Friday Letter Equity priced like equity

Real estate investors tend to be optimistic, at least in the long term. Before sinking money in a property, an investor must be confident that the locals will continue to be employed, to build and spend wealth, to procreate.  

This optimism was on display at the annual PREA gathering, which concluded yesterday in Los Angeles.

And while the hundreds of suit-and-nametag-wearing attendees at the Pension Real Estate Association’s bash heard and expressed very bullish sentiments on the long-term health of the global real estate asset class, the short term was described as a mysterious and scary place.

Not only do people not know what the next few months will bring, investors can’t even agree on the state of the market right now.

As CNBC’s Ron Insana put it while moderating a panel on today’s capital markets, the current credit crunch is not being televised, such are its visual incompatibilities. One can describe but not show the current debt indigestion and tortured repricing currently taking place. A stock market crash looks like an upward-sloping line graph followed by a vertical dropping line. What does a marked-to-market collateralized debt obligation look like?

Insana’s panelists and the other speakers at the three-day event agreed that the market is currently adrift in a sea of dislocation, but everyone had differing views on where in the sea we currently are – near the shore, in the middle or safely near the other side?

All agreed that dislocation brings opportunity, but all were vague on what the current opportunities might be for contrarian investors. Commentators were more confident in the widely shared thesis that the market distress, however defined, is mostly likely to inspire a return to solid fundamentals in real estate investing. Leverage will be in shorter supply and more expensive, or at least more logically priced. Equity will be priced like equity again.

“Ninety-five percent leverage is not coming back,” said Dan Neidich, chairman and co-chief executive officer of Dune Capital Management and a former co-head of merchant banking at Goldman Sachs.

It was easier to predict where the market would not go than where it would go. Market participants in almost every corner of the universe cannot seem to agree on price amid the turmoil. “There is a price discovery going on,” said Bruce Cohen, CEO of Wrightwood Capital, a real estate finance firm. “We’re actually trying to lend, but that requires a buyer to agree with a seller” on price.

With deal pace slowing down, real estate investors are returning to another very fundamental activity – finding renters. As Russell Appel, president of Praedium Group, put it: “Now you’re gong to have to renovate the property and actually lease it.”

The long-term, optimistic view of real estate as an attractive asset class was eloquently presented by economist David Hale, who gave an overview of the global economy on day one of the PREA event. Not since the days of the Roman empire, he argued, have so many countries of the world been thriving and plugged into the same global market. Hale noted the vast wealth being built up by emerging economies in the Middle East and East Asia, and concluded his remarks with this prediction: “One obvious target for this money will be property markets all over the world.”

There’s nothing like the hope of long-term gain to ameliorate short-term pain.