From a small northwestern observatory…

Finance and economics generally focused on real estate

Trophy Property and the Pandemic

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I spend a significant amount of my time at two somewhat opposite ends of the real estate spectrum – “damaged” property (particularly environmentally damaged, such as brownfields) and “trophy” property. Neither of these sectors behave like “normal” real estate even in “normal” times. Damaged property may eventually be remediated, converted, or in some way improved into the normal market. Ironically, demand for some kinds of damaged property, such as foreclosures, may actually improve during recessions or other “normal” market disruptions.

Trophy property is typically any property in the top 2.5% of its subclass. The market for such properties transcends normal markets for that subclass. Consider all of the office buildings in a given city — even New York or London. Investments in Class C and B offices may appeal to local buyers, while Class A properties will typically be marketed to trusts, REITs, pension plans, or the like. However, at the very top — the “named” properties which really anchor the city as a whole — the investment market may be entities or individuals for whom the trophy investment will provide halo effects or collectable effects for the rest of the portfolio. Normal metrics — income or cash/on/cash rates of return and such — may not apply to trophy investments. Much like a fine painting or other object d’art, an investor may want to own a trophy property simply for the sake of owning it. Of course, it doesn’t hurt that over long periods of time, trophy real estate has a great history of maintaining and improving value. It doesn’t hurt that trophy property investors often have very long time horizons, perhaps even multi-generational.

So, how is trophy property faring during this pandemic-induced recession? As with any good analysis, it may be too early to tell, but some anecdotal info coming our way suggests that trophy investors look at this recession as a real opportunity to pick some low-hanging fruit. One case in point was the acquisition of the Viceroy L’Ermitage Beverly Hills Hotel in October by EOS Investors. Admittedly, this property had a “damaged” component — the property had been taken over by the U.S. Government as a result of prosecution of an international money laundering case. Further, hotels in general remain strained, with many transactions falling into the “damage” category. However, EOS ended up paying $100 million for the 116-room trophy property, nearly $1 million per room, a figure that bears almost no connection to the realities of the hospitality market today.

At the other corner of the country, Manhattan trophy residences recorded one of their best weeks of the year in late October, albeit with a fairly large inventory of top-tier properties coming on the market. As an example, a 30,000 square foot, 5-story home on West 11th Street in Greenwich Village sold this month for $45 million. Originally listed for $49.5 million in January, 2019, this was the second highest price residential sale in New York City this year, and the highest since the pandemic began. Another New York City trophy residence sale in late October was a Perry Street (Tribeca) 5-bedroom duplex, with a private pool, for $20 million. According to one source, the average sale-price-to-list-price discount for Manhattan trophy residences stands at 11%, and the average time on the market in this sector is about 2 years. The last week of October showed 5 New York City contracts at $10 million or more.

Finally, in the middle of the continent, trophy ranches continue to sell to investors looking for recreation, retirement, or just pure collection purposes. Recent top-tier sales include the Pole Mountain Ranch in Wyoming (2,300 acres, 8,000 square foot main home, $8 million), a vacant pond-side lot at the Elk Creek Ranch in Colorado ($1.1 million for 2,850 vacant acres), and the Winding River Ranch in Wyoming (376 acres, 1.5 miles of Platt River frontage, custom built 5-bedroom lodge, for $2.2 million).

In short, there is some disruption right now in the trophy property market, as many properties seem to be coming on the market and inventories are strong. However, buyers with cash and/or resources are definitely in the market, and are looking to cherry-pick trophies that come available.

Written by johnkilpatrick

December 11, 2020 at 10:01 am

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2021?

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This week, I sat thru a great presentation (virtual, of course) by John Chang, the Director of Research at Marcus and Millichap. Like any research report, it has to be taken in the context of all of the other information out there. However, I get a deluge of this stuff, and I thought Chang’s work on the subject was quite good.

He starts out by noting what we all pretty much know — four real estate subsectors were hit the hardest this year: Hotels, Senior Housing, Sit-Down Restaurants, and Experiential Retail. Three sub-sectors actually did quite well: Industrial (and I would note data-centers in particular), Self-Storage, and “Necessity” retail. Later in his presentation, he points out that Offices and Housing (I would note with the exception of student housing) also held onto some core value.

Chang comments — and I concur — that never in our memories have we seen a real estate recession that was so geographically broad and across so many sub-sectors. For example, the 2008/10 debacle was primarily focused on housing and the mortgage backed securities market, and while the entire real estate securities market declined, it was more related to correlations with the broader market than with underlying real estate fundamentals. Today, however, we’re seeing some very real systemic changes throughout the real estate economy.

