Bloomberg Real Estate Special Focus Q1 2014

First Quarter 2014REAL ESTATE

sponsored by:

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Welcome to Bloomberg Brief’s special edition on real estate. The pool of investors looking to put money to work in real estate flowed through to the equity markets last year where initial public offerings from real estate companies hit a nine-year high. At the same time, mergers involving real estate companies were at the liveliest pace since 2007.Within the world of commercial property, credit quality of loans improved

as delinquency and foreclosure rates fell to multi-year lows. The issuance of bonds backed by commercial mortgage loans — a

source of financing that had all but dried up immediately after the 2008 credit crisis — rose to pre-crisis highs and borrowers seeking financing for commercial property were increas-ingly able to get mortgages that allowed them to pay only interest. At the same time, cap rates trended lower for retail, multifamily, hotel and office properties.Within the residential property markets, home prices as tracked by Case Shiller rose, but

sales of pre-owned homes were little changed in 2013 from 2012. Higher borrowing costs chipped away at demand for residential home loan refinancings, a key source of profit for many lenders. Higher mortgage rates are eroding affordability for homebuyers — an issue brought up by

several economists who are guest contributors in this edition of Real Estate Brief. Michelle Meyer, senior U.S. economist at Bank of America Merrill Lynch, warns that tight

credit conditions and the slow healing of the U.S. jobs market have kept some consum-ers from owning a home. Douglas Duncan and Orawin Velz of Fannie Mae pick up on the theme of affordability, writing that higher borrowing costs will continue to weigh on sales of existing homes that typically attract first-time buyers. Recovery in the jobs market is not only important for residential property markets. Accord-

ing to Will McIntosh, head of research at USAA Real Estate Co., the wellbeing of commer-cial properties such as multifamily, office and industrial are tied to employment growth.Another threat to the housing market comes from GSE reform. Bank analyst Dick Bove

warns that mortgage market restructuring may kill off 20- and 30-year fixed-rate loans. Elsewhere, Lisa Pendergast of Jefferies offers her outlook on commercial property cap

rates. And William Lie Zeckendorf tells us about who is buying apartments in Manhattan, gives the outlook for prices in the city’s market and explains why he believes New York can weather a downturn in housing.Finally, Michael Lewis discusses sub-prime lending and tells us that high-frequency trad-

ing, examined in his best-seller “Flash Boys,” is not just in equity markets.

IntroductIon

Aleksandrs Rozens

data: real estate prIces, cMBs loan leverageWhile home sales ended 2013 little changed, home prices rose slightly. CMBS issuance climbed and leverage within commercial real estate finance grew last year. page 9

tIghter credIt condItIons weIgh on hoMe salesBank of America Merrill Lynch’s Michelle Meyer looks at how borrowers with lower credit scores are having a tougher time getting loans to buy a home. page 11

what’s lIMItIng hoMe purchases By young adults? Student loan debt and a lack of income growth have crimped demand for housing among young adults, write Fannie Mae chief economist Doug-las Duncan and director Orawin Velz. page 13

data: cMBs deals rely More on agency deBtUse of agency debt in commercial mortgage backed securities grew to a record in 2013. AAA-five year CMBS spreads ended the year tighter from 2012 despite an increase in issu-ance. page 14-15

outlook on cap ratesWhile cap rates likely will rise this year, investors should expect any increase to be tempered by the high level of CRE/multifamily financing available from portfolio lenders, according to Lisa Pender-gast, a debt strategist at Jefferies Group. page 16

data: cap rates By property typeThe weighted average cap rate for multifamily properties rose in 2013, while cap rates for office, retail and hospitality property loans fell. page 17

data: top underwrIters of delInquent cMBs deBtAmong underwriters of commercial mortgage loans resold as CMBS, Wachovia Bank NA had the highest number of delinquent mortgage loans. page 19

Banks step Into dIstressed real estateA low rate environment has spurred invest-ment banks to invest in distressed real estate, Mission Capital’s Dwight Bostic says in an interview. page 20

data: cMBs loan delInquencIes, foreclosuresThe credit picture of commercial property mort-gages resold into securities fell to a 51-month low in December. page 22-23

why not all dIstressed real estate has Been pIcked off Westport’s Russell Bernard explains in an interview why the U.S. real estate market has not completely returned to health and how distressed investors can find buying opportunities in proper-ties worth $50 million or less. page 24

data: real estate Ipo, M&a renaIssanceIn 2013 real estate mergers hit post-crisis high and real estate IPO issuance was at a nine-year high. page 25

who Is BuyIng real estate froM servIcers?Hedge funds and private equity funds have been attracted to distressed real estate sold off by servicers, Alexander Rubin, managing director at Moelis, says in an interview. page 26

focus on reItsBloomberg Industries examines how office REITs are increasingly turning to unsecured bond sales, what’s behind the jump in developments by apartment REITs and how the retail sector is weathering the spate of retailer bankruptcies page 27, 29-30

joBs pIcture and Its IMpact on coMMercIal propertIesThe well-being of commercial real estate such as multifamily, office and industrial properties are closely tied to the health of the U.S. jobs market, writes Will McIntosh, head of research at USAA Real Estate Co. page 31-32

wealth gap and Its IMpact on local housIng MarketsThe wealth gap isn’t just about individuals — it’s about entire communities, writes Kathy Bostjan-cic, director of macroeconomic analysis at the Demand Institute and the Conference Board. page 33

data: resIdentIal Mortgage delInquencIes; arM loan use IncreasesFlorida saw the largest decline in single family mortgage delinquency rates last year. Adjust-able rate mortgages as a percentage of all home loans processed by lenders grew to 8.18 percent in December 2013, the highest since June 2008. page 34

aMerIcans shut out of hoMe Market threaten recoveryFirst-time homebuyers hurt by rising prices and tighter credit standards are disappearing from the market, slowing the pace of the three-year recovery. page 36-37

Mortgage Market restructurIng sounds death knell for fIxed-rate loansRichard Bove explains why a wind down of Fannie Mae and Freddie Mac could spell the end of 20-year and 30-year fixed rate home loans. page 38

tIght supply should Buffer new york Market froM any downturn, zeckendorf saysWilliam Lie Zeckendorf explains why he believes Manhattan’s supply of real estate is so tight that it is likely to withstand a downturn in the housing market. page 39-40 hIgh frequency tradIng In the u.s. treasury Market?Michael Lewis says the high-frequency trading in his best selling “Flash Boys” has cropped up in the U.S. Treasury market. Also, he offers his thoughts on subprime lending and the enduring popularity of “Liar’s Poker.” page 41-42

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CONTENTS

04.24.14 www.bloombergbriefs.com Bloomberg Brief | Real Estate 3

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Share of mortgage loan applications related to residential home loan refinancings in the fourth quarter of 2013.

Share of loan applications for residential mortgage refinancings in the fourth quarter of 2012.

Gain in S&P/Case-Shiller national home-price index in Q4 2013 from Q4 2012.

Rate for 30-year fixed rate jumbo mortgage in March 2014.

Rate for 30-year fixed rate jumbo mortgage five years ago.

Price per square foot for Manhattan office property in March 2014, a five-year high.

Expected percentage gain in non-residential construction spending in 2014.

Expected gain in non-residential construction spending in 2015.

Percentage of single-family home sales in California that were distressed sales in February 2014.

Percentage of single-family home sales in California that were distressed sales in February 2013.

2013 recovery rate for loans in U.S. commercial mortgage backed securities.

2012 recovery rate for mortgages resold in commercial mortgage bonds.

Rate for 30-year, fixed-rate home mortgage in 2013.

Mortgage Bankers Association’s forecast rate for 30-year mortgages in 2014.

Forecast rate for 30-year mortgages in 2015.

Real estate loan rate for city property in fifth century BC Greece.

Real estate loan rate for country property in fifth century BC Greece.

Maturity for real estate loan in fifth century BC Greece.

Real estate loan rate in 14th century Netherlands.

Total one- to four-family home loans underwritten by U.S. lenders in 2013.

Total home loans expected to be underwritten in 2014.

Total commercial real estate collateralized debt obligations issued in 2013.

Total commercial real estate CDOs assembled in 2007.

Florida’s residential foreclosure rate in January 2014.

Average residential foreclosure rate in the U.S. in January 2014.

Florida’s residential foreclosure rate in January 2013.

American Institute of Architects non-residential architectural billings index reading in December 2013.

AIA non-residential architectural billings index in December 2012.

Number of single family homes in the U.S. sold within six months of purchase in 2013.

Increase in number of single family homes sold within six months in 2013 vs. 2012.

Total value of single U.S. family homes sold within six months of purchase in 2013.

Sources: California Association of Realtors, Fannie Mae, Bloomberg LP, Fitch Ratings, Mortgage Bankers Association, JP Morgan American Institute of Architects, RealtyTrac, “A History of Interest Rates,” (Fourth Edition) by Sidney Homer and Richard Sylla (John Wiley & Sons, Inc.).

By ThE NumBErS52.9%

75.9%

11.3%

4.70%

6.42%

$717.97

5.8%

8.0%

15%

33%

66.5%

74.8%

4.0%

4.7%

5.2%

8%

8%-12%

1-5 Years

8%-10%

$1.755 trillion

$1.080 trillion

$2 billion

$35 billion

6.2%

2%

10.1%

48.6

51.4

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$38 billion


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■ “Wall Street has found a new oppor-tunity amid the destruction they caused with the mortgage crisis — cheap homes that only they can buy because they have access to capital, which are then converted to rental properties that they control the price of. Now they have decided to socialize the risk by securitiz-ing the income from the rents and sell it to investors. This reminds me too much of the ‘Too Big to Fail’ schemes of the past and I’m concerned that the Ameri-can people would once again be stuck with the bill.”

— Rep. Mark Takano, D-Calif., in a statement requesting Congressional hearings into single-

family rental backed securities that are being de-veloped by The Blackstone Group (Jan. 23, 2014)

■ “The housing recovery has been uneven across the nation and we are no longer able to buy in some of our west-ern markets although we remain excited about many others where we can still acquire homes at a discount to replace-ment cost and attractive rental yields. Florida, for example, leads the nation with the highest foreclosure inventory at 6.7 percent, which should provide a con-tinuing supply of distressed inventory in 2014. While we are generally quite sanguine about home price appreciation in our markets in 2014 we do expect the pace to moderate compared to 2013.

— David N. Miller, President and Chief Execu-tive Officer, Silver Bay Realty Trust, Q4 2013

earnings call (March 6, 2014)

■ “So far this year, I’ve seen an inordi-nately low success rate for bids because the supply of properties is so limited. I wish I got paid in pre-approval letters instead of closed loans.”

— Jonathan Sexton, a vice president at NE Moves Mortgage LLC’s office in Cambridge,

Massachusetts, in an interview with Bloomberg (March 31, 2014)

■ “Housing starts for 2013 finished at 927,000; the starts were lower than expectations early in 2013, but still represented a 19 percent improve-ment over 2012. We expect the housing recovery in the U.S. to push ahead in 2014, with starts around 1.1 million. We believe over the next few years, U.S. housing starts will return to long-term trend levels of 1.4 million to 1.5 million. Our fourth quarter sales were just shy

of $800 million, up 15 percent from the same quarter in 2012. Probably the most encouraging thing we’ve seen is existing home sales appear to be picking up, and there are fewer people under water. So the fact that home prices have moved up, typically what happens is the repair and remodel follows 12 months to 18 months after the sales of homes. So, if we continue to see the pace of the exist-ing home sales go up, we think that will be good news for repair and remodel.”

— Thomas Carlile, chief executive officer, Boise Cascade, earnings call (Feb. 21, 2014)

■ “It is not our view that all housing metrics will sustain the growth rates from 2013 going forward. This last year saw a particularly strong recovery in housing prices, but we do expect the housing recovery to continue, expect that home prices will increase even though at a lower rate and expect that affordability will support growth in the home improvement market.”

— Francis Blake, chief executive officer, Home Depot, earnings call (March 25, 2014)

■ “The buyer is becoming more accus-tomed to the current mortgage rates. If you recall back a couple of quarters ago, there was a pretty adverse reaction to the increase in mortgage rates, even though they were slight and they’re still historically low by anybody’s standards. But frankly, over the last four months to six months, the buyer has become accustomed to the mortgage rates. And I think that that will be less and less a factor, as we move into the spring sell-ing season and fiscal year 2014.”

— Donald Tomnitz, chief executive officer, D.R. Horton, earnings call (Jan. 28, 2014)

■ “There remains a production deficit of both single-family and multifamily dwellings from underproduction during the economic downturn and up to and including last year. This shortfall will continue to define the housing markets for the foreseeable future and will drive the housing recovery forward.”

— Stuart Miller, chief executive officer, Lennar Corp. earnings call (March 20, 2014)

■ “If I had a choice, I would never be in default servicing again. I would tell anyone who’s got a mortgage with us,

‘You’re 60 days late, we’re selling the mortgage, and we don’t want to do any business with you anymore.’ It’s just far too painful.”

