Commercial Market vs Residential Market - Recovery
Commercial versus Residential Market: A Game of Jenga
There has been much talk lately about whether or not a double-dip recession will occur within the housing market. Currently, the housing market in Southwest Florida is improving in the way of vacancies and while we may experience slight decreases in home values, generally prices have bottomed and the market is stabilizing significantly better than other areas throughout the nation. If another dip in values occurs, many wonder if the commercial market will follow, as it has in the past.
An important factor to consider is the amount of overbuilding that occurred in the housing market as compared to the commercial market. At the residential market peak, 22,814 new homes were built in 2005 in Lee County. From 1990 to 2000, the average annual number of homes built was 4,040 homes. For the entire 10 year period – a total of 38,734 homes were built.
In contrast, from 2000 to 2009, the average number of homes built annually doubled to 8,402. The total amount of new homes built for 2003 to 2005 accounted for 64% of the homes built in that ten year period. Conversely, in 2009 only 944 permits were pulled. In 2010 only half that amount were pulled.
That should provide you with some insight as to the housing overbuilding situation in Lee County. Some overbuilding occurred in that same period with commercial real estate, but not nearly to the same extent. While housing values will not increase significantly over the next few years, many students of the residential market do maintain that the market has bottomed.
One of my main concerns with commercial real estate is not whether recovery will occur, but rather that the market will continue to be dominated by distressed bank owned assets. According to Real Capital Analytics, recovery rates on defaulted commercial and multifamily mortgages improved throughout the nation, rising to 67% in the first quarter. However, excluding full recoveries, the actual recovery rate for first quarter 2011 was 57%, which is significantly weaker than the initial findings. In addition, Real Capital Analytics reports that assumed debt remains to be the key source of distress financing. More than 25% of distressed sales in 2010 were financed through assumed debt – accounting for a larger share of that market than any other traditional lending source.
The largest hurdle for the commercial market will be finding a way to recovery responsibly. For the first quarter of 2011, commercial backed mortgage securities (CMBS) activity nearly surpassed all activity for 2010. Commercial back mortgage securities, when executed responsibly, function to bring more liquidity to commercial real estate. However, such a high volume of activity brings concern to many. With significant increase in activity for industrial and office markets in 1Q2011, many worry that it is a short term solution that may add to the long term problem – creating another speculative bubble that we’ve seen in the past. If lenders are providing CMBS deals responsibly, requiring parties to take ownership of the loans – it could be a good thing for the market.
The situation we are in currently is like a fervent game of Jenga. While both commercial and residential markets in Southwest Florida are currently stable, the tower sways precariously still with additional factors. Investors within both markets must remove their blocks with caution – and approach situations with calculated strategy. Lenders must continue reasonable underwriting processes and execute loans responsibly. Residential home owners must find confidence to spend their income in responsible ways. A strong foundation is the most important aspect of all markets. It’s what keeps the tower in place.
Commercial and Residential Markets are typically cyclical in regards to recovery. Many experts are considering double dip recession threats for residential. Will these concerns be fully realized in the commercial market as well?
Gary Tasman's latest Commercial Connection article discusses the hurdles that commercial real estate must yet overcome in order to position itself for a full recovery.