So, what does 2021 look like? The first half of the year is, at best, a continuation of where we are right now. Small businesses, and the real estate that supports those businesses, are hanging on by fingernails. Chang suggests that a recovery in the 2nd half of 2021 depends on three variables:

  1. The size and quality of the next recovery package. In his opinion — and I agree — the mid-sized package would be in the range of $1.5 Trillion, and would include expanded unemployment, PPP expansion for small businesses, housing assistance, assistance for state and local governments, public health assistance, and provisions for vaccine distribution. If the next stimulus package is smaller than this, then business and real estate in the U.S. will face considerable headwinds.
  2. “How long” will a medical solution require? If a medical solution can be rolled out by mid-2021, then a 2nd half recovery may be in the offing. However, time is not our friend, and there will be continued attrition until a solution is in place.
  3. “How effective” will a medical solution be? There will undoubtedly be setbacks. How well will we overcome the medical road blocks along the way?

If all of this come to fruition in a timely fashion, then a recovery may come along slowly in the 2nd half. The “down” sectors, particularly tourism related and in regular tourist destinations like Orlando and Las Vegas, may see a slow recovery start up by the end of 2021. Other down sectors may see some light at the end of the tunnel. Conversely, sectors which enjoyed the greatest benefit during Covid (data centers, for example) may lag the market. Offices and housing should continue to hold their own.

Again, I don’t necessarily agree with everything Mr. Chang said, but his opinions are some of the best I’ve seen, and I wanted to share this with you all. If you have any questions, please don’t hesitate to reach out.

John A. Kilpatrick, Ph.D. — john@greenfieldadvisors.com

Written by johnkilpatrick

December 6, 2020 at 12:05 pm

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ACCRE, November, 2020

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The chart says it all — the past 3 months have been the worst stretch in the history of ACCRE. Ironically, it has been a very good period for the S&P and for REITs and real estate as a whole. Why, you ask? Simply put, we had positions adverse to student housing and other holdings that were laggards due to COVID, but the good news of November — which is good news for us all — caught us by surprise. Indeed, all of our losses happened in just a few days mid-month.

It is axiomatic not to be too aggressive in clawing back losses. We made a small portfolio adjustment, and December is already looking positive. We’ll probably take on some other positions in the coming days. Note that one of our principal strategies is to stay sane with our portfolio — historically, we’ve only beaten the S&P 50% of the time, on a month-to-month basis. However, we try to stay away from big market moves, enjoying the upside without suffering big bear market moves.

As always, our subscribers receive same-day notification of any portfolio changes. Best wishes to you all — we hope you had a great Thanksgiving, and you’re all looking forward to a great holiday season.

Written by johnkilpatrick

December 4, 2020 at 4:33 pm

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ACCRE Mid-Month Report

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It’s been a mixed-bag for REITs this month. While many sectors continue to lag, short positions can be dangerous. The market is hungry for good news, and leaps at anything tossed in the water. Case in point, we saw one REIT with terrible earnings projections, but the market price rebounded when Funds from Operations (FFO) came in “less bad” than previously forecasted. Another REIT has a spread of analysts targets of over 100% from bottom to top, proving that optimism has a home in the real estate sector.

This month, I’m going to provide both LAST month’s stats on ACCRE as well as this month, just to show what a difference a month makes:

September, 2020October 2020
S&P 500
Average Daily Excess Return0.0327%0.0290%
Standard Deviation1.3451%1.3429%
Sharpe Ratio2.4315%2.1576%
ACCRE Fund
Average Daily Excess Return0.0455%0.0426%
Standard Deviation1.1540%1.1520%
Sharpe Ratio3.9436%3.6984%
Correlation (overall)56.4666%55.8996%
Correlation (monthly)73.4120%57.0514%
ACCRE Metrics as of October 31, 2020

ACCRE continues to out perform the S&P, both on an unadjusted (Average Daily Excess Returns) and a risk-adjusted (Sharpe Ratio) basis, the correlation between ACCRE and the S&P really whip-sawed in October. In the previous month, we had a very tight correlation (73%) which is actually higher than we want it. A correlation in the 50’s serves our two-pronged goal of outperforming the benchmarks in the long run and providing diversification for a mixed portfolio.

Our private newsletter subscribers received some trade alerts today, and there will probably be more soon. This market has a great deal of volatility, as well as election-year and end-of-year roiling. We avoid run-and-gun trading (REITs really don’t day-trade well!) but the market we see right now requires some close inspection.

As always, if you have any questions or comments, please let me know.