— Jamie Dimon, chairman and chief executive officer of JPMorgan Chase & Co, on mortgage ser-vicing at presentation for investors (Feb. 25, 2014)

■ “The level of household formation is very depressed, has been very de-pressed for some time. There are a lot of kids who are shacking up with their families and probably would like to be going out and acquiring places of their own, whether it’s an apartment or a home. There is a lot of demographic potential there for new household forma-tion that would ultimately generate new construction, either single or multifamily, and the level of rates I think does matter. And the fact that they’re low now I think is something that should serve as a stimulus to people coming back into the housing market.”

— Janet Yellen, chair of Federal Reserve, press conference (March 19, 2014)

■ “Right now, around the world, I’d say there’s the most interest in investing in real estate in the U.S. That makes it a little more challenging than other places today.”

— Jonathan Gray, global head of real estate at Blackstone, Harbor Investment Conference in

New York (Feb. 13, 2014)

■ “The interest has not really abated from the Asian or the European inves-tors. There’s a greater focus on certainty from Asia and parts of Europe. Current income is the big driver there and get-ting a 5 percent plus-or-minus current return is a very attractive element.” — Matt Khourie, chief executive officer of CBRE

Global Investors Ltd., in an interview with Bloomberg (March 11, 2014)

■ “Mortgage underwriting standards remain tight, which does limit the num-bers of qualified buyers in the market. Meanwhile Dodd-Frank continues to be clarified and adopted and proposals in Congress for GSE reform are creating an additional uncertainty for the mort-gage industry.”

— Jeffrey Mezger, chief executive officer, KB Home, earnings call (March 19, 2014)

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Last year, rising U.S. interest rates tugged mortgage rates higher, hurting demand for home loan refinancings. Rates for 30-year mort-gages, the most common home loan, ended the year at 4.80 percent, having risen as high as 4.93 percent on Sept. 6, 2013. The higher borrowing costs weighed on home sales; existing home sales ended the year at a pace of 4.88 million units, having risen to a pace of 5.38 million units in July.

At the same time, sales of bonds backed by commercial real estate loans rose to a high not seen since 2007 and use of interest only and partial IO loans for commercial properties climbed to levels not seen since before the credit crisis.

rEal ESTaTE TrENdS

Existing Home Sales Little Changed, Prices Up

0

1

2

3

4

5

6

7

8

0

50

100

150

200

250

2004 2006 2008 2010 2012 2014

Mill

ion

units

S&P/Case-Shiller Composite-20 Home PriceIndex, Not Seasonally Adjusted (left)

US Existing Homes Sales (right)

Source: Case-Shiller, National Association of Realtors

U.S. existing home sales ended 2013 at a seasonally adjusted rate of 4.87 million units, little changed from December 2012 when they were at a rate of 4.88 million units. At the same time, the Case Shiller home price index ended the year at a reading of 165.63, up from 146.08 in December 2012.

Rise in Rates Chips Away at Refinancing Activity

0

1

2

3

4

5

6

0

1,000

2,000

3,000

4,000

5,000

6,000

Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13 Jan-14

MBA Refinance Index (left)

MBA 30-Year Effective Mortgage Rate % (right)

Source: Mortgage Bankers Association

The Mortgage Bankers Association’s refinance index, a measure of requests for home loan refinancings, ended 2013 at a reading of 1,315.1, down from 3,528.3 at the end of 2012. At the same time, 30-year mortgage rates rose to 4.80 percent by December 2013 from 3.66 percent a year earlier.

CMBS Leverage Jumps in 2013, Still Shy of 2007

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1997 1999 2001 2003 2005 2007 2009 2011 2013

Partial IO IO Balloon Fully Amort

Source: Bloomberg LP

Just over 51 percent of all loans resold into commercial mortgage backed securities in 2013 were interest-only mortgages or partial IO loans, the highest since 2007, when 85.16 percent of all commercial mortgage debt had such loans.

2013 U.S. CMBS Supply Up 38 Percent From 2012

0

50

100

150

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300

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

Dolla

r Am

ount

(Bill

ions

)

All US All Non-US


Commercial mortgage backed securities issuance in the U.S. rose 38 percent in 2013 to $162.7 billion from $117.6 billion in 2012. Issuance was its highest since 2007, when volume was $253.9 billion.

home prices climb as higher rates erode refi activity and leverage Increases in cre


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Michelle Meyer, se-nior U.S. economist of Bank of America Merrill Lynch, writes that tight credit conditions remain a hurdle to a stronger housing market. A near-term concern is that demand from investors will fade without demand from

first-time homebuyers coming in to replace it.

Although the housing market is still far from normal, it has made significant progress. Home prices have climbed since the trough in early 2012, reversing about a third of the cumulative decline during the recession. Foreclosure inven-tory has shrunk while new delinquency rates have tumbled. The U-shaped recovery in housing construction contin-ues, albeit with bumps along the way.

The missing link to a stronger housing recovery has been tight credit condi-tions, which limit the pool of potential buyers, particularly of first-time home-owners. According to the latest survey from the National Association of Real-tors (NAR), only 28 percent of sales are to first-timers. This compares to about 40 percent historically.

The big question is whether the dearth of first-time homebuyers can be ex-plained by supply or demand forces. Is it that typical first-time buyers are no lon-ger interested in becoming homeowners or that they are not eligible because of the challenging credit environment? It is likely a bit of both, but we believe it is more of a supply than demand issue.

First-time buyers are particularly sensi-tive to the credit environment, as 86 percent of first-time buyers finance their purchase compared to about 75 per-cent of relocation buyers and between 25 percent and 45 percent of investors and second home owners, according to the NAR. Credit has continued to tighten, which means homeownership has become restricted to a subset of the population.

Using data from CoreLogic, we cre-ated a histogram of mortgage loans by credit score. We then compared this to the credit distribution of the population, based on those who request a FICO score, which admittedly biases the sam-ple toward higher credit quality house-holds. About a quarter of the population have a FICO score below 600, which makes it virtually impossible to receive a mortgage. In contrast, about 85 percent of mortgage loans are to borrowers with FICO scores between 650 and 800, but this cohort only makes up 47 percent of the population. The divergence is par-ticularly notable in the 750-800 bucket, which is the group of borrowers that banks are targeting. These households

make up a much larger share of mort-gage loans than they do the population.

Looking at the credit scores is only one part of the equation; buyers also need to afford the down payment. Fannie Mae and Freddie Mac mortgages, which make up about 60 percent of origination (based on dollars, not units), require a 20 percent down payment or mortgage insurance − the latter increasing the cost of borrowing. Loans backed by the Federal Housing Authority (FHA), which make up 20 percent of origination, will accept down payments between 3.5 per-cent and 10 percent.

Many first-time buyers struggle with the down payment. This is particularly true today with high student debt burden and slow wage growth over the past

several years. Indeed, according to the NAR’s Profile of Home Buyers and Sell-ers report, 54 percent of those reporting difficulty affording the down payment said it was due to student loans.

Tight credit conditions and a slow heal-ing in the labor market mean that for many households, the dream of home-ownership is still many years away.

Demand may also be a factor in the decision to rent instead of buy as percep-tions about homeownership may have changed due to the crisis. One lesson learned from the recession is that home prices can and do decline. The pain from foreclosures was felt throughout the country; many homeowners became delinquent on their mortgages and even more struggled with negative equity.

Opinions have also changed in regards to housing as a store of wealth and a means for financing future expenditures. For many young adults who are search-ing for labor mobility and liquid assets, buying a home may not seem as attrac-tive as renting.

Weak demand from first-time home-buyers has been partly offset by greater demand from investors, including large private equity firms. Investors have purchased distressed properties, many times in bulk, and have converted them to rental homes. This has been a good trade given the trend of young adults renting for longer.

The near-term concern for the housing market is that demand from investors will fade but first-time homebuyers won’t be prepared to take market share as a result of tight credit and years of slug-gish income growth. This could lead to a hiccup in home sales and moderation in home price appreciation. Stay vigilant; we are still far from smooth sailing in these waters.

guEST EdiTOrial MICHELLE MEYER, BANK OF AMERICA MERRILL LYNCH

Tight Credit, Shifting Perceptions drive down First-Time homebuying

Tight credit conditions and a slow healing in the labor market mean that for many households, the dream of

homeownership is still many years away.


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New home sales likely will weather an increase in mortgage rates better than exist-ing home sales because buyers of existing homes are more sensitive to higher rates, write Douglas Duncan, chief economist at Fannie Mae, and Orawin T. Velz, a director at Fannie Mae.

Rising mortgage rates and home prices coupled with changing young-adult demographics have put a damper on home sales, especially existing home sales. February existing home sales fell for the sixth time in seven months, and pending home sales — a leading indica-tor of existing homes — fell in February for the eight consecutive month. New home sales, which record signings and not closings of new homes, have fared better. Despite the February drop, new home sales remain near recovery highs.

The diverging trends in contract sign-ings between new and existing homes can be largely explained by demograph-ics. A typical new homebuyer tends to have higher income than a typical existing homebuyer. As a result, poten-tial existing homebuyers may be more sensitive to a rise in mortgage rates and an associated increase in monthly mortgage payments than those looking to buy a new home.

Indeed, the existing home sales mar-ket has lost momentum since the spike in mortgage rates last summer. At the same time, home prices have continued to climb, leading to a substantial decline in overall home purchase affordability. Though affordability conditions still remain high by historical standards, this is not the case for buyers in many high-cost areas, such as the West Coast and the Northeast Corridor.

In the past when affordability dropped due to a surge in mortgage rates or

rapid home price gains, more borrow-ers opted for adjustable-rate mortgages (ARMs) to boost their purchasing power. For example, data from the Federal Housing Finance Agency’s Monthly Interest Rate Survey show that the ARM share of purchase loans surged to 60 percent in 1994, when the yield on 30-year fixed mortgage rates jumped by more than 2 percentage points during the course of the year.

However, today’s borrowers have fewer options for affordable ARM products as they face more stringent underwriting standards. In addition, the new Qualified Mortgage rule, which took effect in Janu-ary, curtailed the availability of riskier ARMs, including interest-only products and those with balloon payments. These stricter standards and curtailments have reduced the ability of households to afford a home in today’s higher rate environment.

According to data from the Mortgage Bankers Association, even though the ARM share of purchase mortgage appli-cations doubled between the end of 2012 and the end of 2013, it was still below 10 percent through the end of February. The limited ability of potential homebuyers to switch to ARMs in the face of declin-ing affordability supports our cautious outlook for existing home sales.

In addition to rising rates and curtailed affordability, a difficult macroeconomic environment for young adults in par-ticular also is impacting the existing home sales market. Much of the pent-up demand for housing is in the young adult segment, as the share of young adults living at home rises to a record level. If labor market conditions improve sufficiently to allow this group to form households, they will likely opt to rent initially for a variety of reasons, includ-ing lifestyle choices, rising student loan debt burdens, poor credit scores, and a lack of income growth in recent years.

First-time homebuyers are crucial to the housing sector’s recovery since investor demand is fading because of dwindling supply for bargain-priced properties. However, these economic factors suggest that young adults are likely to delay becoming first-time homebuyers, implying weaker near-term organic demand for existing homes.

While existing home sales languish, the performance of new home sales has gradually improved as they face less competition from distressed proper-ties. The supply of new homes has remained near historic lows, largely due to resource constrained homebuilding activity. Home builders have expressed a wide range of concerns, including difficulties in securing finished lots, materials, and skilled labor. We remain optimistic on the demand side in the new home market and expect housing starts to rise nearly 20 percent to 1.1 million units this year to meet the in-creased demand. However, our forecast of homebuilding activity faces downside risks as supply constraints may impede the ability of builders to ramp up supply.

With this backdrop, we forecast dou-ble-digit gains for new home sales and housing starts in 2014, and flat existing home sales. Stronger employment and income growth in coming quarters will help buoy the sector, even as a pullback in demand in the existing home market points to moderating gains this year.

Our longer-term outlook for the housing market is positive despite the weaker near-term existing home sales picture. Using the Census Bureau’s latest population projections and our forecast of headship rates by age, we expect that annual household growth will average 1.37 million in the second half of the decade, up from a sub-million pace currently. This rebound in funda-mental demand growth should support housing production of over 1.7 million units per year in the second half of the decade (including replacement and second home demand). This level of construction activity would be substan-tially above the current pace of housing production as the housing market con-tinues its journey toward recovery.

