the Central Valley and leading to the phrase: “drive until you qualify.”

During the boom years, the moving trucks brought over the Altamont Pass families that were priced out of increasingly expensive communities around the Bay. Hardly anyone moved in the other direction.

Those households helped bring the housing fever with them: a $400,000 enthusiasm for $200,000 homes, a faith that $400,000 homes should become $500,000 jackpots.

They brought demand for entire new subdivisions and communities built on former asparagus farms and almond orchards. And entranced by all the money the government reaped in development fees when those subdivisions were built, Stockton built a beautiful new arena downtown, next to a new minor-league ballpark, right by the site of a planned new marina on the inland channel that leads back out to the coast.

At the time, the rapidly rising home values seemed to say something about Stockton itself — that this was a place that was coming up, that was finally poised to share in the Bay Area’s prosperity.

However, all was not well behind the scenes and incomes were mostly stagnant in the Central Valley during the housing bubble, all of which led to serious dislocations that the area was ill-equipped to deal with once the speculative value of it’s housing stock collapsed:

In San Francisco and Silicon Valley, incomes were rising during the bubble years. And the growing demand to live in the Bay Area was outstripping the supply of homes, pushing up prices. But the longtime agricultural economy in the Central Valley wasn’t taking off. Incomes weren’t rising as home prices were. And there wasn’t a shortage of housing.

In the run-up to the bust, though, very different communities started behaving similarly — not just out here, but across the country, says Nobel Prize-winning economist Robert Shiller, who is credited with having predicted the housing crash when few others believed a bubble existed.

“I think that the people in the Central Valley view themselves as a different kind of Californian,” he says. These are practical agricultural people, not tech entrepreneurs; they live in spread-out ranch homes, not ornate Victorians. But in the housing frenzy, the idea of that difference broke down. Whatever was happening in the market on the coast seemed relevant to what should happen here in the great big Northern California economy.

We know that this ended extremely badly as the Central Valley got overbuilt and oversupplied, cities took on too much debt and Stockton became the poster child for the foreclosure crisis in the US once home prices collapsed under their own weight when the mortgage market imploded.  The Bay Area’s housing market, on the other had held up relatively well through the bust years and then rebounded strongly on an epic run fueled by a resurgent tech industry fueled by a tidal wave of venture capital investment and lack of new housing supply due to restrictive zoning and politically powerful NIMBYs.  Only this time around the recovery failed to move inland as prices increased in the Bay Area.

This phenomenon is not limited to the Bay Area and the Central Valley.  We’ve seen it up and down the state of California over the past several years where coastal markets have boomed and inland markets have stagnated.

I decided to look at things from a bit different angle and take a look at relative pricing between markets. With help from our friends at Market Insite Real Estate Advisors as well as Steve Reilly who covers the Bay Area for Land Advisors Organization, we put together an analysis of home prices in coastal production housing markets vs. inland production markets to show how previously strong pricing relationships have broken down badly during the bust and subsequent (coastal) recovery.

For the Bay Area vs. Central Valley chart, we used Dublin as the primary East Bay production market and Tracy as the secondary Central Valley production market.

IMG_1874

Source: Steve Reilly

Click Here for Enlarged Image

For the Southern California chart, we used Irvine as the primary coastal production market and Chino as the secondary Inland Empire production market.

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Click Here for Enlarged Image

Source: Market Insite Real Estate Advisors

As you’ll notice above, we used resale data rather than new home.  We did this because it’s a much more robust data set (there are a lot more resales than new home sales) and also because the product mix changes more gradually over time whereas the new home product mix can vary greatly as new neighborhoods come online and more mature ones sell out.  It also allows us to look at price independently from other local issues like rising impact fees which could cause changes in the type of product that a builder needs to construct in order to turn a profit.  However, this data is mostly applicable to the new home market as well, only the prices tend to be higher for new units.  Unfortunately, our data only goes back 15 years.

What’s striking about both of the above charts is just how much prices in the primary markets has moved away from the secondary markets in the wake of the housing bust. Before 2008, Dublin achieved a fairly consistent premium of between 50% – 75% over Tracy.  Once we hit 2008 and the foreclosure crisis mounted, that premium rose to 175% and has since settled in the high-130%s to mid-140%s over the past few years.  Dublin is now nearly $100k above it’s prior peak pricing while Tracy is over $142k below it’s peak.  Almost the same thing happened in the Irvine vs. Corona chart where Irvine was historically 60% – 90% more expensive than Corona before 2008.  At that point, the pricing relationship broke down, widening out to 186% in 2012 before tightening back to 136% today.  Irvine has exceeded it’s prior peak by $90k while Corona is $131k below it’s peak.

In the past, prices this high near the coast would lead to a building boom in the secondary markets as workers look for more affordable options, leading to housing starts, new jobs and rising wages in those markets.  In other words a virtuous economic cycle.  That hasn’t happened this time around though as the primary markets have continued to outperform. While primary markets often get a lot of attention, the real increase in housing starts usually comes from the secondary or production markets.  Why?  Because land costs are far lower allowing builders to construct housing that a larger subset of the population can afford.  In other words, if the secondary markets remain weak, it’s very difficult for home builders to achieve substantial volume when it comes to starts and sales.