John A. Kilpatrick, Ph.D. — john@greenfieldadvisors.com

Written by johnkilpatrick

November 18, 2020 at 4:06 pm

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OK, First the Good News…

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The stock market revived quite nicely this month, with the Dow up about 12.5% in the first 11 trading days, although I’ll admit that real estate in general (and ACCRE, our in-house fund) had a couple of tough weeks. Why, you ask? I’m getting to that.

Now for the tough news. Fed Chair Jerome Powell today, speaking at the European Central Bank Forum, noted that “We’re covering, but to a different economy.” In short, the economy as we knew it is probably a “thing of the past.” We’ve suspected this for some time. In many ways, both macro and micro, the economy has shifted out from under us. Some examples, taken just from my personal experience, in no particular order…

  1. Technology has taken the place of in-person meetings. I probably attend more meetings per week now than I did a year ago, but they’re all on zoom or such. I have three scheduled for today, and that’s not unusual. The good news — my travel time, finding a parking space, calling for an Uber, etc., are way down. The bad news — the folks who drive those Ubers, the servers and cleaning staff who work in conference centers, the folks at Starbucks who get me my coffee for the drive, indeed the guy at Brooks Brothers who sells me neck-ties, are all out of work.
  2. Lack of in-person means dramatically less demand for hotel space. In an average month pre-Covid, I’d take two business trips with anywhere from 2 to 5 nights in a hotel. Now? None of the above. No need for office space, hotel meeting rooms, airplanes, etc.
  3. Ditto restaurants. I can’t remember the last time I darkened the door of a sit-down establishment.

The lowest paid workers, those in jobs requiring face-to-face contact, are shouldering most of this burden. The recovery, such as it is, can be decidedly described as “K” shaped, with some parts of the economy (those heavily invested in the stock market) doing very well, while others are running out of oxygen.

Not to belabor the point but this all has some very real implications for real estate. If Mr. Powell is correct — and I believe he is — then the tough sledding we’ve seen thus far in the property market is bound to get worse in 2021. The S&P property index, measured in terms of total return, is down 7% for 2020. Now, given how well it’s performed over the past 10 years, that’s not a bad pull-back. However, Mr. Powell suggests we may see ourselves oversupplied with property next year, particularly in categories where workers meet customers on a face-to-face basis. While the market has already discounted a lot of this, such as in REIT prices, the workout problems will be immense.

As always, I enjoy hearing from you. Please reach out if you have any comments or questions.

John A. Kilpatrick, Ph.D., MAI — john@greenfieldadvisors.com

Written by johnkilpatrick

November 16, 2020 at 10:58 am

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The Election and Real Estate Investments

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As of this writing (near the end of the business day on Monday) the Dow Jones Industrial Average is up 2.95% on the day, and has risen about 8.3% in the past 5 trading days. The broader S&P is up about 7.3%, and the NASDAQ is curiously down on the day but still up about 7% since last Monday. This morning, the bond market was up, consistent with expectations of lower interest rates. While real estate is only peripherally impacted by the securities markets, these liquid markets give some insight into investor sentiments in the wake of the election outcome.

As of today, it appears Joe Biden will be the 46th president, the Senate will still be in republican hands (although slightly less so) and the democrats will continue to control the house. This implies two very significant things for governance in the coming four years:

  1. The Biden Administration will need to govern much closer to the center than if they had a democratic-controlled Senate; and
  2. There will be considerably more stability in White House relations with capitol hill.

Clearly, the thousand pound gorilla is Covid, and any restoration of the economy to pre-pandemic state hinges on that. Wall Street is already discounting a small but very real stimulus package which should juice the GDP a bit — not as much as the first one, but something. What does all this imply for real estate?

Residential Investment

The homebuyer market and the rental investment market have done well this year despite the recession. Low interest rates have fed home buying, and the desire for social distancing has provided some marginal preference for single family rentals as opposed to apartments. Indeed, the apartment REITs are generally down on the year (there are exceptions) with particular problems in the student housing and eldercare sectors. However, built-to-rent REITs are doing fine.

The Biden administration is hoping to provide support for first time homebuyers (a group that the homebuilding community says is in short supply today) with a $15,000 tax credit. Biden would also propose some sort of tax credits for renters and increase Section 8 vouchers. We suspect this will be met with widespread support.

However, Biden has also proposed some sort of rent and mortgage forgiveness. This may have some struggles — in many cases, rental property is owned by small to medium sized investors, and the trickle-down impact on real estate service providers, who are already stretched thanks to foreclosure and eviction moratoriums, would be difficult. This would probably face head-winds on capitol hill.