The views expressed in this article reflect the personal views of the authors, and do not necessarily reflect the views or policies of any other person, including Fannie Mae. Any figures or estimates included in the article are solely the responsibility of the authors.

guEST EdiTOrial DOUGLAS DUNCAN AND ORAWIN T. VELZ, FANNIE MAE

Existing, New home Sales on divergent Tracks Suggest uneven recovery


CmBS daTa

agency collateral in cMBs hits a record in 2013; deals with european debt show gains

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Japanese European Large loans/Floaters Conduit Agency


Much of the increase in securtization of bonds pooling commercial property mortgage loans was due to an increase in agency collateral typically for multifamily properties. Of the $162.67 billion in CBMS issued last year, $69.39 billion, or 43 percent, were transac-tions pooling agency collateral, according to data compiled by Bloomberg LP. At the same time, use of European debt rose to $7.13 billion from $2.7 billion in 2012. From 2008 until 2011, no European collateral was included in CMBS issues. In 2007, deals with European collateral totaled $25.05 billion. In 2012, $56.71 billion worth of agency debt was repackaged into commercial mortgage bonds and in 2011, $30.34 billion of agency collateral was resold into CMBS. In 2007, when CMBS issuance levels were at their highest, $1.23 billion of agency collateral was repackaged into bonds.

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cMBs yield premiums demanded by Investors narrow even as supply grows

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Legacy Spread - AAA 5-Year CMBS

Source: Commercial Real Estate Direct - crenews.com

On Dec. 27, 2013 AAA five-year CMBS spreads were 130 basis points over swaps; they were as narrow as 97.5 basis points on Feb. 1, 2013.

Commercial mortgage backed securities spreads to swaps narrowed despite an increase in issuance as investors sought out higher returns. By year-end, AAA 5-year classes of CMBS were at a spread of 130 basis points over swaps, in from 140 basis points quoted in the clos-ing days of 2012. In February 2009 and December 2008, yield premiums for AAA, 5-year CMBS were as wide as 1,500 basis points.

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Any rise in cap rates could be tempered by readily avail-able financing from CMBS conduits and portfolio lend-ers, writes Lisa Pendergast, a debt strategist at Jeffer-ies Group Inc.

A question weighing on the commer-cial real estate market is whether the benefits of more robust economic growth and any related increase in demand for commercial property will outweigh the negative effects of higher borrowing costs and rising capitalization rates that may come with tighter Federal Reserve monetary policy.

While cap rates likely will rise, inves-tors should expect any increase to be tempered by the high level of CRE/mul-tifamily financing available from portfolio lenders, CMBS conduits and the GSEs.

Other factors that could restrain cap rates include increased demand for commercial property space, little in the way of commercial real estate develop-ment and a more sanguine risk/reward view of value-added CRE investments.

The severity of the recession and an unprecedented response by the Federal Reserve led to an environment in which base interest-rate levels became the overriding influence on cap rates.

To date, commercial real estate values in many markets and asset classes have appreciated more because of capital-markets machinations and artificially low benchmark rates/capitalization rates than because of actual growth in demand for space.

Appreciation in property values has been restricted largely to core markets where trophy/Class-A assets provide commercial real estate investors with long-term stable value and, conceivably, additional upside as economic growth accelerates and commercial real estate demand grows.

The March 2014 Moody’s/RCA Com-mercial Property Price Index (CPPI)

report noted that prices in major or core markets now exceed November 2007’s pre-crisis peak by 3 percent, while prices of properties in non-major, or non-core, markets are still mired at about 16 percent below peak.

For most CRE assets in non-core mar-kets, cap rates have demonstrated little downward momentum from elevated post-crisis levels. Investors still shy away from non-core markets, many of which are still experiencing depressed eco-nomic activity.

This is reflected in cap rate spreads across the post-crisis era: even though the ten-year Treasury rate fell from a high of 4.80 percent in 2006 to a low of 1.79 percent in 2012, the average capi-talization rate across asset classes fell only 46 basis points from 5.82 percent in 2006 to 5.36 percent in 2013. Why? Investors demanded an incremental risk premium or a wider cap rate spread over the ten-year Treasury rate given the perceived riskier environment.

There is a silver lining to this situation as benchmark treasury rates grow more likely to rise. Currently, the CRE average cap rate spread to the ten-year risk-free rate is 310 basis points across all asset classes; this compares to a spread of 93 basis points over swaps in 2007.

The wider spread today means that cap rates have some protection against a rise in benchmark rates, assuming

investors are willing to reduce their risk premium from the average of 310 basis points to its long-term average of around 200 basis points.

Not surprisingly, cap rates are low-est today for the multifamily sector at around 4.9 percent. Low multifamily cap rates are attributable to more stable cash flows and reduced risk associated with multifamily properties versus other commercial real estate assets.

This is particularly evident since the credit crisis, and accentuated by 1) the presence of the government-sponsored enterprises Fannie Mae and Freddie Mac in the lending markets at the height of the crisis and 2) growth in demand tied to a drop in U.S. homeownership. For the future, a supply increase as multifam-ily projects proliferate — particularly in metropolitan areas in Texas, Washington, D.C., and Seattle — should stem further declines in cap rates if not nudge them slightly higher in certain markets.

Meanwhile, the office sector is not far behind multifamily in terms of cap rates, averaging around 5.1 percent at the national level. When it comes to cap rates for office properties there is a major disparity between assets located in central business districts, or CBDs, and those in suburban markets. The lat-ter are significantly higher. For example, CBD trophy office assets in Manhattan are trading at cap rates in the 4 percent area, whereas office properties in subur-ban markets where there is less demand see cap rates of 7 percent or more.

Among other property categories, cap rates for retail facilities differ greatly depending on market and asset type. Very limited new supply should help this sector, and it should be supported by any job growth and/or improved con-sumer confidence. Our overarching the-sis still applies: given the expectations that second-quarter economic growth will reflect considerable improvement from the first-quarter’s weather-induced doldrums, it is difficult not to expect benchmark Treasury rates to rise; as a result, retail capitalization rates could be pressured higher.

guEST EdiTOrial LISA PENDERGAST, JEFFERIES GROUP

The Price you Pay: Better Economy and higher real Estate Cap rates Could go hand in hand

The severity of the recession and an unprecedented

response by the Federal Reserve led to an

environment in which base interest-rate levels became the overriding influence on

cap rates.


The weighted average cap rate for office, retail and hospitality property loans resold into bonds fell in the final three months of 2013, while weighted average cap rates for multifamily properties rose, according to data compiled by Bloomberg LP. The spread to U.S. Trea-sury rates earned by lenders for all property types fell in 2013 from 2012, suggesting investors financing property purchases were willing to earn less of a return. The biggest drop in the spread to 10-year U.S. Treasury note rates earned by lenders was seen in retail property mortgages; the smallest decline was in multifamily mortgages.

CaP raTES

Retail Property Loan Cap Rates Down

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The weighted average cap rate for retail property mortgages resold into bonds was at 5.59 percent in the fourth quarter of 2013, down from 6.17 percent in the fourth quarter of 2012. The spread to Treasuries earned by lenders narrowed to 2.56 percent from 4.42 percent in that time period.

Multifamily Cap Rates at 6.64 Percent in Q4 2013

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Multifamily cap rates ended the fourth quarter of 2013 at 6.33 percent, up from 5.85 percent in the final three months of 2012. The spread to benchmark U.S. government debt earned by lenders during that period narrowed to 3.30 percent from 4.09 percent.

Hospitality Cap Rates Close 2013 at 7.31 Percent

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The weighted average cap rate for hospitality mortgage debt was at 7.31 percent in the final three months of 2013, down from 7.34 percent in December 2012. Cap rates for this property type were as high as 10.34 percent in the third quarter of 2010.

Office Cap Rates Fall to 5.78 Percent in Q4 2013

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The weighted average cap rate for mortgage debt backed by office proper-ties was at 5.78 percent in the fourth quarter of 2013, down from 6.01 percent in the fourth quarter of 2012. Late last year the spread to Treasuries earned by lenders fell to 2.76 percent from 4.25 percent in December 2012.

most Commercial Property Cap rates Trended lower in 2013


lOaN OrigiNaTOr CurrENT BalaNCE dEliNquENT BalaNCE

TOTal NumBEr OF

lOaNS

NumBEr OF dEliNquENT

lOaNS

NumBEr OF dEliNquENT lOaNS ThaT had BOrrOwErS FiliNg FOr

BaNkruPTCy COurT PrOTECTiON

1 Wachovia Bank NA 42,951,934,457 6,680,083,262 3,503 221 10

2 Column Financial 26,343,251,643 2,292,324,922 6,442 215 8

3 LaSalle Bank National Association 15,706,071,678 2,088,200,503 5,159 200 14

4 JPMorgan Chase & Co. 56,677,236,277 2,430,220,626 4,925 141 7

5 Lehman Brothers 20,238,268,322 1,644,960,318 4,031 131 5

6 Bank of America, NA 37,965,237,929 2,829,229,425 4,254 129 3

7 Greenwich Capital 17,678,730,549 3,118,232,805 1,863 122 7

8 CRF 9,026,773,488 1,115,742,080 1,297 93 6

9 CIBC 10,641,584,744 1,213,095,780 1,854 90 7

10 German American Capital 26,055,040,777 2,271,672,660 1,857 82 5

10 Merrill Lynch & Co. Inc. 12,282,912,986 2,237,262,238 2,306 82 7

12 UBS AG 21,725,319,210 2,032,556,947 2,420 76 3

13 Wells Fargo Bank, NA 35,970,924,646 579,442,802 5,642 73 2

13 Morgan Stanley Mortgage Capital Holding 19,352,348,341 924,741,462 1,845 73 3

15 PNC 11,378,060,855 678,149,447 1,849 72 5

16 CGM 11,774,159,280 1,407,135,230 1077 70 2

17 General Electric Capital Corp. 7,921,250,427 820,150,333 2,876 69 4

18 Bridger Commercial Funding 2,502,663,052 391,906,816 966 65 0

19 Goldman Sachs 28,642,172,877 1,708,624,863 1,674 61 1

20 Washington Mutual Bank 1,328,650,840 77,491,596 2,573 60 5

21 Bear Stearns Co. Inc. 15,118,024,303 1,345,707,419 2,401 48 2

22 Barclays 8,382,006,634 800,707,523 792 39 2

23 Artesia Mortgage Capital Corporation 2,696,903,754 288,121,857 937 36 2

23 NCCI 5,230,898,831 552,777,242 963 36 2

23 KeyBank NA 6,973,747,666 569,482,197 1,434 36 1


rEal ESTaTE q1 2014

wachovia, column and lasalle are top underwriters of delinquent cMBs property loans

Among underwriters of commercial mortgage loans resold as CMBS, Wachovia Bank NA had the biggest number of delinquent mortgage loans as of January 2014, according to data compiled by Bloomberg LP. Wachovia, acquired by Wells Fargo in 2008, had 221 delinquent loans for commercial real estate properties and 10 of these loans involved borrowers that filed for bankruptcy court protection. Column Financial was the number two underwriter of problem loans — 215 of its mortgages were delinquent — and LaSalle was the third biggest. Two hundred of the 5,159 loans underwritten by LaSalle were delinquent.


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q & a wiTh dwighT BOSTiC

The low interest rate environment has spurred investment banks to join hedge funds and private equity firms to buy distressed real estate, Dwight Bostic, managing director at Mission Capital, tells Bloomberg Brief’s Aleksandrs Rozens.

Q: Who is buying distressed real estate debt these days?A: In the last few years there’s been sig-nificant capital raised and there have been participants that exited the market during the significant downturn that have moved back in – probably most notably the investment banks. Then, there are hedge funds and private equity. It’s a pretty broad market when it comes to investing in distressed assets these days.

Q: What kind of paper is it – Fannie and Freddie mortgage debt or non-conforming mortgages? A: It is mostly assets that would have been originated in 2006 and 2007 and into 2008. From a legacy standpoint on the

investment Banks Eager for yield return to real Estate, mission’s Bostic Says

distressed side, there is still a significant amount of non-performing and troubled debt, restructured re-performing assets that sit on balance sheets of the deposi-tory institutions. Some of the structured sales that the FDIC ran in 2008 and 2009 have kind of played out and have gotten to the point where they can be liquidated. We are seeing some funds enter their wind-down phase — some of the early acquisitions that were made in the market. It’s not purely depository institutions that have been sellers. It has been some of the funds as well.

Q: What’s behind the renewed inter-est by investment banks? Are they restarting conduits for commercial and residential mortgages?A: Today while there have been some banks willing to get back into new origina-tion in conduit, that hasn’t really taken off because the securitization market has not really taken off. The banks are look-ing at taking down the distressed side or

re-performing assets in this rate environ-ment as something they are willing to hold and earn the yield. Sometimes they have private investors behind them and they create investment vehicles for private equity groups or investors. They are really focused on the higher yield, distressed side of the market. The banks are also extending warehouse lines now to buyers in distressed markets. That’s been a boon to overall pricing.

