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By Rom Badilla, CFA – Bondsquawk.com

As mentioned several times here on Bondsquawk, small to mid-sized banks continue to shutdown and seek safety in the arms of the FDIC. Smaller banks are suffering in part, due to the problems in the commercial real estate markets. The situation could get worse and could be a train wreck waiting to happen. The train is not just headed for banks but for everyone, unless commercial real estate rebounds soon. Unfortunately, recovery in this space appears pretty grim.

According to a Moody’s report, commercial real estate prices declined by 0.5 percent for the month of March, which marks the second consecutive monthly decline after a slight increase at the beginning of the year.

Moody’s/REAL Commercial Property Price Indices (CPPI) peaked in October of 2007, at around the time of the onset of the recession. Property prices plummeted as the real estate crash intensified and as the index reached a low exactly two years later, a decline of 43.7 percent. Currently, the index continues to remain at depressed levels and is within spitting distance of surpassing the lows.

Moody’s/Real Commercial Property Price Indices (CPPI)

The report states that prices of the four major property types produced mixed results in the first quarter of 2010. Apartments gained 3.3 percent while industrial properties such as warehouses and storage facilities advanced 0.8 percent. The remaining two, office space and retail, which combined comprises a significant portion of the commercial real estate universe, declined by 3.2 and 4.7 percent, respectively.

Furthermore, the major property types concentrated in only the top-ten MSA’s, had similar results to the national numbers with the exception of retail. Retail property prices in the top ten declined a staggering 19.3 percent in the first quarter. Focusing on just the West Coast, retail property prices dropped 10.0 percent in the same period.

Relief does not appear to be in sight, especially if commercial real estate is essentially led by property prices in the larger components of retail and office space. As evident by this mornings CPI report, declines in retail-oriented components such as apparel and furnishings weighed on the measure. Prices are dropping in order to attract interest and demand as companies such as Walmart, in an effort to offset weaker same store sales, cut costs and prices. Their motive was to maintain sales and customers who are suffering from high unemployment and rising gas prices.

Obviously, such measures does not signal expansion, which in turn, does not ultimately bode well for the battered commercial real estate sector. Until the economy sees job growth which translates to sustainable economic growth, the battered sector will stay battered for quite some time.

Despite the belief by many market participants that a recovery is just around the corner, commercial real estate could be that train wreck waiting to happen that no one wants to see come around the bend.

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