The issues that led us to this point are both numerous and complicated: a bias against starter homes by young households who saw their parents or friends get stuck underwater in secondary markets during the bust, Millennials starting families later mixed with a demographic boom in the 20-25 year old age range, a lack of job growth in secondary markets, a lack of move-up home inventory, tepid job growth, a growing preference for the mobility of renting over the stability of owning, workers seeking to avoid commutes, etc.  However, there are essentially four possible outcomes when it comes to the primary vs. secondary gap:

  1. The new pricing relationship holds or widens further as households permanently shun the secondary markets in favor of primary ones
  2. Primary market prices fall
  3. Secondary market prices rise
  4. A combination of 2 and 3

We are well aware of the anecdote that “when Orange County catches a cold, the Inland Empire gets the flu.”  I’m sure there is a similar saying up north.  Several investors have voiced this concern recently citing seemingly overheated primary markets as a reason to avoid investing in the secondary markets.  IMHO, the flaw in that logic is that the secondary markets never actually recovered from “the flu” this time around.  They didn’t follow the primary markets up and they could represent a good relative value play if primary market prices and rents stay elevated.  The coming demographic expansion in the 30-39 age group that will last until roughly 2030 could provide a tailwind in secondary markets as well.

demographics

Economy

Bargain Basement: Energy expenditures as a percentage of personal consumption expenditures have literally never been lower.

Tilted Playing Field: Geography is an indicator of income (and housing costs) as never before and it doesn’t appear to be getting better anytime soon.

Commercial

Re-purposed: The continued demise of malls has nimble landlords re-positioning long-vacant space as medical and dental offices or movie theaters.

Inflection or Pause? Multi-family has been the best performing real estate class for several years.  However, a large wave of new supply and slowing rent appreciation have some asking if the market is overheated.  It bears asking, what would the apartment look like if new loan initiatives cause Millennials to reverse trend and favor buying over renting at traditional levels.

Profiles

The Biggest Underdog: We have written about this before but if you weren’t following Leicester City clinch the English Premier League title you just missed the biggest upset in sports history.  That’s not hyperbole.  The Cleveland Browns have 200-1 odds to win the Super Bowl.  If you think that’s a long shot, consider that Leicester City was a 5000-1 shot to win the league title…which they did by uncovering undervalued players in a soccer version of Money Ball.  The US Olympic Hockey team was a 1000-1 underdog to win Olympic gold in 1980.  You can get odds of 5000-1 that Bono will be named the next pope. This is a far cry from the Philadelphia 76ers winning the NBA Championship next year.  It’s more like your local high school basketball team winning it.  If you’re aren’t following this, you don’t know what you’re missing.

Extra Cheese Please: The US is experiencing a cheese glut thanks to a weak euro.  I’d like to personally volunteer my services to help solve this existential crisis.  Next time you’re chowing down on some cheese, don’t think about ruining your diet.  You are doing your duty as a loyal citizen.

WTF

Well, what Did You Expect? A satellite that hunts for black holes in space is lost (h/t Katie Spitznagel)

Money Well Spent: Crowd funding has both helped to democratize the investment process and bring capital to some good ideas that otherwise wouldn’t get noticed.  It has also directed donations to worthy charitable causes. However, it’s also been a vehicle for loons to pitch some truly stupid and bizarre ideas.  Check out the ten dumbest Kickstarter campaigns ever to receive money.

How Do You Say Hero in Italian? Homeless people in Bologna Italy threatened to “return to the streets” after a local soup kitchen brought in a vegan chef to help make the menu more healthy.  I’ve never been more proud to be half Italian.

Landmark Links – A candid look at the economy, real estate, and other things sometimes related.

Visit us at Landmarkcapitaladvisors.com

 

Landmark Links May 3rd – Mind the Gap

Landmark Links April 29th – The Fix is (Maybe) In

pete-rose-as-envisoned-by-someone-with-no-eyes-and-no-soul

Lead Story…. Earlier this month we linked to a story about how the already-reeling CMBS market was about to take another hit via a “risk retention” provision due to take effect later this year that would take a big chunk out of issuer profitability.  The House Financial Services Committee voted on a bill dubbed the Preserving Access to CRE Capital Act which would lessen the potentially devastating impact on CMBS.  It passed with bi-partisan support:

The bill would exempt single-asset or single-borrower CMBS from the risk retention rule. It would also make it far easier for CMBS pooled together from different borrowers to get an exemption, for example by scrapping term requirements.

Pretty much every commercial real estate trade group in the US supports this bill for good reason according to Konrad Putzier from The Real Deal:

In February, turmoil in global bond markets and the prospect of risk retention rules combined to drive mid-sized CMBS lender Redwood out of business and led to broader concerns over the health of the CMBS market. “We have concluded that the challenging market conditions our CMBS conduit has faced over the past few quarters are worsening and are not likely to improve for the foreseeable future,” the firm’s CEO Marty Hughes said in a statement on Feb. 9.

Bond markets have since calmed. The spread between 10-year Treasury swaps and most types of CMBS bonds fell between February and April, according to Trepp.

But the onset of risk retention could drive spreads up again at the worst possible time. A staggering $99.47 billion in U.S. CMBS loans are set to mature in 2017 – up from $52.42 billion this year – according to a recent report by Morningstar Credit Ratings. 46.9 percent of those loans have a loan-to-value ratio of 80 percent or more (see chart above), and Morningstar reckons “successfully refinancing many of these loans will be very difficult without sharp improvement in cash flow through 2017.”