Q: What’s your impression of the sec-ond lien home equity market? Is any-one buying home equity loans? What does that say about how people feel about the return in value of housing?A: The second-lien home equity space has been very thin. While the housing appreciation we have seen has been more favorable than we thought it would be at this stage, it really has not resulted in some of 2006, 2007 and 2008 vintages coming back to a point where the second liens have equity in them. So it’s still very

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much a collection play from a debt versus any sort of collateral backing it up. The banks and the other holders of that — the execution they are going to get on that is pennies on the dollar. The operational capacity that it relieves from them doing is not that significant. That market is very thin right now and given some of the regu-latory oversight and regulations that have been put in place, I don’t think that market is going to come back for a while.

Q: What happens to the market when Fannie and Freddie are unwound? Does this mean the end of 20- and 30-year mortgages?A: That’s one of the big concerns as to whatever sort of reform comes out of this: How do you preserve the 30-year fixed-rate mortgage for people? And, what sort of role does the government have in ensuring that that type of financing is available? I don’t think anybody knows the resolution that’s going ultimately pass. I know that’s a very important part of this unwinding process and the future role of government in the mortgage space — and

that is to not push the market to purely a balloon or adjustable rate environment.

Q: From what I recall, FHA loans saw a high rate of defaults and delinquen-cies. Are you doing anything in that space in terms of FHA or VA paper?A: HUD has been actively selling non-performing loans for the last couple of years. All indications are that they will continue to be active sellers for the fore-seeable future, call it three to five years. We are pursuing that market. Really there is the direct involvement with HUD and then there is the potential for individual

banks and other holders of that paper to buy loans out of the Ginnie Mae securi-ties — its called early buy out — and sell them. But the current rate environment is not really conducive to that trade. I think the majority of the trades will be direct through the HUD where HUD actually takes a bank out of the asset, pays off the claim and sells that uninsured asset into the secondary market. We are pursuing that business and I think that will be the majority of the HUD FHA and VA loan sales over the next several years.

age: 49

Education: West Virginia University

Professional Background: Has worked for Pru Home Mortgage, Ocwen

Financial, Donaldson Lufkin & Jenrette and Credit Suisse. Joined Mission

Capital when it was founded in 2002.

Family: Married, two daughters.

hobby: Avid tennis player.

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Large Real Estate• Understanding the Changing Legal Structures in Mezzanine Financing Today• Finding Potential in Multi-family Housing in an Increasingly Competitive Marketplace

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FOrEClOSurE daTa

december commercial Mortgage debt foreclosure rate at lowest since september 2009

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Foreclosures of commercial property mortgages resold into securities fell to a 51-month low in December.

The rate of commercial mortgage debt foreclosures involving all property types in December was 0.53 percent, the lowest since September 2009 when it was at 0.57 percent.

Foreclosures of commercial mortgage debt peaked in July 2011 when they hit a rate of 1.92 percent.

The 30-day delinquency rate of commer-cial mortgage debt involving all property types was at 0.28 percent in December. That’s a low not seen since October 2008 when the 30-day delinquency rate was 0.17 percent.

Thirty-day delinquency rates of com-mercial property debt hit a peak of 1.33 percent in June 2009.

Commercial mortgage debt delinquent 60 days was at a rate of 0.15 percent, down from 0.18 percent in November. Sixty-day delinquency rates, which were

as high as 0.72 percent in April 2010, were at 0.13 percent in October 2013.

Ninety-day delinquencies of commercial

mortgage debt rose to 1.08 percent in De-cember from 1.07 percent in November.

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foreclosure data…

The credit picture for commercial real estate debt resold into commercial mortgage-backed securities showed further improvement last year. Thirty-day, 60-day and 90-day delinquency rates for mortgages on retail properties, offices, industrial warehouses and hospitality declined in 2013 from 2012, according to Bloomberg data. Foreclosures of all property showed improvement from the previous year.

Hotel Foreclosures Lowest Since May 2009

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Foreclosures of mortgages backed by hotel properties fell in December 2013 to their lowest since May 2009. The foreclosure rate for hospitality mortgage debt was 0.31 percent in December 2013, down from 2.61 in December 2012. In May 2009, hospitality foreclosure rates were at 0.17 percent.

60-Day Industrial Delinquencies Lowest Since ’08

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Industrial warehouse mortgage debt 60 days delinquent fell in December 2013 to its lowest level since November 2008. This property type saw a drop in foreclosure activity last year; in December foreclosures were at 0.86 percent, down from 0.94 percent in December 2012.

30-Day Retail Loan Delinquencies at 5-Year Low

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Thirty-day delinquencies for retail property mortgages ended the year at 0.25 percent, the lowest since October 2008 when they were at 0.19 per-cent. Retail property foreclosures were at 0.75 percent in December 2013, a low not seen since December 2009 when they were at 0.74 percent.

30-Day Office Delinquencies at Five-Year Low

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Thirty-day delinquencies for office property loans, which rose to as high as 1.38 percent in May 2012, were at 0.32 percent in December 2013, their lowest since December 2008. Office property foreclosures were at 1.21 percent in December 2013, a low not seen since January 2011.

delinquency, foreclosure rates for all property types trended lower in 2013


q & a wiTh ruSSEll BErNard

The U.S. real estate market has not completely returned to health and distressed investors likely will find buying opportunities in proper-ties that are worth $50 million or less, Russell Bernard, managing principal at Westport Capital Partners LLC, tells Bloomberg Brief’s Aleksandrs Rozens.

Q: How does this post-crisis era com-pare to previous ones for a real estate investor? A: For a distressed investor, the best time to buy distressed assets was 2008-2009 when the real estate markets were at their worst. That was the best time to find value. We are now five or six years into the recovery and it’s clear that the recovery is stronger in markets like New York and San Francisco and not as strong in other parts of the country. To evaluate today’s opportunity, the standard example I use is to look at banks. If you look at 2013, when the stock market was at an all time high, there were still 25 or so community and regional banks that went out of business. And what put those banks out of business was probably their real estate loans. It was not Latin America debt or derivatives. It was probably real estate. Those 25 bank closures — not counting the Resolution Trust Corp. days in the late 1980s and 1990s or this last crisis — were among the top 10 percent of bank closures since the 1930s. So if banks are still failing, to me that means the banking and liquidity systems are not fully functioning. In that scenario, you can’t have a completely healthy real estate market, even though the situation is improving, and there are opportunities for investors.

Q: Some property types in New York are richer than where they were prior to the crisis. A: Yes, residential construction for in-stance. If you want to make money build-ing a new building in Manhattan, it has to be a luxury project selling at $2,000 or $3,000 per square foot. Before the crisis most projects were significantly under that. Part of that is because land prices to-day have more than doubled — from $300

real Estate Not Entirely healthy and That makes for good Buying Opportunities: Bernard

age: 56

Education: Cornell University, B.S. in Business Management and Marketing

Favorite Charity: USC Shoah Foundation

Professional Background: Previously Principal at Oaktree and portfolio man-

ager for Oaktree’s real estate funds. Managing director and Portfolio manager at

TCW Special Credits Distressed Mortgage Fund. Partner at Win Properties Inc.

Current Favorite Book: “The Hard Thing About Hard Things,” by Ben Horowitz

a square foot to $700 or $800 a square foot. And interest rates are certainly half of what they were before. Now, throw in the general costs of owning an apartment in New York City. So, are interest rates or demand or taxes driving current pricing? Obviously it is a little of everything. But what happens if interest rates double? That’s not a big stretch. They won’t double immediately, but what happens when they double? Will property prices fall by half? All those risk factors come into play.

Q: Is there any distressed real estate left?A: Distressed debt sold by banks is hard to find at sufficiently discounted prices. Very few loans offer yields that would in-terest a distressed real estate investor. So I don’t think buying non-performing loans is as attractive as it was in 2008-09. But I do believe there are pockets of opportuni-ties in REO — real estate owned by spe-cial servicers or banks. They just probably are not in Manhattan or San Francisco, but in smaller cities and suburbs outside of the spotlight.

Q: REO — if you see value in it, what’s the common denominator? What kind of property is it? What gives it value?A: There is value in all types of property. I think the best opportunities are at $50 million dollars and under. A property can be residential, it can be office, it can be retail. It can be land. It can be hospitality. It’s probably not in what people would call core markets. It’s probably in secondary or tertiary markets that you find the best value for the least amount of risk.

Q: How do you go about buying this property? Do you go to 363 bankrupt-cy auction sales or do you go through an agent?A: We get some opportunities through direct inquiries and others from bidding on the court house steps. Some interest comes from brokers scanning the Internet. We have a variety of different sources, which is why for us the deal flow is plenti-ful. When deal flow is plentiful for assets that need liquidity, that makes me feel that the market has not fully stabilized yet, out-side of certain places. It’s moving in the right direction and, eventually, stability will come unless something on the horizon knocks it off. More liquidity is coming back but it’s not easy to get a bank loan.

Q: How do these properties end up REO? Is it because their owners can-not get the money to pay down a bal-loon payment?A: There is usually a maturity default or payment default and lenders either foreclose or the borrower hands in the keys. When a lender takes back an asset, it obviously does not solve the problem. A bank is in the lending business, not the real estate business. They want to get the property off of their balance sheet, espe-cially when it needs a capital injection for upkeep or repair. Over the last five years lenders with REO have had the opportu-nity to write down the value of their loans over time. They’ve taken a little pain every year, so they hope they can now dispose of a property at a market clearing price, or possibly hold on until the value rebounds.


The revival of commercial and residential real estate spilled over into equity markets in 2013 where the number of real estate companies taken public rose to a nine-year high, according to data compiled by Bloomberg LP.

At the same time, mergers and acquisitions of real estate businesses rose to a level not seen since 2007 and most of the transactions involved U.S. companies. Three hundred and ninety-three mergers valued at $96.4 billion were unveiled in 2013, up from 307 deals in 2012 worth $64 billion.

CaP markETS

Real Estate Mergers Hit Post-Crisis High in ’13

0

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$0

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2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

← Annualized rate (B)

← Volume (B)

Deal Count →

Source: Bloomberg

While real estate mergers in 2013 are up from 2012, they are shy of 2007 levels when 638 transactions worth $147.9 billion were assembled by bankers. The largest deal of 2013 was American Realty Capital Proper-ties’ acquisition of Cole Real Estate Investments, a provider of real estate investment services.

U.S. Companies Drive Real Estate Mergers

Real Estate IPO Issuance at Nine-Year High

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Total IPO value (millions) Number of IPOs


Sixteen initial public offerings for real estate companies were completed in 2013, raising $4.9 billion in equity markets. That’s the most since 2004, when 29 real estate companies were taken public, raising $6.9 billion. In 2012, nine real estate IPOs raised $3.02 billion.

BAML Captures 21 Percent Share of RE IPOs

0 5 10 15 20 25

Barclays

Raymond James & Associates Inc

UBS

Deutsche Bank AG

Wells Fargo & Co

Citi

JP Morgan

Morgan Stanley

Goldman Sachs & Co

Bank of America Merrill Lynch


BAML was lead underwriter of seven real estate company IPOs in 2013, giv-ing it a 21 percent market share, while Goldman underwrote five such trans-actions, giving it a 15.5 percent market share. BAML underwrote the largest real estate IPO of the year — Empire State Realty’s $1.1 billion offering.

TargET COuNTry aCquirEr valuE ($m)

dEal STaTuS

Cole Real Estate Investment Inc US American Realty Capital

Properties Inc 9,846 Completed

SM Land Inc PH SM Prime Holdings Inc 7,330 PendingBRE Properties Inc US Essex Property Trust Inc 5,936 CompletedBrookfield Office Properties Inc US Brookfield Property

Partners LP 5,037 Pending

GSW Immobilien AG DE Deutsche Wohnen AG 4,532 CompletedCorporate Prop-erty Associates 16 - Global Inc

US WP Carey Inc 4,367 Completed

Primaris Retail Real Estate Investment Trust

CA H&R Real Estate Invest-ment Trust 4,106 Completed

Colonial Properties Trust US Mid-America Apartment

Communities Inc 4,042 Completed

Cole Credit Property Trust II Inc/Old US Spirit Realty Capital Inc 3,663 Completed

CommonWealth REIT USCorvex Management LP, Related Fund Manage-ment LLC

2,898 Pending


real Estate renaissance Spills into Equity markets with iPOs, m&a activity


q & a wiTh alExaNdEr ruBiN

Servicer sales of distressed real estate have drawn buyers such as private equity firms and hedge funds, Alexander Rubin, managing director at Moelis & Co., tells Bloomberg Brief’s Aleksandrs Rozens.

Q: There’s more going in the equity mar-kets related to real estate businesses. A: Some of the larger companies — for example, the collection of Blackstone’s stakes in private businesses — it was pretty clear those were going to come at least on a dual track basis if not getting done ultimately in the public market. They have been structured well, priced correctly. For the most part, those deals have traded pretty well.

