Real estate: A bottomless pit

If you were a subscriber to the GEAB, you would have read what follows as early as May 16, 2008.

Not only have home prices initiated a freefall in a growing number of countries, but commercial real-estate is now suffering like home real estate has. In the aftermath of the United States, it is now the turn of the United Kingdom (1) and Spain (2) to plunge into the real estate crisis, while in many more countries (France (3), Central and Eastern Europe (4), Canada (5), Morocco (6), Costa Rica (7)) or speculation places (London (8) and New-York (9)), a major slump has began.

Simultaneously, under the threefold effect of credit squeeze, housing bubble and economic recession, commercial real estate is now hit by the crisis, in the United States (10) and United Kingdom (11) especially. But this tendency will stretch out to the rest of the planet, including to today’s « paradise real estate » of the Gulf’s petro-monarchies.

In the United States, the tendency is now well engaged which our team calls the « delevator effect »: the current economic recession deters potential buyers from taking advantage of falling prices, all the less since banks - weighted down by their stocks of foreclosed homes - keep reducing the number of home loans to potential buyers. Thus, prices go down and down, bank assets lose value, household debt capacity reduces, housing-related spending slows down (equipment, decoration, safekeeping, maintenance… this is a key sector in the US), tax revenues diminish, and potential buyers are compelled to wait (12). Moreover, home foreclosures and deserted houses contribute to ruin entire districts thus downgrading the value of neighbouring residences and reducing the “wealth effect” of people not directly affected by a real estate problem. Thus the pit’s bottom gets always deeper under the feet of consumers, banks, and local, national and federal authorities (13).

Another illustration of the severity of the effects produced by the current real estate crisis is provided by « condos » (14), a very popular system of co-ownership property in the US. Today, a growing number of these “condos” are facing a double problem: many co-owners withdraw as they are unable to cover their share of the collective costs because of the crisis (15); and facilities are drastically reduced in order to curb the extra cost implied by these withdrawals for the remaining co-owners (16). This new danger weighing over the US real estate (directly affecting owners and renters alike (17)) will most probably spread to similar multi-property systems in all the countries where home prices are collapsing, such as the United Kingdom and Spain. And from summer 2008 onward, all multi-property investments will be hit full shot (Europe’s seaside resorts in particular, where this type of property is very frequent). Real Estate Investment Trusts (the famous REITs will also be enduringly affected.

In Canada, harbingers of the end of the real estate boom are now clear, with prices sliding on what used to be the most promising markets (West of the country, Alberta in the first place). Vacation places, such as Morocco and Costa Rica, at crossroads between home and commercial real estate, are now on a downward slope. As to speculation markets in large cities such as London or New York, even the most sought-after areas are experiencing price drops. A large part of their former clients (traders and other financial market operators) are indeed more concerned about finding a new job since they have been fired by their bank or hedge-fund, than about dealing their next luxurious flat.

The real estate crisis is therefore spreading throughout countries and sectors. Commercial real estate is now hit full shot in the United States, in the United Kingdom, in Spain, and will soon be affected (in the next months) nearly everywhere on the planet, including in those “paradise real estate resorts” of the oil-states of the Persian Gulf.

Construction of new malls is at a standstill in the United States. Hotel and office building projects are frozen. Throughout the country, large distribution chains are closing down stores (18), entailing business disruption for entire malls (19). Shops certainly won’t flourish either within those housing estates where two out of three homes are foreclosed. Finally, growing debt weighing on municipalities combined with the complete standstill imposed by the credit crunch on « Munis », result in a pure and simple suppression of all major public investments (stadiums, hospitals…) (20). In the United Kingdom and Spain, with a short time-lag compared to the United States, the situation follows the same course.