It still needs to be voted on by the full House but this is a step in the right direction.  If lawmakers decide that they want to crack down now to lessen future risk of this sort, it could lead to some very rough times for the industry with the mountain of maturities in 2017.  Stay tuned…. (h/t Ethan Schelin)

Economy

Casino is Open for Business:  For those of you who haven’t noticed, commodities from oil to metals have rallied hard over the past few weeks, leading in part to the Federal Reserve openly pondering whether or not to raise rates in June.  However, fundamentals haven’t really changed.  Commodity markets are still oversupplied and economic data from both China and the United State is still soft at best.  Rupert Hargreaves over at Value Walk explains what has changed: Chinese investors are pouring money into the commodity future casino betting on more infrastructure stimulus:

It has since been touted that the tidal wave of money hitting commodity futures could be from the legions of private investors in China who are looking for somewhere to park their excess cash or gamble with.

This new market phenomenon coming out of China is something Bank of America Merrill Lynch’s China equity strategy research team looked at last week in a report titled, Commodity futures, Game of Thrones?….

….As China’s economic outlook is still extremely uncertain and investors are reluctant to invest in any real businesses, they have been shifting money around to invest/speculate in various assets that they believe have a good chance of increasing in price. China’s A-share rally, corporate bond rally and most recently the spike in demand for properties is possibly all the evidence you need to support this view.  Add loose credit conditions, margin trading and a small market that’s relatively easy to manipulate into the mix and you get all the right conditions for an asset bubble.

The BAML report sited above used this chart to illustrate the point of just how much money is pouring into the Chinese commodity futures markets:

Commodity BoA chart one

 

 

 

 

 

 

 

 

 

The reason that I’m posting this is twofold: 1) Sometimes fund flows between asset classes or rank speculation is more important than fundamentals in the short or even medium term; and 2) This sort of thing could have a very real impact on the US economy if it persists and the Federal Reserve starts to see the impact of higher commodity prices in real inflation data.  In other words, don’t believe everything that you see.  See Also: In (not at all) coincidental news, commodity hedge funds are hot again.

Avoid at All Costs: In a sign of just how much tech companies are shunning the public markets, there could be more tech de-listings than IPOs in 2016.  See Also: Tech companies are raising money under “dirty” structured deals with toxic terms in order to maintain sky-high valuations and avoid going public as VC investment continues to wane.

Commercial

On the Ropes: Suburban malls are hot garbage right now as anchor tenant department stores are closing up in droves, often causing a reduction in foot traffic that kills off other smaller retailers and results in virtual retail ghost towns.  This may not be an issue for high end retail centers but I can’t imagine a worse landlord situation than a mall anchored by Sears, JC Penny, KMart, etc.

Residential

Last One In: I’m generally a huge fan of the OC Housing News site.  This has to be one of Larry Roberts’ (Irvine Renter) best posts ever:

Whenever a family buys a new house, the builder constructed that house only because no local opposition group was strong enough to prevent its construction; however, once new homeowners move in, many of them immediately adopt the belief that traffic congestion is out of control and any new development will ruin the character of their neighborhood, so these nimbys band together to prevent others from obtaining the same benefit they enjoy. Through willful ignorance, these new homeowners fail to comprehend the hypocrisy of this attitude and behavior.

Undue Risk: Believe it or not, Turkey has the world’s best performing housing market right now despite social unrest and the myriad of problems associated with sharing a border with Syria.  Generally speaking, Turkish borrowers are lightly leveraged and have an extremely low rate of default.  However, the Turkish home building market is beginning to show some serious signs of distress with sales slowing, incentives increasing non-performing development loans on the rise.  Why, you ask?  For one, developers are getting way, way over their skis in terms of leverage.  From Bloomberg earlier this week:

The share of Turkey’s borrowing represented by developers is higher than at any time in the last decade, and represents almost a fifth of all corporate loans, according to the nation’s banking association. An increasing portion of those debts is going bad, with the industry’s portion of non-performing loans nearly doubling in the past five years.

“Mortgages are not the problem,” said Ercan Uysal, a banking analyst at Istanbul-based research firm Integras. “Developer leverage is.”

That sounds bad but it gets much, much worse.  It seems as if Turkish developers are also taking currency risk on top of the risk inherent in development in an effort to prop the market up and have now exposed their balance sheets to the whims of the US Federal Reserve.  Turkish developers are taking on debt and then offering below-market financing to home buyers as a loss leader:

To keep sales brisk, builders are helping buyers defray their costs. For instance, at Istanbul’s $1.5 billion Maslak 1453 development, whose name recalls the Ottoman conquest of Constantinople, the developer is offering to secure below-market interest rates and accept a 10 percent deposit — below the 25 percent minimum required for a bank mortgage…..

The dangers of a weakening currency are exacerbated for builders, because they account for a disproportionate share of Turkey’s foreign-exchange borrowing, Narain said. That creates a risk when their income is mostly in lira, a currency whose value eroded 20 percent over the course of last year.

Developers made up a fifth of the companies gaining bankruptcy protection from creditors in the first three months of this year, the most of any industry, Uysal said, citing figures from sirketnews.com, which compiles the data.

You read that correctly, they are borrowing in foreign currency (mostly dollars) when their revenues are in lira.  This would be very profitable if the dollar fell in value vs. the lira. That hasn’t been the case lately as Federal Reserve moves and rhetoric have driven the dollar higher, hitting Turkish developers hard.  I have never been involved in a real estate deal in Turkey but I can assure you that this doesn’t end well.  The developers are essentially taking foreign exchange risk in order to offer below market financing to buyers to boost absorption.  Development is risky enough without trying to take a currency bet to boost sales.