Q: How are these deals trading after they have come to market?A: Most have traded up. In all of these deals sponsors are generally not initially selling down their stake. They are actually raising primary capital of the company, demonstrat-ing ongoing commitment to the business.

Q: Are you seeing more M&A on the back of the pickup in real estate IPOs?A: There is a reasonably demonstrable backdrop of increasing corporate con-fidence in the boardroom expressed by CEOs and their boards of directors. That certainly is a function of general liquidity in equity and fixed income capital markets. But there are two additional trends contributing to this. There are elevated levels of share-holder activism coming into the REIT space. That is not something we have seen in a meaningful way before relatively recently. The second is the utilization of various spin off or split off technology by some of the larger companies to simplify their busi-nesses and give shareholders opportunity for more of a pure play in the various com-ponent businesses. That’s everything from what Simon Property has done with their shopping center and B mall business on the one hand and Northstar on the other hand with a successful example of spinning out of their asset management business. Both of those deals are likely to be completed in the second quarter.

Servicer Sales of real Estate draw PE, hedge Fund interest, Says moelis’s rubin

Professional Background: Managing Director in Global Real Estate Invest-

ment Banking Group at Citigroup, M.D. and Co-Head of European Real Estate

Investment Banking at UBS, Managing Director at Merrill Lynch

Education: B.A. degree from Cornell University

Family: Married, three children

Q: Does the shareholder activism kick up property sales or portfolio sales of properties?A: It certainly could. In other instances it prompts, perhaps, a more thorough review of a strategic alternatives. In some cases it results in selective board representation; in other cases it can result in a full restacking of the board of directors and leadership of the firm.

Q: How does any wind down of Fannie Mae and Freddie Mac impact financial sponsor investments in real estate?A: It is not clear whether or not Congress will actually back away from Fannie and Freddie, or if they do, whether or not private solutions don’t emerge to provide some of that same secondary market support for the single family mortgage product. If availability of credit in the single family mortgage business were to be impacted or curtailed through some disruption to the GSE template as it currently exists such that some segment of homeowners that have otherwise relied on mortgage financing to buy their homes — if that becomes more challenging and you tip the scales so that you are increasing the number of renters, that could arguably play well to two groups of real estate owners: the multi-family sec-tor, whether public or private, as well as sponsors or public companies that have aggregated portfolios of single family homes and are offering them for rent.

Q: What are you seeing in terms of sales of distressed property from banks? A: What there has been more of more recently in the U.S. have been some size-able liquidations by special servicers in the CMBS market where they are selling some of their nonperforming portfolio — whether

it is a loan that has defaulted or if they have actually gone through and perfected their interest in the underlying real estate. There have been some reasonably sizeable deals by each of the major special servicers. Unlike the period in the early financial crisis when there was limited liquidity, the markets today are far more functional and, as a result, you are seeing reasonable if not elevated dispositions by special servicers.

Q: Who are the buyers? Private equity, hedge funds?A: All of the above. Private real estate owners, public companies. Offshore capital has been a major source of demand for practically all manner of real property in major cities.

Q: What is private equity’s next play in real estate?A: We will experience a period of elevated activity in the GP space broadly defined — the actual managers of private equity for commercial real estate. That could take a number of forms. That could be GPs merg-ing with each other. You could see some of these firms explore IPOs to the extent they have successful track records, sufficient scale, diverse strategies and critical mass as far assets under management. There could be a good reception for some of the successful names in the public market. You could see some LPs narrowing the number of relationships that they currently man-age to deploy larger volumes of investment dollars across a narrower portfolio of GP relationships. The state of New Jersey last year sold off a portfolio of 25 LP interests in underlying real estate funds. Then the state redeployed that money across a narrower collection of their GP relationships.


Piedmont Office Realty Trust was the first office REIT to sell unsecured bonds this year, after peers raised $2.7 billion in 2013. Piedmont sold $400 million in bonds priced at 178 basis points over the 10-year Treasury, for a coupon of 4.45 percent. Tightening bond spreads may encourage the use of unsecured debt as a source of capital for office REITs during the balance of 2014.

Office REITs have a total of $5.3 billion of debt scheduled to mature in 2014, led by Brookfield Office’s $2.1 billion of property-level debt.

Kilroy Realty Corp. and Brandywine Realty Trust have the most unsecured debt maturities scheduled among office REITs in 2014. Kilroy has said it intends to issue new debt to address its maturities.

Kilroy Realty has $256 million of unsecured debt maturing in 2014, including $83 million in August with a 6.45 percent cou-pon and $172.5 million of convertible debt at a 4.25 percent coupon (7.1 percent GAAP interest rate).

Kilroy Realty noted during its fourth quarter earnings call that it plans to issue debt to repay its 2014 maturities, which have a blended GAAP interest rate of 6.9 percent. According to the referenced curve, a new 10-year issue for Kilroy may price 160 basis points below that. Even those office REITs without immediate liquidity needs might look to the bond markets as a source of capital in 2014 given the 30-basis point year to date drop in the 10-year Treasury yield and tighter spreads.

Brandywine Realty Trust has the next largest office REIT unsecured debt maturity, $232 million in November with a 5.4 percent coupon. It has sufficient cash to repay its maturities.

Bloomberg Industries analysis of Office REITS is available on the termi-nal at BI oFCR <go>.

OFFiCE rEiTS JEFFREY LANGBAUM, BLOOMBERG INDUSTRIES ANALYST

Piedmont’s unsecured Bond Sale Shows alternative to Equity Financing

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2014 2015 2016 2017 2018 2019 2020 2021 2022 2023

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Kilroy Yield Curve

Source: Bloomberg LP Source: Bloomberg LP Source: Bloomberg LP

3 5 7 10 20

Current Coupon on Maturing 10-Year Bond

Kilroy Maturities Shows 2014 Refinancing Need

Kilroy Current Yields Suggest Refinancing Gain

Office REIT Bond 2013 Issuance

iSSuEr NamE iSSuE daTE amOuNT (milliONS OF dOllarS) COuPON maTuriTy daTE

Boston Properties LP 6/27/2013 700 3.8 2/1/2024

Corporate Office Properties LP 9/16/2013 250 5.25 2/15/2024

Mack-Cali Realty LP 5/8/2013 275 3.15 5/15/2023

Boston Properties LP 4/11/2013 500 3.125 9/1/2023

Corporate Office Properties LP 8/28/2013 350 3.6 5/15/2023

Kilroy Realty LP 1/14/2013 300 3.8 1/15/2023

Piedmont Operating Partnership LP 7/17/2013 350 3.4 6/1/2023

Bankers Hall LP 11/18/2013 288 4.377 11/20/2023


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Apartment REIT development pipelines have grown about threefold since early 2011 to $8 billion from $2.1 billion, due to a 100 to 150 bp yield advantage over acquisitions. Apartment construction and leas-ing can take 24 to 36 months, so earnings from the initial development spike may support apartment REIT year-over-year funds from opera-tions comparisons in 2014. AvalonBay, Equity Residential, Camden Property Trust and UDR are the largest apartment REIT developers.

Apartment property sales in the first quarter by REITs topped ac-quisitions at $637 million versus $397 million. Equity Residential led buyers at $229 million, bucking the sectorwide trend. Brookfield led sellers at $137 million, followed by Home Properties ($110 million).

REITs continue to take advantage of high apartment prices to monetize assets, though dispositions hurt near-term earnings before proceeds are re-invested.

Essex Property Trust’s consensus FFO estimate has declined following its just-completed acquisition of BRE Properties and its late-quarter issuance of $76 million of equity. Essex’s adjusted FFO per share is expected to increase by 4.4 percent in the first quarter, below the 11.4 percent growth of fiscal 2013.

Bloomberg Industries analysis of apartment REITS can be found on the terminal at BI APTR <go>.

aParTmENT rEiTS JEFFREY LANGBAUM, BLOOMBERG INDUSTRIES ANALYST

Construction yields more Profits Than acquisitions

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2006 2007 2008 2009 2010 2011 2012 2013

Billions of Dollars

Uni

ts

Apartment Units Under Development (L1)Total REIT Spending on Apartment Development (R1)

Source: Bloomberg Industries, Company Filings

Development Pipeline Is Growing

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2006 2007 2008 2009 2010 2011 2012 2013

Num

ber of Units

U.S

. Dol

lars

Purchase Price per Unit (Left Axis)

Units Acquired (Right Axis)

Source: Real Capital Analytics

Acquisitions by Apartment REITs Declined in ’13...

0

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ber of Units

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. Dol

lars

Sales Price per Unit (Left Axis)

Units Sold (Right Axis)

Source: Real Capital Analytics

...With Higher Deal Value Than Dispositions

First Quarter Apartment REIT Investment Deals

Acquisitions

COmPaNy amOuNT (uS$, mlNS) NO. OF uNiTS PriCE/uNiT

Equity Residential $229 1,018 $224,951

Washington REIT $73 216 $337,963

MAA $38.8 377 $103,044

Brookfield Asset Mgmt $25 753 $33,201

BRT Realty Trust $18.8 400 $47,000

Almco $12 40 $300,000Source: Bloomberg Industries

Dispositions

COmPaNy amOuNT (uS$, mlNS) NO. OF uNiTS PriCE/uNiT

MAA $10.6 285 $37,135

Brookfield Asset Mgmt $137.2 2,098 $65,396

Almco $32 404 $79,208

Home Properties $110 864 $127,315

BRE $95.4 508 $187,795

AvalonBay $67.4 369 $182,656

Associated Estates $60 352 $170,455

UDR $48.7 264 $184

Winthrop Realty Trust $31.7 324 $97,840

Camden Property Trust $30 318 $94,340

Essex Property Trust $14.4 106 $135,535Source: Bloomberg Industries


High occupancy rates in malls and shopping centers owned by specialized real estate investment trusts will likely continue to insulate them from announced store closings.

With occupancy rates at almost 95 percent on average, a record high for the peer group, REITs have pricing power. As long-term leases with below-market rents expire, new leases are being signed with double-digit rent increases.

Mall, outlet and shopping center REITs, especially those with better-quality assets, have been able to overcome risks of e-commerce. REIT portfolios generated 3.5 percent average same-store net operating income growth in 2013.

Overall retail vacancy rates fell to 10.4 percent by the end of last year from 10.5 percent in the third quarter of 2013, according to real estate information firm REIS. Rent growth (per square foot) rose to 1.4 percent year over year from 1.1 percent in the third quarter. Overall store rents will increase 2.3 percent in 2014 and 3 percent in 2015, REIS forecasts. Retail completions increased 48.4 percent from the third quarter and remained below net absorption for the ninth consecutive quar-ter. Completions will rise 74.3 percent in 2014 and 38.2 percent in 2015, yet remain below net absorption, REIS forecasts.

Occupancy rates tend to be higher at malls and shopping centers selected to be included in REIT portfolios. Occupancy rates at the end of 2013 reached 95 percent for both segments.

Shopping center REIT occupancy has been rising since 2010 and rental rate spreads have been consistently positive since 2011. With limited vacancy putting a premium on high-quality real estate, shopping center REITs have generated double-digit rent increases on leasing activity in recent quarters, which may continue. Store closings by retailers such as Staples and Radio Shack have a limited effect on REIT portfolios, as new tenants are paying 20 percent more, on average, than the retailers they replace.

Higher rents have allowed REITs to generate same-store net operating income growth even as struggling retailers announce store closings. Mall REITs with higher productivity centers are poised to outperform. The group’s net operating income aver-aged 3.5 percent in the last quarter of 2013. Shopping centers ability to generating high rent spreads on low in-place rents helped the group to push net operating income growth to 3.4 percent for the same period.

Tenant sales growth rates have been shrinking, which could eventually limit the ability of mall REITs’ to raise base rents or collect percentage rents, which are based on sales. So far, with occupancy rates at record high levels and occupancy costs low, mall landlords retain pricing power, especially for higher productivity centers. Even with pending closures from retailers such as J.C. Penney and Abercrombie & Fitch, mall REIT same-store net operating income growth appears poised to rise.

Bloomberg Industries analysis of retail REITS can be found on the termi-nal at BI RETR <go>.

rETail rEiTS JEFFREY LANGBAUM, BLOOMBERG INDUSTRIES ANALYST

retail rEiTs Shrug Off Store Closings as high Occupancy rates Support rent increasesBINASHPV Index (BI North America Shopping Centers - REIT Valuation Peers)BINASHPV Index (BI North America Shopping Centers - REIT Valuation Peers)BINAMALV Index (BI North America Regional Malls - REIT Valuation Peers)BINAMALV Index (BI North America Regional Malls - REIT Valuation Peers)

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Bloomberg ®Charts 1 - 1

Occupancy Rates Rise, Support Rents

BINASHPV Index (BI North America Shopping Centers - REIT Valuation Peers)BINASHPV Index (BI North America Shopping Centers - REIT Valuation Peers)



Shopping Centers Get 20% Raise on New Leases

BINASHPV Index (BI North America Shopping Centers - REIT Valuation Peers)BINASHPV Index (BI North America Shopping Centers - REIT Valuation Peers)BINAMALV Index (BI North America Regional Malls - REIT Valuation Peers)BINAMALV Index (BI North America Regional Malls - REIT Valuation Peers)



REIT’s Same Store Sales Outperform Retailers





The well-being of commercial real estate such as mul-tifamily, office and industrial properties is tied closely to the health of the U.S. jobs market, writes Will McIntosh, head of research at USAA Real Estate Co.