Concerning the residential and commercial « real estate boom » in the oil-states of the Persian Gulf, LEAP/E2020 estimates that it will come to a sudden stop at the turn of the year 2008/2009 when the effects of US recessflation, European stagflation and Asian economic slowdown will combine. In this matter we should keep in mind that the dithyrambic leaflets and articles on the Dubai’s real estate and the like were written by those very companies, media and experts who praised the American real estate opportunities two years ago, and the UK or Spanish ones a year ago. The market upon which petro-monarchies expect to make their colossal construction investments profitable only exists in the minds of their developers, bankers and all those who believe in them. In fact it is nothing but a desert mirage. Indeed, at the time of Internet and A380s, Asians and Europeans need no intermediaries to make business. These “booms” only exist because there is a need today to make the best possible use of those mountains of US dollars losing value every day and nowadays impossible to invest in the US. According to our researchers, these investments will not be profitable and these regions will be full of incredible ghost-cities within a decade. If, in addition to this, the United States and Israel decide to attack Iran in the coming months, ongoing construction work will not even be completed.

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Notes:


(1) Source: Telegraph, 05/14/2008

(2) Besides the symbolic setbacks of the « la Mancha Manhattan », located half an hour’s drive from Madrid and where only 2,500 of the 5,000 already built flats have been sold (knowing that 13,500 altogether are planned - source: FinancialTimes, 04/28/2008), a real “hemorragia immobiliara” is sweeping the country, as MarcVidal puts it in his excellent article dated 04/01/2008.

(3) Though they do not take into consideration our anticipations of the current crisis, experts forecast a 10 percent drop in the average real estate prices in France by the end of 2009. Our team estimates that a 20 percent drop should therefore be expected over this period of time. Source: LesEchos, 05/15/2008

(4) See previous GEABs

(5) As a result of the nationwide slide in home sales recorded in March 2008, Canada’s real estate boom has been declared officially over last April (source: NationalPost, 04/17/2008). Canada’s real estate crisis is spreading from the West, in particular from Alberta, centre of Canada’s « energy boom » and vertiginous housing prices in the past years. Considering that Canada presents many similarities to the US housing bubble (for instance, a growing number of subprime buyers, source: GlobeInvestor, 04/23/2008), our team estimates that Canadian prices will follow a mild slump until this summer, and then start collapsing from Autumn 2008 onward.

(6) A collapse in the number of real estate transactions in Morocco is a clear indication that the crisis has already started to affect this country. Source: Bladi, 03/18/2008

(7) Costa Rica is preparing for a similar evolution to Morocco. European investors are to the Moroccan market what American investors are to Costa Rica. Francisco de Paula, president of the Central Bank of Costa Rica, knows it when he anticipates the negative impact of the US recession on his country. Source: InsideCostaRica, 03/25/2008

(8) In London, prices already fell by 15 percent in one year and the City’s increasing setbacks contribute to accelerate this tendency. Sources: LondonStockExchange, 04/16/2008 & Telegraph, 04/13/2008.

(9) Even New York’s toniest zip codes, like the Hamptons, are being affected by the crisis with home foreclosures taking place (source: NewYorkPost, 05/12/2008). Of course the entire city is concerned and the Courts are expecting to manage over 10,000 cases of foreclosure until the end of 2008 (versus 300 to 400 a year a decade ago). Source: GothamGazette, 05/2008.

(10) Source: ChicagoTribune, 05/07/2008

(11) The Bank of England itself is sounding the alarm on a new potential source of losses for banks. Source: Telegraph, 05/02/2008

(12) Newspaper classifieds pages are now full of foreclosure notices where condo sales and auto deals once held sway. Source: WashingtonCityPaper, 04/30/2008

(13) On this subject, read the interesting paper by Mr Mortgage, from the website of the same name, describing the sequence of procedures leading to foreclosure in California and showing that, as far as this domain is concerned, the worse is yet to come. Source: MrMortgage, 05/09/2008

(14) Source: NewYorkTimes, 05/03/2008

(15) This goes whether they fall victims to credit squeeze with a risk of being foreclosed, or to recession without the means of covering the costs.

(16) Source: NewsBlaze, 04/17/2008

(17) Source: OCRegister, 05/13/2008

(18) Source: Reuters, 05/08/2008

(19) Source: Reuters, 04/04/2008

(20) As a matter of fact, municipalities are beginning to sue their banks because they too estimate they were victimized by the subprime crisis. Source: YahooFinance, 05/09/2008