Not What it Used to Be: The wealth effect from rising home prices has been cut in half:

But See: Why the wealth effect is bunk.

Profiles

A Whale of a Problem: A 60,000-pound grey whale washed up on the beach at Lower Trestles San Onofre State Beach last weekend (it died of natural causes), drawing tourists and locals to pay their respects and take pictures.  Now comes the hard part for the California State Park System: exactly how do you get rid of a 30-ton rotting whale carcass that’s attracting sharks and stinking up the beach?  According to one resident: “It’s like the worst garbage smell you can think of,” he said, his eyes watering. “I almost threw up. It’s like death.”  Exactly what you want on your beach as we head into summer.  Apparently, the beach isn’t wide enough to bury the whale and it can’t simply be pushed into the ocean because the currents will likely push it back on the beach again.  The solution that officials have come up with is to chop it into pieces and take it to a landfill. As disgusting as that sounds, there aren’t many options and the situation is only going to get worse the longer that the whale stays on the beach decomposing. On the bright side, at least officials appear to have learned from past failures.  Back in the late 1970s, Oregon state highway officials strapped dynamite onto a dead rotting whale and attempted to dispose of it demolition style. That ensuing disaster that crushed a car 1/4 mile away lives on in what I still consider to be the most un-intentionally funny news segment ever aired.

Chart of the Day

Submitted from Visual Capitalist

Visualizing Data: How the Media Blows Things Out of Proportion

WTF

Employee of the Month: Watch a disgruntled airport employee destroy a jet with a backhoe.  I’m guessing this happened in Russia  mainly because this seems like something that would happen in Russia.

That Wasn’t on the Menu: Customer found a deep fried chicken head, beak and all in their meal at a fast food restaurant in France.  Let this be a reminder to all of you that fast food is disgusting.

Well Paid: Meet the Minnesota auto body shot owner who (allegedly) compensated his employees with meth bonuses.

Landmark Links – A candid look at the economy, real estate, and other things sometimes related.

Visit us at Landmarkcapitaladvisors.com

Landmark Links April 29th – The Fix is (Maybe) In

Landmark Links April 26th – Disconnect

Disconect

Lead Story… Goldman Sachs published a research note last week that CNBC posted some excerpts of, making the case that the construction labor shortage isn’t to blame for the sluggish home builder performance:

“Our analysis of payroll growth and wage inflation data suggests that labor shortages may not be to blame for the mediocre level of housing activity,” Goldman Sachs analysts wrote in a report this week. “We find that, on the one hand, the construction sector has experienced the largest job growth over the past year.”

Construction growth has led all other sectors at 5 percent, according to the Bureau of Labor Statistics, but average hourly earnings in construction gained only 2.2 percent over the past year, which is about the national average.

“Economics 101 would suggest that, if labor shortages did in fact exist, upward pressure on wages would be more pronounced and payroll growth would be anemic,” the report said. “Therefore, the evidence from the industry-level employment and wage data does not support the existence of labor shortages in the construction sector.”

Goldman instead pointed to permitting delays and land scarcity as the culprits, citing a report from JBREC’s Jody Kahn that we posted earlier this month:

A survey of 100 builders nationwide by John Burns Real Estate Consulting backs that thesis. They asked about costs that didn’t exist 10 years ago, and found high levels of builder frustration, not just from labor, but from cost overruns stemming from new regulations for house erosion control, energy codes and fire sprinklers. They also cited understaffed planning and permit offices as well as utility company delays.

“New regulations to protect the environment and to shore up local city finances have made it extremely difficult for home builders to build affordable homes,” the Burns analysts wrote. “Now, more than ever, the demand for affordable entry-level housing will need to be met by the resale market, since new homes have become permanently more expensive to build. We were overwhelmed by the reply as well as the builders’ level of frustration.”

I agree with what they are saying to an extent as the construction labor shortage Isnt the sole culprit, but first we have to put things in context.  Yes, we are rebounding but it’s from a very low level when it comes to construction employment:

The CNBC story made two important clarifications: 1) The labor shortage is a much bigger deal on the west coast (most of our clients would agree); and 2) The construction industry has failed miserably when it comes to to attracting younger workers and is stuck with an aging workforce (again, our clients have verified this):

There is a labor crunch, though, in some parts of the country, more so in the West, as a considerable number of the construction workers who left during the recession still have yet to return.

The average age of a construction worker today is far higher than it was during the housing boom, Michelle Meyer, deputy head of U.S. economics at Bank of America Merrill Lynch Global Research, said Tuesday on CNBC’s “Squawk Box.” Builders need to attract younger workers, but they seem, so far at least, unwilling or unable to pay them more.

IMHO, there are a number of issues conspiring to make this a very difficult environment for builders and developers.  Permitting delays, a lack of developable lots, low affordability, more stringent mortgage underwriting, people forming households later in life, labor shortages, high costs, lack of development financing, almost no new entry level product, etc.  Builders could probably overcome a couple of these but add them up together and you have the perfect storm for a relatively moribund home building recovery.  This sluggishness is leading to capital market pessimism.  Meyers Research noted last week that their investor round table is expecting a downturn in land in the not-too-distant future which is causing them to proceed cautiously:

  • The train may arrive early: While a national economic recession is still on the horizon, the recession is now expected within the next two years, which makes investing in a residential land opportunity more interesting.