One of the most important economic indicators and a major demand driver for real estate is employment growth. The more workers earn, the more they buy, propelling the economy and the demand for real estate forward. As a result, news of robust employment growth can stimu-late the real estate market by boosting expectations of higher sales and profits. At the same time, little or no growth in employment is generally viewed as a negative for the real estate markets by keeping would-be homeowners on the sidelines and reducing their incentive to invest and expand.

National total employment trends are a powerful indicator of the health of the commercial real estate markets and are likely to retain increased impor-tance over the next few years given that supply is projected to remain well below historical levels for most major sectors and markets. Over the past 25 years, a 1 percent increase in employ-ment has translated, on average, to net absorption rates across the major property sectors between 0.52 percent (multifamily) and 0.88 percent (office). Regressing employment against net absorption suggests that changes in employment explain between 44 percent (multifamily) and 77 percent (industrial) of the variation in net absorption. The relationships are even stronger if we use subsets of the employment data that are more closely tied to each sector (ex. office-using employment and office net absorption).

With employment and net absorption so closely correlated, an analysis of the jobs market can provide invaluable insight into the health of the real estate

guEST EdiTOrial WILL MCINTOSH, USAA REAL ESTATE CO.

Employment recovery is missing Piece in real Estate Puzzle

sector. As of the fourth quarter of 2013, total employment in the U.S. stood at 136.7 million after adding 2.28 million jobs in 2013. This level remains 0.9 per-cent below the peak employment of 138 million reached during the first quarter of 2008. According to Moody’s Analytics, the U.S. will recover all of the employ-ment losses from the Great Recession by the second quarter of 2014.

However, the change in employment rates has not been even across all sec-tors. Private sector employment fell 7.5 percent during the recession from its peak of 115.6 million in the fourth quar-ter of 2007; it has since recovered most of these losses and currently stands just 0.6 percent below peak levels. Govern-ment jobs, on the other hand, fell only 3.1 percent from their peak of 22.6 million as of the second quarter of 2009, but have made almost no recovery, excluding the temporary impact from Census hiring in the second quarter of 2010. They remain 3.1 percent below their peak levels.

In the private sector, the top employ-ment performers since 2007 have been natural resources, education and health services, professional and business services, and leisure and hospitality. The

worst performers have been construc-tion, manufacturing, information and financial activities, though all of these sectors saw some employment gains nationally in 2013.

Employment Trends Drive Commercial Property Absorption Rates

-6%

-4%

-2%

0%

2%

4%

6%

1988Q4 1991Q4 1994Q4 1997Q4 2000Q4 2003Q4 2006Q4 2009Q4 2012Q4

% Change (Y/Y)

Employment Office Industrial Multifamily Retail

Source: USAA

While there has been a bit of a slowdown in the monthly employment numbers re-cently, we attribute this in

large part to the severe winter weather experienced in many parts of the country. In many

cases, the top performing employment markets over the past few years are expected to continue to outperform over the near term, with Charlotte, Las Vegas and Phoenix mov-

ing up the list as well.


Employment performance has also varied by geography. Relative to peak employment levels, the Texan markets, for example, have seen outsized per-formance since the recession, lending credence to the statement that “every-thing is bigger in Texas.” On a relative basis, Nashville and Denver have also posted strong performance over the past five years.

Commercial real estate returns are generated from both income and capital appreciation. Over the past 10 years, income has accounted for more than 70 percent of the returns from real estate (it is closer to 80 percent for the past 30 years). As such, occupancy is a significant driver of the overall return, and the relationship between employ-

ment and occupancy is strong. Across the office sector markets, since 2010, the change in vacancy compared to the change in employment has a correla-tion of -0.47, which is strong considering that shadow space and some new supply also impacted leasing trends over this period. Employment gains over the next several years should continue to impact net absorption even more strongly than they have historically, at least for the non-multifamily sectors, as construction deliveries are projected to remain muted. As such, employment increases will pro-vide a strong tailwind to vacancy and rent performance over the next couple years.

Our forecast calls for national employ-ment growth to accelerate over the next two years. While there has been a bit

of a slowdown in the monthly employ-ment numbers recently, we attribute this in large part to the severe winter weather experienced in many parts of the country. In many cases, the top performing employment markets over the past few years are expected to con-tinue to outperform over the near term, with Charlotte, Las Vegas and Phoenix moving up the list as well. Technology, health care and energy focused markets have outperformed in recent years, and these trends are expected to continue. The relationship between performance over the previous two years and that forecast over the coming couple years is robust.

mcintosh…

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The wealth gap isn’t just about individuals — it’s about entire communities, writes Kathy Bostjancic, director of macroeconomic analysis at the Demand Institute and the Conference Board.

It is easy when discussing the U.S. housing outlook to forget that it aggre-gates the outlook of thousands of differ-ent cities, towns and villages across the nation. National statistics typically mask this local view. A breakdown shows that the wealth gap in national data exists not just among individuals, but among entire communities, and to a startling degree.

The Demand Institute, a non-profit, non-advocacy joint venture between The Conference Board and Nielsen, examined how developments in the local housing market are affecting American communities in our latest report, A Tale of 2000 Cities. The report is the outcome of economic analysis of 2,200 cities, towns and villages that are home to half the population of the U.S., coupled with in-depth interviews with the heads of 10,000 U.S. households. The aim was to understand not only home price move-ments, but also a range of economic indi-cators, many of which are closely related to the health of local housing markets and of local communities.

Our research found that the grow-ing wealth and income gap between America’s rich and poor is evident across entire communities as measured by the value of local housing, and that the gap between rich and poor commu-nities is considerable. It also found that communities move only rarely into or out of the richest group.

The chart shows the 2,200 communi-ties we studied aggregated into quintil-es, along with the top 10 percent, by the total market value of the owner-occupied housing inventory within each group. In 2012, the top 10 percent of all these communities held 52 percent of aggre-gate housing value, worth nearly $4.4 trillion. This group also accounted for 41 percent of aggregate population growth between 2000 and 2012, 49 percent of the growth in employment opportunities, 51 percent of the increase in income and 53 percent of the gains in aggregate housing value. In nominal terms, the

value of the top 10 percent’s housing rose 73 percent over the period.

The bottom 40 percent accounted for just 8 percent of the housing value. This segment captured only 11 percent of population growth, 9 percent of the growth in employment opportunities, 9 percent of the increase in income and 8 percent of the increase in the value of housing. In nominal terms, the value of housing in this bottom 40 percent grew by 59 percent in 12 years, from a far lower starting point of $440 billion.

Housing wealth per household is also on a different trend for the two groups. In the top 10 percent of communities, it was 103 percent higher than for the bot-tom 40 percent in 2012, growing by 57 percent between 2000 and 2012 versus 49 percent in the bottom two quintiles. A similar disparity in the rate of growth in aggregate housing values over the next 10 years would see the top 10 percent of communities’ total housing value rise over 7 times more than that of the bottom 40 percent. Given the economic and social conditions that are closely connected to housing wealth, that dif-ferential is significant, presaging the possibility of an ever-widening gap in the health of America’s richer and poorer communities.

It’s difficult for communities to move into the top 10 percent. Just two dozen

of the 2,200 cities we studied moved either into or out of the top 10 percent between 2000 and 2012. Several of those entering the top bracket are in California; others included Frisco, Texas; Jersey City, N.J.; and Sioux Falls, S.D. Several cities that moved out of the top 10 percent are in Michigan; others in-cluded Akron, Ohio; Bloomington, M.N.; and Laguna Beach, Calif.

Cities in positive growth cycles tend to remain in positive cycles and vice versa. In a positive cycle — when a commu-nity’s wealth is increasing — a more vi-brant and competitive labor market sees more money flowing into households, meaning more tax revenues, more public infrastructure and more spending in the local economy. All this makes a com-munity more attractive to people, which drives up demand for homes. Increas-ing demand for homes drives up home sales and prices, which builds family wealth and increases economic confi-dence. That encourages more invest-ment in the community. The reverse is true in a negative cycle.

Absent unexpected developments, it seems highly likely that the weakest communities in the U.S. will lag further and further behind, widening the wealth gap at the local level to an unprecedent-ed degree.

guEST EdiTOrial KATHY BOSTJANCIC, THE DEMAND INSTITUTE AND THE CONFERENCE BOARD

Entire Communities Feel weight of widening wealth gap

Value of Top 10 Percent of Communities’ Housing Grows Faster

$3,230

$820 $435 $275 $165

$2,320

$550

$315 $180 $80

Top 20% 20-40% 40-60% 60-80% Bottom 20%

Market value, 2000 ($B) Market value growth, 2000-2012 ($B)

Source: The Demand Institute


Florida single family mortgages saw the largest decline in delinquency rates in 2013. Delinquency rates for the state fell 4.2 percent in 2013 from 2012, according to data compiled by the Mortgage Bankers Association. Nevada saw the second largest improvement in problem home loans. Nevada delinquency rates fell 3.33 percent in 2013 from 2012. The delinquency rate — defined as the percentage of loans for one- to four-unit residences that are 90 days or more delinquent or are in the process of foreclosure — in Florida was 11.66 percent in 2013.

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Home buyers opted for floating rate mortgages late last year at a pace not seen in nearly six years amid rising borrowing costs.

Adjustable rate mortgages as a percentage of all home loans processed by lenders grew to 8.18 percent in December 2013, the highest since June 2008 when 8.37 percent of all home loans were floating rate mortgage products, according to data compiled by industry group Mortgage Bankers Association. This figure was as high as 21.45 percent in February 2007.

In December, 30-year rates for home loans were at 4.65 per-cent, having risen as high as 4.68 percent in August.

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Florida housing market Sees largest drop in residential mortgage delinquencies



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Kirk Rohrig is concerned he may soon join the growing ranks of Americans shut out of the housing recovery and the finan-cial benefits that spring from it.

Rohrig, who is unmarried, began hunting in November for his first home in Portland, Oregon, where cash buyers are driving up property prices. The software sup-port specialist earns about $55,000 a year, has a high credit score of 790 and can’t find anything worth buying for about $200,000.

“Even fixer uppers are out of my range,” Rohrig, 33, said. “I went to look at a house that was garbage. There were cracks around all the windows and full condensa-tion on the inside. It was on the market for $225,000.”

First-time homebuyers hurt by rising prices and tougher credit standards are disappearing from the market, slowing the pace of the three-year recovery. The decline of these buyers, many of whom are young and non-white, also threatens to widen the wealth gap between owners, who benefit from appreciation, and rent-ers, said Thomas Lawler, a former Fannie Mae economist.

“Potential first-time buyers weren’t able to take advantage of the high point in afford-ability and the low point in prices,” said Lawl-er, president of Lawler Economic & Housing Consulting LLC in Leesburg, Virginia. “So the wealth effect of the recovery hasn’t gone to what could have been new buyers.”

First timers accounted for 26 percent of purchases in January, down from 30 percent a year earlier, according to the National Association of Realtors. This Jan-uary’s figure is the lowest market share NAR has recorded since it began monthly measurements in October 2008.

The decline of these buyers has hurt U.S. sales, which fell 5.1 percent in Janu-ary from a year earlier, according to NAR.

While purchases rose 8.2 percent for resi-dences costing more than $250,000, they fell 10.7 percent for homes worth less.

“It’s a huge problem,” said Leslie Apple-ton-Young, chief economist for the Cali-fornia Association of Realtors. “We have a ladder of homeownership and need first-time homebuyers beginning the process of owning, building equity and trading up to have a healthy housing sector.”

The biggest challenge to cracking the housing market for first time buyers is that

in much of the country home prices are rising faster than incomes.

The entry-level market was the first to re-bound after the housing crash. It rose from a 2012 trough as Blackstone Group LP and other investors paid cash to absorb foreclosed homes to convert to rentals. In December, 47 percent of U.S. purchases were paid for with cash, up from 27 per-cent a year earlier and the highest level in data going back to at least 2005, accord-ing to a report last month by Black Knight Financial Services.

More owners of moderately priced homes are also becoming landlords, reduc-ing the supply for first time buyers. Thirty- nine percent of owners looking for better homes plan to keep their current house as a rental, Redfin Corp., a Seattle-based brokerage firm, said in a report last month.

“Being a landlord was not something that many people looked forward to in the past and now that’s much more of a norm,” Redfin Chief Executive Officer Glenn Kelman said.

