From a small northwestern observatory…

All of us in real estate know that some commercial property and investment sectors have been hit pretty hard. Our ACCRE fund-of-funds avoided those sectors (several of those were already over-valued before Covid hit) and has held its own, and continues to perform well against its benchmarks. Note, of course, that ACCRE is a carefully curated fund, and we’ve continued to monitor the portfolio.

Conversely, offices, hospitality, and retail are really at a cross-roads. A lot of equity had disappeared from those sectors and from funds which were heavily weighted in those sectors. However, are the fundamentals sound? That is, are we looking at cyclical downturns or are we going to be left with a lot of marginally worthless property when this all ends?

One signal – and it’s not at all a perfect one — comes to us from the Exchange Traded Funds (ETF) sector. Specifically, I’m looking at the iShares CMBS ETF, which purports to invest in high-grade commercial mortgage backed securities. This fund has had a very real bull market tear since late 2018, in no small part due to a solid yield in the face of an inverting bond curve. Since late 2019, it’s been extraordinarily volatile, and indeed its 50-day moving average has cycled twice in the last 3 quarters. However, for the past month or so, it’s been solidly up. This does not suggest that traders and investors think that the coast is clear for commercial real estate — far from it. However, it does suggest that the market thinks there is enough equity underpinning these loans to continue making mortgage payments.

Graphic courtesy iShares, as of mid-day, 6/26/20

Now, this all needs to be taken with several grains of salt. For one, the market as a whole has regularly proven itself fickle, if not outright wrong, several times in the past few months. Second, going into the last recession, Residential Mortgage Backed Securities (RMBS) were doing just fine until… well… they weren’t. However, this is a useful and potentially important data point that shouldn’t be missed by savvy investors.

On the other hand, what do we do with securities when markets peak?