  • Possible repricing ahead: In fact, some groups are suggesting that land will be “on sale” within the next 6-18 months. Widespread distress is not expected, but neither are decreasing home prices. It’s simply an expectation that some return-based land owners may be experiencing deal fatigue and be willing to accept a modest return rather than endure another cycle.

  • “Multiple” Opportunities: Some of the larger, more patient capital sources are expecting this to be an attractive buy opportunity where they can “play for the multiple”. The challenge is that few of these investors are looking to develop land. The heavy capital requirements of land development are not justifiable today and banks remain tepid toward land development. It is not a stretch to expect the for-sale market to remain under-supplied, or at least not oversupplied, for a protracted period. This condition surely will reduce the risk of capital loss for patient investors but make things challenging for home builders who need land as their most basic raw material.

At some point this becomes a self-fulfilling prophecy where lots fall in value due to a dearth of capital availability where investors pull back to wait for a better entry point.  This couldn’t be more different than the 2007-2008 scenario where there was plenty of lot and home supply that weighed on the market heavily once subprime lending (and demand from marginal buyers) vaporized.  No, in this case homes could actually keep going up in value, getting less affordable while new construction continues to slow and land development grinds to a halt.  Why?  Because people are still forming households and there is still demand that will likely continue to outstrip supply of development slows further.

Private equity investors made large investments in land coming out of the downturn, banking on a strong rebound when home values began to rise.  Many of them have been disappointed with the results and many portfolios haven’t hit expected returns despite home prices and lot prices generally rising.  This has mainly been due to the various headwinds facing development and home building that I mentioned above.  The prevailing view on Wall Street appears to be that land is overvalued but home prices may not be which is why Meyers sees the potential for land to go on sale while low supply keeps home prices elevated. Ironically, developers and their capital partners could have been spot on underwriting finished lot values and still under-performed due to permitting delays and cost inflation.  Developers and their equity partners are also struggling since home builders are now demanding finished lots whereas they were previously buying unimproved but mapped land and did their own improvements.  Improving lots is very capital intensive as mentioned in the Meyers report above and your average developer has a substantially higher cost of capital than a public home builder does.

I’m of the opinion that the correction has been underway since 2014 when builders essentially stopped buying paper lots in all but the most infill locations since underwritten returns on land improvement and horizontal construction are now higher (ask a west coast based land broker and they will likely confirm this). All told, we could be setting up for a somewhat bizarre scenario where land prices languish as development risk gets repriced while home prices stay firm or go higher.

Economy

Look at the Bright Side: As lucrative oil jobs dry up,  some workers are jumping ship to the growing solar energy sector.

Commercial

Just Speculating: Spec construction is on the rise as tenant demand continues to fuel the industrial sector.

Residential

There’s a Freeway Running Through the Yard: Buyers in high priced markets like Los Angeles will put up with a lot, including a home adjacent to the freeway to find something even moderately affordable. See Also: Home price surge stymies first time buyers.

Profiles

Keeping Up With the Googles: Traditional businesses are making their offices look like startups in a bid to appear “cool” to millennials.  However, what many of these traditional businesses run by 50 year old execs don’t grasp is that the appeal of the startup lies in the excitement of the concept, the culture and the idea that you are getting in on the ground floor….oh yeah, I almost forgot about the ability to participate in the upside if the company makes it big.  These are things that your typical advertising agency will never offer and nap pods, ping pong tables and hip office design in an old-school business are superficial and come off as pandering.

Better Off Just Dripping: The Dyson Airblade jet dryer is really bad for hygene. A new study shows that using one is akin to setting off a viral bomb in an already-disgusting public restroom.

Chart of the Day

The latest update of Bill McBride’s “Distressing Gap” doesn’t look to be closing anytime soon.

WTF

Makes Sense to Me: A woman in South Carolina crashed a car into a Walmart.  She claims that God told her to do it.

Video of the Day Twofer: Watching disgruntled construction workers battle it out on the street with heavy machinery is my new favorite pastime. (h/t Ian Sinderhoff)

The Law of Unintended Consequences: An animal rights activist group “freed” an ostrich from the circus.  It was promptly hit by a car and killed.  Turns out that ostriches aren’t well equipped to handle an urban environment in Germany.  Who would have though?

Landmark Links – A candid look at the economy, real estate, and other things sometimes related.

Visit us at Landmarkcapitaladvisors.com

Landmark Links April 26th – Disconnect

Landmark Links April 22nd – The Rise of BARF

barf1

Lead Story…. We’ve been spending a lot of time lately talking about what’s going on in the high priced/high barrier to markets.  Of particular interest is San Francisco since it’s a market that Landmark is quite active in and it also has the most stringent land use restrictions (and the arguably worst affordability crisis) in the US.  Recently Tyler Cowan of Marginal Revolution posted a piece summarizing a new book that urbanist Joel Kotkin published and made the following head-scratching statement:

Lots of high-density, vertical building doesn’t really make cities cheaper.  In fact it sucks more talent in, and more business activity, and in the longer run makes cities more expensive.  Just look at Seoul and Singapore, which have built plenty but are nonetheless considered some of the most expensive cities to live in.  After all, isn’t that the increasing returns to scale story?