Younger buyers’ wealth has not bounced back as fast as the prices of homes. Americans under age 40 have only recov-ered a third of the wealth they lost after the recession began in 2007, while older households are back to pre-crisis levels,

William Emmons and Bryan Noeth, re-searchers with the Federal Reserve Bank of St. Louis, said in a report last month.

The decline in affordability is acute in Cal-ifornia. Single-family home prices jumped 20 percent last year to a median $438,040, and only 32 percent of households could afford the median-priced home, according to California Association of Realtors. That’s down from 48 percent in 2012.

“It certainly has made it very hard for first-time buyers,” Appleton-Young said. “How do you compete with all cash? You don’t.”

Rohrig, the software specialist, doesn’t have much cash for a down payment. So he plans to purchase with a loan from Key Corp., which provides up to 100 percent financing for buyers who qualify.

“I want to get in there as soon as I can because I have the feeling in another year or two it won’t be possible,” Rohrig said.

Higher mortgage costs are also a bur-den for first timers. Rates for 30-year fixed loans climbed to 4.37 percent last week from a near-record low of 3.35 percent in early May. The rate reached a two-year peak of 4.58 percent in August.

The Federal Housing Administration, the biggest source of financing for first-time buyers, has raised the cost of borrowing

rESidENTial hOuSiNg PRASHANT GOPAL AND JOHN GITTELSOHN, BLOOMBERG NEWS

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Higher Borrowing Costs Chip Away at Home Loan Applications

A gauge measuring requests for loans to buy residential homes fell to its lowest level since 1996 in the final week of 2013. That measure, the Mortgage Bankers Association’s purchase index, was at a reading of 62.80 in December 2013; in December 1996 it was at a reading of 70.


and tightened underwriting to cope with losses on mortgages it insured as the property bubble burst.

FHA borrowers pay an upfront fee of 1.75 percent of the loan balance and up to 1.35 percentage points in annual mort-gage insurance premiums. The number of FHA borrowers purchasing their first homes declined by 38 percent to 550,000 last year from the 2010 peak.

Under a Housing and Urban Develop-ment pilot program, first-time buyers who go through housing counseling will get a discount on the mortgage insurance pre-mium, FHA commissioner Carol Galante told reporters lasty month.

“We now have very strong evidence that housing counseling delivered by quality groups like HUD-approved counselors not only benefits the family but actually lowers the risk of default,” Housing and Urban Development Secretary Shaun Donovan said during the call. “We believe this initia-tive has a double benefit of expanding access to credit but also strengthening the FHA” insurance fund.

Lenders are requiring higher FICO scores, which can disproportionally impact first-time borrowers with short or bad credit histories. More than 40 percent of borrowers in 2013 had FICO scores above 760, compared with about 25 percent in 2001, according to a Feb. 20 report by Goldman Sachs Group Inc. analysts Hui Shan and Eli Hackel.

“Credit is not just tight relative to the peak years of the housing bubble, but also to most of recent U.S. housing history,” Shan and Hackel wrote. “Nearly five years after the end of the recession and with

house prices 20 percent above the trough, we have seen few meaningful signs of easing in mortgage credit availability.”

Many possible first-time borrowers have stopped applying for loans. Applications for mortgages to buy homes in February fell 9 percent from the previous month to the lowest level since August 1995, ac-cording to an analysis of Mortgage Bank-ers Association data by Capital Economics Ltd. in London.

Logan Mohtashami, a senior loan officer with AMC Lending Group in Irvine, Cali-fornia, hasn’t gotten one pre-qualification application from a person younger than 35 since Jan. 1.

“They’re usually about 40 percent of buyers,” said Mohtashami, whose com-pany has been lending since 1987. “This year, it’s so quiet. They’re not even getting started in the process.”

After reaching 50.1 percent in 2005, the homeownership rate for people in their 20s and 30s fell to 42.2 percent in 2013, the

lowest in 19 years of Census data analyzed by Emmons and Noeth, the Fed analysts.

Those closed out of the market missed long-term gains in home equity that beat the stock market. Equity in a group of 46,000 homes purchased with median 3 percent down payments between 1999 and 2003 appreciated at a median an-nualized rate of 25 percent by the second quarter of 2013, according to a report by Roberto Quercia, professor of regional planning at the University of North Caro-lina at Chapel Hill. The equity on initial down payments of $1,950 increased a median $18,429 during the period of the study, according to Quercia.

The Standard & Poor’s 500 Index recorded an annualized rate of return of 3 percent between July 1999 and June 2013, according to data compiled by Bloomberg.

Stephanie Horchreder, 32, moved in with her mother last year to save money for a down payment. She had been looking for a three-bedroom house with a yard for a maximum $250,000 within a short com-mute of her job as a law enforcement 911 dispatcher near Denver.

Horschreder stopped house hunting in July, when bidding from competitors grew overheated. She started looking again in January, only to watch places she liked go into contract before she had time to submit a bid.

“Two years ago would’ve been the right time to buy, but I didn’t have the money,” she said. “Now I’m at the right point in my life and there’s nothing for me.”

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“Credit is not just tight relative to the peak years of the hous-ing bubble, but also to most of recent U.S. housing history.”

– Goldman Sachs Group Inc. analysts Hui Shan and Eli Hackel

residential housing…


The U.S. housing fi-nance industry likely will rely more on 10- to 15-year adjustable rate mortgages than traditional 20- and 30-year loans, writes Richard Bove, a financial services analyst with Rafferty Capital Markets.

Traditional 20- and 30-year fixed-rate mortgages may be history. Once a mainstay of the mortgage market, these home loans are losing their appeal for underwriters struggling to make a profit due to a major restructuring in the sector, particularly as Fannie Mae and Freddie Mac are slated to wind down. Low-income households are likely to be pushed out of the home-buying market as a result, damping both housing prices and the promise that housing holds for stimulating economic growth.

Under the so-called Third Amendment, Fannie Mae and Freddie Mac are slated for dissolution by the end of 2017. Both companies must give 100 percent of their incremental profit to the Treasury, shrink their portfolios of owned product down to $250 billion apiece and take their capital down to zero, which would eliminate their ability to insure mortgages. What is not being considered in the regulatory dis-cussion is that when Fannie and Freddie are eliminated, fixed-rate mortgages are likely to be eliminated also. Certainly the 20- and 30-year versions will go.

The risk to the underwriter today is too great to issue long duration fixed-rate products. This is particularly true if the government is holding interest rates near record lows. If the mortgage holder does not have an assured source of low priced funding, the purchase of low rate mortgages can create severe problems as rates rise.

About a dozen of largest U.S. banks have indicated to me that they are not willing to issue long-term mortgages without Fannie and Freddie available to buy them. They will not hold the loans on their balance sheets.

They are constrained from selling the loans not just because Fannie and Fred-

die may go away but because the securi-tization rules are punitive. The number of institutions with the appropriate funding to buy these-low rate, long-duration cred-its is not large either.

rEgulaTiON aNd PriCiNg

Regulatory changes have also severely limited the automated techniques for un-derwriting new loans. The process is now very detailed and very labor intensive. The loan originator cannot take the risk of getting the loan back if it fails and the originators cannot take on the threat of having the borrower sue because the borrower believes he has been defraud-ed. The warehouse is still profitable be-cause the spread between deposit costs and mortgage yields is relatively high. It is unclear whether the warehouse spread

is covering the loss on origination.Selling new mortgages is less attrac-

tive than it has been for some time. This is partially because the regulators have “herded” originators into the same com-modity product. Originators are issuing qualified conforming mortgages and are unwilling to take the substantial risk of underwriting non-qualified mortgages. Plus, the only attractive non-qualified products such as jumbo mortgages are in a crowded field.

Many originators are hoping that the income from servicing will offset the low returns from underwriting new loans. This is questionable. Clearly, servicing has been a money losing business for the past decade if one takes into account foreclosures, litigation and other struc-tural issues also related to automating the process. It is unclear as to whether

servicing today is being priced to take into account the cost of new regulation and the risk now inherent in the business.

ThE NEw mOrTgagE markETS

Without Fannie and Freddie, the new mortgage products are likely to be 10- to 15-year adjustable rate loans, according to my conversations with large banks.

Surprisingly, one bank indicated that even originating these loans was not attractive and said it is exiting the busi-ness. Another bank indicated that it had decided that despite the losses on origination and sale, the hope of a ser-vicing profit is keeping it in the business. A third bank said there was no likelihood of making a profit originating residential mortgages but that it would stay in the business as this type of loan is core for attracting customers.

Unless there is a meaningful change in the nature of the business that would increase the profit from originating loans, it is quite likely the durations will be somewhat shorter than 10 to 15 years.

The implications for the housing markets are significant. First, the flow of credit to fund purchases may be reduced because banks are not making enough profit to put the money up and because there are a reduced number of ready buyers in the secondary markets. Second is housing turnover. If interest rates rise and 20- and 30-year fixed-rate mortgag-es are not available, it makes no sense to sell one’s home. Someone wishing to move will likely rent the home instead. This was seen in California decades ago when property tax rates were fixed.

Third, housing prices may fall. If 10- and 15-year adjustable rate mortgages are used to replace 20- and 30-year fixed-rate mortgages, the monthly cost of own-ing a home will increase. Higher monthly costs equate to lower housing prices. Lower housing prices mean lower equity growth in the home. It is a short step from there to lower consumer spending.

It is unclear that anyone in the regulato-ry establishment understands the larger implications of the mortgage market overhaul. They are about to find out.

guEST EdiTOrial RICHARD BOVE, RAFFERTY CAPITAL MARKETS

mortgage market restructuring Sounds death knell for Fixed-rate home loans

What is not being considered in the regulatory discussion

is that when Fannie and Freddie are eliminated, fixed-rate mortgages are likely to be

eliminated also.


q & a wiTh william liE zECkENdOrF

Manhattan’s supply of real estate is so tight that it likely will withstand a downturn in the housing market, William Lie Zeckendorf tells Bloom-berg’s Amanda Gordon. Zeckendorf and his brother, Arthur, run Zeckendorf Development LLC, focusing on super-luxury buildings in Man-hattan, and Terra Holdings, owner of brokerage firms Brown Harris Stevens and Halstead Proper-ty. Zeckendorf prefers to do fewer developments at a time so he can focus on the minutia of each project and says newcomers often get tripped up by their budget assumptions. “First time develop-ers are really optimistic, the schedules tend to be ridiculously short and the budgets have no room for error,” he said.

Q: Do you get ideas for what should go in every apartment from your interaction with target buyers? Did you visit Lloyd Blankfein in his former apartment to know what would appeal to him?A: My father taught me this one: you never design for yourself. You’re designing for a general market. And you never design for a specific buyer, you’re trying to design for broader market appeal. So we develop-ers have to be a little bit more nonspecific in what we choose. There’s a reason our kitchens tend to be white. We’ve had clients who paint their cabinets yellow and do pink counter tops and they think that’s great taste. From day one, Arthur [Zeckendorf] and I decided to focus on what we saw be-ing a dearth of demand in the super luxury segment in post-war condominiums. If you follow NYC construction, the big boom in New York was roughly 1908-1930 and the vast bulk of our co-ops were built, were all built as large apartments. Then nothing got built for the next 15 years. After 1945, for obvious reasons by 1950, it kicked up again but it kicked up again all with federal financ-ing generally, which requires smaller apart-ments. So, now for the next 25 to 30 years, and we were part of it, working with my father, we built a lot of smaller apartments. That filled a need because people wanted studios, one bedrooms, two bedrooms, there were too many large apartments. Then after we bought Brown Harrison Stevens in 1985, our brokers started telling us, if “I could only find a three bedroom, four bedroom condominium for my client to get into,” but there weren’t any. So hear-ing that enough and looking at the market we decided to put focus on the ... we’re

low levels of Supply Should Buffer New york market From any downturn: zeckendorf

now calling it the 1 percent. We decided to focus on the faster-growing income seg-ments and the larger apartments, which were underbuilt.

Q: How has the marketing changed?A: We’ve changed our product inside out, 100 percent from when we were working with our father, until 1992. We really went to the old fashioned playbook from the 1930s, studied those apartments and brought that model forward. Marketing and sales haven’t changed too much. That part is: how much can you possibly do, you do a great procurer, you work with outside brokers, you advertise, you try to do good model apartments. What’s radically different is the building themselves.

Q: Who’s been buying?A: I think newspapers worry about it more than I worry about it. I think we’re never targeting one person.

Q: What about the foreign buyers? A: Going back to the mid-80s, you always appealed to foreign buyers. The countries have changed. They rotate in 10 and 12 year cycles, but we’ve always had foreign buyers. I think what hap-pens is that the New York City mar-ket is underpinned by the domestic buyers. If you read the newspapers you’d never know that. I’m going to guess 90 percent of our demand in New York is New York City/domestic demand. Mostly New York City, some domestic, a lot of people want second homes in New York City. Foreign demand is about 10 percent of the broader market. Now, of course, once you get to the super expensive apartments that number probably grows to 25 to probably 35 percent, because they want the larger apartments. Brazil especially has been a major buyer. The Russians as best as I can tell tend to be the tippy top, but in terms of numbers, I personally have not seen as

many. The Brazilian market is a much more active market than the Russian market.