This in spite of overwhelming evidence that cities that add units are more affordable than those that don’t.  Let’s try a quick thought experiment: San Francisco currently has around 382,000 housing units.  Hypothetically, let’s assume that SF suddenly becomes Houston overnight and decide to build like crazy, sending that number up to 1.5 million units in a few years.  Raise your hand if you think this will have no impact on prices and rents.  Now take that same hand and slap yourself in the face until you realize that San Francisco is not magically immune to the laws of economics.  Kevin Erdmann penned a strong retort to this, pointing out that first off, it’s not accurate and, even if it were, building more density would still have a highly desirable outcome:

Even if it is true, it would be an even better reason to build, because it means that the value of density is practically limitless….On careful reading, I don’t think Tyler is saying this is a problem, per se.  He’s just saying building won’t lower costs.  But, even here, I think it would be quite a jump to argue that greatly expanded building in the Closed Access cities would not benefit the current residents who are being stressed by rising rents.  Even if expansion only led to more rising incomes and rising rents, the increased local market for non-tradable services would surely raise the incomes of current residents, too.  They would likely get some relief from rising incomes, even if rents didn’t relent.

We mentioned a few months ago that restrictive zoning as a driver of income inequality was an issue that would start getting more national attention once it started showing up in papers from economists employed by the Federal Government and across the political spectrum.  It is now indeed happening.  That brings us to BARF.  Last weekend the NY Times published a profile piece on a new political advocacy group called the Bay Area Renters Federation or BARF.  There are plenty of left leaning renter advocacy groups out there so what’s so special about BARF (aside from a great acronym) that garnered them a large profile in the weekend edition of the NY Times? Unlike most renters advocacy groups that focus on subsidized housing, BARF is very, very pro development.

Sonia Trauss is a self-described anarchist and the head of the SF Bay Area Renters’ Federation, an upstart political group that is pushing for more development. Its platform is simple: Members want San Francisco and its suburbs to build more of every kind of housing. More subsidized affordable housing, more market-rate rentals, more high-end condominiums.

Ms. Trauss supports all of it so long as it is built tall, and soon. “You have to support building, even when it’s a type of building you hate,” she said. “Is it ugly? Get over yourself. Is it low-income housing? Get over yourself. Is it luxury housing? Get over yourself. We really need everything right now.”

Her group consists of a 500-person mailing list and a few dozen hard-core members — most of them young professionals who work in the technology industry — who speak out at government meetings and protest against the protesters who fight new development. While only two years old, Ms. Trauss’s Renters’ Federation has blazed onto the political scene with youth and bombast and by employing guerrilla tactics that others are too polite to try. In January, for instance, she hired a lawyer to go around suing suburbs for not building enough.

As you can probably imagine the San Francisco old timers and aging hippies are not fond of BARF:

Ms. Trauss is the result: a new generation of activist whose pro-market bent is the opposite of the San Francisco stereotypes — the lefties, the aging hippies and tolerance all around.

Ms. Trauss’s cause, more or less, is to make life easier for real estate developers by rolling back zoning regulations and environmental rules. Her opponents are a generally older group of progressives who worry that an influx of corporate techies is turning a city that nurtured the Beat Generation into a gilded resort for the rich.

Those groups oppose almost every new development except those reserved for subsidized affordable housing. But for many young professionals who are too rich to qualify for affordable housing, but not rich enough to afford $5,000-a-month rents, this is the problem.

Adding to the strangeness is that the typical San Francisco progressive and the typical mid-20s-to-early-30s member of Ms. Trauss’s group are likely to have identical positions on every liberal touchstone, like same-sex marriage and climate change, and yet they have become bitter enemies on one very big issue: housing.

If the affordability/restrictive zoning issue is going to improve, there are going to need to be a grass roots movements like this to combat the entrenched NIMBYs.  IMO, we are likely to see more of these groups popping up in closed access cities as prices and rents continue to rise.  The California Legislative Analyst’s Office has taken notice and published a report in February stating that underdevelopment with the main cause of high prices in coastal cities.  However, there is only so much that state government can do (or frankly that we would want them to do).  The locals in these cities are going to have to start making as much noise supporting projects as the NIMBYs are opposing them so hats off to BARF for taking up the fight in San Francisco.

Residential

Upside Down: In Denmark and Sweden, negative interest rates have led to a real estate boom and have even resulted in negative interest rate mortgages in some instances.

Lifestyles of the Rich and Famous: While entry level sales struggle, high end realtors are providing helicopter real estate tours for wealthy clients and luxury developers are throwing in memberships in private jet charter programs for buyers of premium condo units.

Profiles

Growing Pains:  Several years ago, online lending companies like Sofi, Lender Club and Prosper were the darlings of the banking world.  They rolled out a peer-to-peer model that was touted as faster and more reliable than heavily regulated plodding banks and sure to turn the conservative lending industry on it’s head.  Last week Fitch released a report highlighting concerns about the online lenders and their business models which was picked up by Fortune:

The problem, according to Fitch, is that online lenders are taking on riskier borrowers than they originally suggested they would. And they have perhaps been relying too much on credit scores, which the fintech lenders appear to be recognizing. “Pockets of recent credit underperformance beyond initial expectations have likely contributed to the ongoing refinement of underwriting models, including further de-emphasizing of the use of traditional FICO scores in certain instances,” Fitch said in its note. In other words, traditional banks may actually be able to assess borrowers with more accuracy, then the data-driven fintech lenders.

So they are taking on riskier borrowers than they initially said they would AND their underwriting models are proving to be weak.  They also have high loan delinquencies and, perhaps most importantly: this model hasn’t yet been tested through a full interest rate or credit cycle. Sounds great so far, huh?

Fitch made another very important point – the online lenders aren’t really lenders at all:

Online marketplace platforms aren’t actually lending, rather they typically match up potential borrowers with the source willing to fund the money—such as hedge funds, institutional investors, or even traditional banks. As a result, the “lack of alignment of interest due to separation of lenders and originators . . . present additional challenges,” according to Fitch.

This arms length relationship enables companies like Lending Club to earn oodles on fees for a while, and not actually have to be responsible if the loans go bad.

That can work for a while. The trouble is that if quality is bad, the actual lenders, that is the hedge funds and others that fund the loans are going to stop coming back for more. And that’s exactly what’s going on. “As institutional demand waned in recent months, marketplace lenders began to seek alternative funding sources to sustain loan originations,” Fitch says.

If that sounds familiar to you, it’s because it’s pretty much exactly what happened in mortgage lending before the bust when banks got stuck with a bunch of crappy paper after investors balked.  The online lending business is minuscule compared to  the mortgage market so I don’t expect much to come from this.  However, it bears mentioning.  As Mark Twain once said “History doesn’t repeat but it rhymes.”

 

Chart of the Day

WTF

Banned: The California State Senate voted earlier this week to ban Palcohol or powdered alcohol.  If the concept of consuming alcohol in powdered form sounds at all appealing to you, please stop reading this blog immediately and check into your nearest rehab because you have a problem.

What Happens in Vegas: Las Vegas hotels are about to start offering virtual reality porn in your room for $20.  No word on how the Vegas hookers are taking this news.

Smart Move: China has made the brilliant move of banning rich kids from appearing on reality TV shows that make them look like rich douche bags.  It’s a shame that the Kardashians don’t live there.

Landmark Links – A candid look at the economy, real estate, and other things sometimes related.

Visit us at Landmarkcapitaladvisors.com

Landmark Links April 22nd – The Rise of BARF

Landmark Links April 15th – Looming

Golden Gate

Lead Story…  Another day, another story about one of America’s astronomically expensive and typically chronically under-supplied markets getting hit with a massive wave of high end condos (and high end apartments).  Over the past few weeks, we focused on New York, Miami and even Hong Kong.  Today it’s the patron saint of expensive US housing markets, San Francisco.  Even casual follower of the residential real estate market are well aware of the lack of supply and nose-bleed prices that people pay to live in SF for a whole bunch of reasons.  However, as Wolf Richter notes in Business Insider this week, things appear to be changing.  According the the SF Planning department, there are 44,700 units in the pipeline from “building permit filed” to “under construction.”  That doesn’t include the 17,900 units approved but not yet permitted.  Nor does it include the 23,980 units that are approved in the Park Merced, Candlestick and Treasure projects that are approved but could take well over 10 years to build out.  That’s a ton of inventory coming online in a city with only 382,000 units in it’s existing housing stock.  The impact is already being felt in the condo market:

In the first quarter of 2016, various market segments in the city began to trend in significantly different directions. Houses, especially those below $2 million, are still often selling in a frenzy of bidding: Recent reports of houses selling with 5, 10 or more competing offers are not uncommon, especially in neighborhoods considered more affordable (by San Francisco standards). Demand remains very high, supply remains extremely low, and new house construction is virtually nil.

As of early April, the number of condo listings actively for sale in MLS is up over 40% year over year, and that does not include most of the new-construction condo units hitting the market (not listed in MLS).

These condos often go into contract during the construction phase, long before sales actually close, and access to information during that period is very limited. There can be no doubt that they comprise serious competition to resale condos in the areas they’re being built.

– Patrick Carlisle, Chief Market Analyst at Paragon

According to Richter “It’s chilling: for condos under $1.5 million, the number of withdrawn or expired listings soared 94%, and for condos above $1.5 million 128%.”

First off, this had to happen at some point but it should have been more incremental and should have happened earlier.  San Francisco’s market has been notoriously tight for years and the entitlement process there is reminiscent of running the gauntlet.  If entitlements weren’t so difficult to come by, many of these units could have been delivered years earlier when demand began to ramp up but construction didn’t.  Instead, many developers started at roughly the same while prices of SF condos ran up 70% in the interim, meaning that we now have a tidal wave of units starting to get delivered just as the VC market is slowing and tech firms are beginning to lay people off.  Reality is that the local market desperately needed more units but that doesn’t make it any less painful for the developers holding the bag or the home owners who bought in the late stages of the run-up.  Either way, we are certainly going to test the true depth of demand for high priced housing in the next few years.

Second, this is what happens when everyone builds the same thing.  The only thing getting approved in SF are high density, high end condos and apartments.  That’s where all of the units are so that is where the glut is going to occur.  Want to know why the single family home market is holding up much better?  Simple.  Almost no SFD’s are getting built so supply hasn’t increased.

Third, several fund investors the we respect a lot are telling us that they are taking a wait and see approach on current investment opportunities in anticipation that there will be large distressed opportunities in the NY and Miami high rise condo markets in the coming quarters that will result in a buying opportunity.  Their investment thesis is that many of these high end condos will end up going back to the lenders since foreign investors have begun to retrench from the market and there isn’t enough domestic demand to buy up the units at their high pro-forma prices.  I guess we can now add San Francisco to that list.

San Francisco housing

Economy

Black Gold?  According to the talking heads, it was bad for the economy when oil prices were plunging so is it now good that they have rebounded to $40/barrel?  See Also: Why wasn’t there any economic boost from low oil prices?