Q: What’s the common mistake of less experienced developers? A: Our business is tough and projects tend to take longer and cost more than you think. First time developers are really optimistic, the schedules tend to be ridiculously short and the budgets have no room for error. And every day something goes wrong in the business. A subcontractor is late, a truck gets lost. Projects just take time. They tend to be successful buying a piece of land, because the economics are the most rosy, but then they get in there and two years in they realize I’m six months late and a year over budget.

Q: What’s the time cycle for the product development you’re engaged in?A: I teach at Columbia Business School; I happen to be teaching today. I teach one project. Today I’m doing 18 Gramercy. It forced me to go back and look at the proj-ect. It’s been seven years, from the day we started, for 17 apartments. The first thing I’m

going to tell them is: “Don’t go in this business if you want a short-term project life.” Seven years is a little long. It got interrupted by the recession, of course. That added two or three years. We really try to do fewer projects, that’s been our business model from Day One. It takes a fair amount of discipline to stick with that. I do one at a time. We were jammed up by the slowdown in ’07, ’08, ’09 so we have a bit more going than we’d like

but Gramercy is finished. My father’s career was very different. He did three, four, five six projects at a time.

Q: That means you take a much bigger role in all the details: you’re choosing the bathtubs for two, the stone of a fireplace, the number of bedrooms in an apartment?A: We pick everything. We were looking at marble samples today. We picked the floor.

18 Gramercy Park


We assess the layouts. On 18 Gramercy Park, I personally had to go through Landmarks (Preservation Commission) on a window expansion project, which took 18 months of landmark review to get the windows changed. We work very closely with the architect on a daily basis during the project development. Construction, I’m less involved with than Arthur. Then I get involved post-completion to assure quality control. I’m just finishing now that project. That’s long. A project like 15 Central Park West, five years, we were intimately involved in every aspect. It was the only project we had. We worked with Robert A.M. Stern probably two or three times a week, three or four hours a session, going through every aspect of the project. These architects are artists. There’s a fine line. You don’t want to micromanage the exterior but you have to get the interiors right.

Q: How is it working with architect Nor-man Foster, on your high-rise across from the United Nations, versus Stern, who did 15 Central Park West and is now working on your Park Avenue project?A: One’s a neoclassicist, one’s a very con-temporary, modern architect, they’re very dif-ferent in how they approach buildings. Since Robert A.M. Stern has more experience in homes, he’s more sympathetic. If you say, we have to have a living room that’s 20 by 30 and these windows have to go here, he is sympathetic to that. I’d say Foster is a bit more outside in, Stern very much under-stands inside out. With Stern, we’ve worked together much longer, there’s more give and take; we’ve worked 10 to 12 years together.

Q: Is there ever going to be a shift back to smaller apartments?A: I think economics in this location don’t support that any longer. Before I say that though, Terra Holdings, their specialty happens to be the more moderately priced apartments. They’re booming. They’re not booming on 60th Street just off of Madison Avenue and Park Avenue, but they’re boom-ing in northern Manhattan, in Harlem, in the West 50s, in Brooklyn like you wouldn’t be-lieve. So there’s a lot of product taking place, but it’s shifted. It’s affordable by Manhattan standards. The lower priced product has shifted where it’s taking place. When I first started, when my father built a building like the Alexandria at 72nd and Broadway, it was built with a lot of standard one bedrooms,

two bedrooms, studios; today you’d never build that building on 72nd and Broadway, you’d build much larger apartments and much higher ceilings. A building like that will get built maybe at 102 Street or 110th Street, so it’s shifted. The boundaries have shifted.

Q: How do mass transit expansions af-fect your business? A: The one bedroom and two bedroom markets are probably more needy of mass transit and things of that sort. It has not been a big matter for us but I do know, say my father back in the 80s, he always went for express subway lines: Zeckendorf Tow-ers, the Columbia at 96th and Broadway, the Gotham at 87th and Third Avenue, he was big on trying to tie into the express lines. I spend two years battling for parking spaces.

Q: What is the price ceiling per square foot?A: I can’t tell you when the $13,000 a square foot set on the 19th floor of 15 Central Park West gets broken. That’s one

number to look at for sure. What’s probably more interesting to look at are the 30, 40, 50 sales underneath that one and those are creeping up. So this bar, that was set a year-and-a-half ago, the penthouse at 15; a lot of stuff underneath it is being dragged up by it. Everyone is using it as a benchmark, even in Miami. I think it’s great. It’s flattering. Doesn’t surprise me though.

Q: Is there a point where this party comes to an end? A: We’re followers not leaders. If the econo-my goes in the tank, income creation comes to a halt, if jobs start going negative on us we follow, and it’s rapid because of the supply NYC tends to be buttressed. In the last recession I said we would be the last in, first out, because it’s not supply driven for us. Right now the last statistics I checked there’s three months supply in the high market. Three months is a seller’s market. Six months is a seller’s market. If inventory doubles we’re still in a seller’s market right here in New York.

age: 56

Favorite Book: “Lincoln at Gettysburg” by Gary Wills.

Favorite Charities: School of American Ballet and the Metropolitan Museum

of Art

hobbies: Collects Burgundy wine and 1950s and 1960s vinyl records, espe-

cially jazz

married: Laura Zeckendorf

Left: 50 United Nations Plaza, right: rendering of 520 Park Ave

Q&A...


q & a wiTh miChaEl lEwiS

Subprime mortgage lending likely will make a comeback and the high-frequency trading that is the subject of his best-selling “Flash Boys” may also be occurring in U.S. Treasuries, Michael Lewis, author of “Liar’s Poker” and “The Big Short,” tells Bloomberg

Brief’s Aleksandrs Rozens.

Q: In “Flash Boys,” you focus on equi-ty markets and how people try to get a jump on other investors by using technology. Do you think the special high-speed cables and other tech-nology have applications for fixed income markets?A: It does. If you talk to anybody that’s in the Treasury market, they’ll tell you that the same problem is now occurring in the Treasury market. What is on the screens is no longer the market and there are essentially intermediaries within the intermediaries in this space. The options markets, the foreign exchange markets and the Treasury market are all subject to the same forces. Some of the markets like the muni bond market, it’s a little more difficult because the securities are so sui generis. In big liquid markets, high-frequency trading is all over them. It’s all over them in just this way — finding speed discrepancies, essentially getting prices in advance of everybody else.

Q: Is there a reason why you did not touch on fixed income in your book? A: The story was already so complicated and I felt it lost power if it was not tele-scoped, if I didn’t keep the focus very closely on these guys and what they are trying to do in this market. I just thought the whole thing would lose energy. But, I didn’t for a minute think this was a problem that was confined to the equity market.

Q: Given my fixed income back-ground, that was what was pumping through my head: there has got to be a way some people are doing this in fixed income.

Subprime will return; high-Frequency Traders may Be in u.S. Treasuries, lewis Says

A: There are. I don’t know about the mortgage market. I just don’t know. But I assume that if it is happening in the Trea-sury market, why wouldn’t it happen in the mortgage market?

Q: The mortgage market 25 years ago and the mortgage market today. What’s your take on how it has evolved? A: I stopped paying close attention to the mortgage securities market when I left, except to the subprime end of it. To me, the travesty that occurred is using instruments that were extremely useful in one context to obscure the risk of actual underlying loans. So I think the technol-ogy got misused.

Q: So is there a place for MBS on Wall Street? A: Oh, yes. Of course. I think actually the market as originally conceived was bril-liant and socially useful. It has just been corrupted. But having said that, I could not tell you now whether anybody is making subprime CDOs again. I assume that is all dead. You go back to the origin of the mortgage market and this is a basic idea of getting mortgage finance out of the hands of just the banks and opening it up to the whole capital markets. That was a really good idea. The problem is when the instruments become so complicated they don’t just chop up the risk but disguise the risk. Wall Street’s job is to clarify the risks that are being taken so they can be priced properly. The temptation, once you have got these complicated instruments, is to use them to obscure the risk. I think, broadly, that’s what went wrong. I don’t know since the subprime crisis whether there has been a resurgence of the same kind of impulse. I do know that the under-lying incentives have not changed very much. The rating agencies get paid by the issuers — that’s a mistake. The investor still takes AAA as meaning something, which is probably a mistake. I just don’t know if the investor public is just as credu-lous about the instruments as they were 10 years ago. I suspect not.

Q: Do you think sub-prime will ever come back? A: It’s kind of hard not to see it coming back. The question is will subprime bor-

rowers want to borrow? Yes. Maybe even more urgently. Will lenders indulge them? Think about that: There will be a stigma in doing that now. If you are a pension fund, you are not going to be buying sub-prime mortgage bonds because of the stigma. But I can imagine a world where it comes back in a big way, cleverly. If it’s done right, if it were done openly, there is some price at which it makes sense to make the loans. So, yes I can imagine it coming back.

Q: Have you gotten any Hollywood interest in “Flash Boys?” A: It’s already been bought. There was massive interest. It has been bought by Columbia Pictures, which is owned by Sony, and Scott Rudin, the producer. They are very interested. It was bought two weeks ago. I haven’t heard anything more. There have been some directors who have been given it to read it so they can find someone to direct it. But they haven’t found a director.

Q: Is there a taste for films about Wall Street on Main Street these days? A: It’s a good question because unless you count “The Wolf of Wall Street” as a Wall Street movie, which I don’t really, it’s really hard to find an example of a movie that’s really a Wall Street movie doing really well. Now, part of the reason is that on Main Street, the kind of people that go to movies don’t find the Wall Street people particularly sympathetic. There’s nobody to root for. [“Flash Boys”] may be a case where you have some people sort of tak-ing on Wall Street from within. There may be a narrative they can do. The answer is I don’t know. “Liar’s Poker” never got made. “The Big Short” hasn’t been made. My experience is the movie business is very wary of Wall Street movies. They buy them, but then they don’t make them.

Q: In “Flash Boys,” there is a scene where a work crew is laying down high-speed cable in Pennsylvania Dutch country. I enjoyed the contrast between somebody in their Pennsylvania Dutch lifestyle and the guys laying cable for high-frequency traders. A: You have these Amish people with high-speed trading going on under


hometown: New Orleans, Louisiana Current residence: Berkeley, California

Education: Bachelor’s degree in Art History from Princeton and a master’s degree in Economics

from the London School of Economics

Books: Flash Boys (2014), Boomerang (2011), The Big Short (2010), Home Game (2009), Panic

(2009), The Real Price of Everything, ed. (2008), The Blind Side (2006), Coach (2005), Moneyball

(2003), Next (2001), The New New Thing (2000), Trail Fever (1997), The Money Culture (1991),

Pacific Rift (1991), Liar’s Poker (1989)

Photo Source, previous page: Tabitha Soren

Q&a…

their feet. It is amazing. Let me tell you something else that is amazing. It’s not in the book, but the Amish, obviously, are farmers. Through intermediaries they deal in futures markets because they have to lay off risk. There have been protests lodged by those farmers in that area of Pennsylvania with the Chicago exchanges for the way that they are prejudicing the market for HFT [high-frequency trading]. The thing that really bothers them right now is there has been a move within the exchanges to take the release of infor-mation that’s material to the market — it used to be released outside of trading hours to minimize the amount of volatility in the market — and move it into trad-ing hours to maximize volatility because volatility means trading activity, which means revenues for the exchange. And I interviewed someone who works with the Amish people who said they are pissed off at the exchanges for the amount of noise they are introducing into the marketplace by moving the announce-ment of material information into trading hours. There is a story to do about Amish people’s view about the insanity about high-frequency trading.

Q: “Liar’s Poker” was published 25 years ago this year. I’ve heard that

you wrote this book as a warning for young people to stay away from a life in finance. A: What I thought was that it will de-mythologize it. It will de-mystify it for young people so they won’t go in for the wrong reasons because they think it is all so inter-esting and great when it is actually pretty simple. It was to enable young people to make informed decisions with their lives.

Q: It may have done the opposite. A: It didn’t work.

Q: It is a huge book in business schools. A: I know. In fact it glamorized and dra-matized it and made people want to be it.

However, I have had plenty of people say ‘I was tempted by Wall Street until I read “Liar’s Poker.”’ I think what happens is that the book probably has had exaggerated effects both ways. People tempted by it in the first place use it an excuse to go do it. But who knows?

Q: So if you had stayed on the Street, would you be on an equity desk like you were in your Salomon days? A: I was on a bond desk. I think my likely path would have been to be on the sales end of LTCM because I worked for John Meriwether and I probably would be bankrupt.

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