It’s All Relative: Top Venture Capitalist Peter Thiel says that pretty much everything is overvalued but some things are more overvalued than others.

Get Real: Real (inflation adjusted) 10-year treasury yields have gone negative for the first time since 2012.

Commercial

Just Speculating: Growth in the San Francisco office market has been a safe bet for several years as VC money poured into new investments and tech companies gobbled up any available space in order to account for aggressive growth projections in a supply constrained market.  Times are changing though and the assumption that the good times would continue has put some speculative office investments at risk now that the VC spigot is slowing while several landlords are trying to unload buildings for over $1,000/sf.  At the same time, available sublease space from downsizing tech companies, an indicator of a slowdown, is creeping up.  From the Wall Street Journal earlier this week:

“We’ve started seeing the cautionary winds start blowing,” said Steve Barker, executive vice president at Savills Studley, which advises companies on their real estate. “In the last two to four months, you’ve really seen the impact of the strained capital environment hitting the real-estate market.”

A cautionary tale exists with online game maker Zynga. In 2012, the then-rapidly growing company bought its 680,000-square-foot building at 650 Townsend St. It saw plenty of space to grow, and at one point occupied 480,000 square feet.

Soon after, its growth stalled, and stock price plunged, layoffs followed, and now the company is trying to sell the building.

Subleasing, though, carries its own risks.

Health-care startup Practice Fusion, which leased former Zynga space in the same building, underwent layoffs in February. Now Practice Fusion, too, has put its 60,000-square-foot space up for sublease.

From what we’ve been hearing from local market sources, this is much more of an issue in downtown San Francisco which is heavily dominated by startups that aren’t profitable and are reliant on VC money fund operations.  It isn’t as much of an issue in Silicon Valley where huge and incredibly profitable mature companies like Apple and Google and the myriad of companies in their ecosystem have come to dominant the local commercial real estate markets.  Why? Because these companies don’t rely on VC money and aren’t impacted by it’s availability.  Still, it bears watching to see if the issues starting to appear in SF spread to other Bay Area markets.

Residential

Stay in School: New research suggests that student debt is a substantial impediment to college dropouts buying a home a home but only has a marginal impact on those with a Bachelor’s degree or higher.  Moral of the story: if you borrow money to go to college, you had better graduate.

Signs of Strength: Mortgage rates have dropped to an annual low and apps for mortgage refinances have been surging  for several weeks.  However, purchase money mortgage applications had not moved much recently.  That all changed last week when purchase apps increased to the second highest level since May 2010.

Graphic of the Day: I found this 3-D image from The Visual Capitalist fascinating:

The Salary Needed to Buy a Home in 27 Different U.S. Cities

Profiles

Long Shot: Leicester City entered the English Premier League season as a 5,000 – 1 underdog to win the league championship.  To put some context to that, you can place a bet with the same odds that Elvis is still alive.  Furthermore, the Cleveland Browns are only 200-1 to win next years Super Bowl.  You read that correctly, they were 25x LESS likely to win a championship than the Cleveland Browns. The key word there is “were.”  With 4 games left in the season, the perennial doormat which was nearly relegated last season is in 1st place, 7 points ahead of the second place Tottenham.  Hang in there Cleveland fans.  There is hope.

The New Buggy Whips? The i-Phone is doing to cameras what the automobile did to horse carriagesBut See: The Apple Watch has not been the FitBit killer that may thought it would be.

Really Bad Idea:  Stalkers rejoiced when new app allows anyone to spy on Tinder users and track them to their last location, an invasion of privacy that would make Zuckerberg blush. See Also: Body parts from a missing woman were found in a dumpster outside the home of a man she went on an online date with.

Chart of the Day

LOL

crude

Source: The Reformed Broker

WTF

The Saddest Record: A Brooklyn man set a record by watching TV for 94 hours straight. That’s just under 4 days for those of you who don’t like math. This is one of those situations where there are no winners, only losers.

They Flying Farm – It’s gotten ridiculously easy (and cheap) to bring a comfort animal on a flight.  All you need is a doctors note and a $65 certificate for your pet. This started in 2012 when the US Department of Transportation amended a statute that was originally intended to cover guide dogs.  Since then, service animal registrations have risen from 2,400 to over 24,000.  It’s not just dogs and cats either. People are bringing all sorts of barnyard and exotic animals aboard especially in LA and NY, leading some to wonder how much is too much:

The zaniest anecdotes (like the “support pig” ejected from a D.C.-bound plane after it relieved itself in the aisle or the “therapy turkey” whisked via wheelchair onto a recent Delta flight) tend to go viral. But the habit has become particularly commonplace on the LAX-JFK route favored by fussy celebrities and industry execs.

Having to call home to say “honey, my flight is going to be late because a pig crapped in the aisle” was something that was only previously an issue in 3rd world outposts with names like The People’s Democratic Socialist Republic of __.  Now we have barnyard animals on planes in the US ostensibly to keep someone from getting nervous on a plane. I think it’s safe to say that this has gone a bit too far.

In Soviet Russia: Saying that Russia is a bit of a freak show is a bit like saying that water is wet.  It’s a factually accurate but unnecessary statement given that anyone over the age of four already knows it to be true.  Example A: a Russian entrepreneur recently opened a cafe in East Siberia that’s a tribute to Vladimir Putin.  It’s complete with Putin shrines and the toilet paper in the restrooms has pictures of Barack Obama and other western leaders on it. (h/t Steve Sims)

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Landmark Links April 15th – Looming