Commercial Investment

The FTSI/NAREIT index of REITs was up 4.23% last week. Note that the index is down 15.61% for the year-to-date. Obviously, there are some gems in there — our ACCRE index was up about 2.4% last week but down about 2% on the year.

Every category of REIT showed positive movement last week with the exception of self-storage and regional malls. The big winners were residential, up 6.31% and industrial up 5.49%. Even lodging/hospitality, which has had an abysmal year, was up 2.97% on the week. Mortgage REITs, which have also had a terrible year, were also up marginally on the week.

This suggests broad optimism going into 2021, although it remains to be seen how all of this will play out. The best estimates we’ve seen thus far suggest three to four years for the worst-hit sectors to revive to pre-Covid levels after some sort of containment or vaccine is effective. That said, much of the worst is probably already captured in real estate prices, and absent some further or unexpected negative events, we may see some slow progress back to normalcy in the real estate markets.

As always, if you have any questions about this, please reach out! Best wishes, and stay safe!

John A. Kilpatrick, Ph.D. — john@greenfieldadvisors.com

Written by johnkilpatrick

November 9, 2020 at 2:15 pm

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ACCRE, October, 2020

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Let’s just start by acknowledging that October was a terrible month for investments in general, and particularly real estate. The Covid-related recession tsunami is catching up with impacted RE sectors, and much of this is slowly being capitalized into both the REIT market and the broader indices. Case in point — this morning, two major retail REITs (CBL and PREIT) which between them own 130 shopping centers, had to file for Chapter 11. This came as little surprise, since some of their largest tenants, including JC Penney, Tailored Brands, and Ascena Retail Group, have also filed for bankruptcy.

We feel very fortunate that ACCRE has continued to hold its value in the face of this wave. Our overall performance since January 31 (arguably, the end of the bull market) has been only slightly below the S&P 500 (which is now right back where it was 8 months ago) and is well above the overall S&P Property Index, which tanked in the spring and has had very real difficulty regaining its footing since then.

The Financial Times Stock Exchange (FTSE) tracks 159 equity REITs in conjunction with the National Association of Real Estate Investment Trusts (NAREIT). REITs are often bought for the inflation-hedged dividend yield, as as of the end of October, the average equity cash-on-cash yield was 3.98%, which of course compares well with corporate bonds. However, on a compound annual total return basis, the typical equity REIT has shown a total negative return of -16.25% for the year ending October 30. Peeling back the layers of the onion, we find that the actual returns have been all over the map. Not unexpectedly, lodging/resorts has been the worst major sector performer (-46.78%) followed by retail at -44.72%. However, even within retail, regional malls, as a sub-sector, have seen a -54.41% return.

That said, some sectors have done quite well. Data center are up 20.27% on the year, while infrastructure is up 11.95%, industrial up 8.28%, and self-storage is up 8.15%. Residential has suffered (-26.03% on the year) but within residential, single-family homes are almost breaking even (-3.42%).

By the way, mortgage REITs are suffering the same way they did in the 2008/10 debacle. At ACCRE, we avoid mortgage REITs, private REITs, and un-traded REITs.

Recent statistics suggest that as many as 44% of American households own REITs either directly or indirectly in their portfolios. Real estate is a nearly ubiquitous part of the global investment portfolio, and a well-curated REIT selection can add both diversification and positive returns to the portfolio. Drop us a line if we can help.

John A. Kilpatrick, Ph.D., MAI — john@greenfieldadvisors.com

Written by johnkilpatrick

November 2, 2020 at 3:35 pm

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Trophy Property

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As you all know, earlier this year I put the finishing touches on Real Estate Valuation and Strategy, published by McGraw Hill. (The link to the right takes you to the Amazon.Com page, but it is also available thru Barnes & Noble, Books-a-Million, and other regular business book retailers.) While finalizing this, I was simultaneously outlining my next two, one tentatively titled Stigma: Revisited Again and one on Trophy Property Valuation. The former is still in the outline stage, but the Trophy Property book is coming along nicely. Of course, dealing with Covid and assorted ramifications has slowed down a lot of things on my agenda, but hopefully I can move forward this winter.

The genesis of the trophy property book came from the work I did in the valuation of historic property, architecturally valuable property, and historic districts, mainly back in the 1990’s. I actually started writing Trophy Property with an eye to just those narrow niches, but came to realize that there is more of a need for a broader book, examining “preseravable” properties in the context of top-tier, collectable real estate.

My former business partner, and good friend Dr. Bill Mundy, wrote a series of articles for The Appraisal Journal some years ago on this very topic. At the time, his focus was mainly on collectable ranch lands and western “open space”, but the general paradigm holds for all manner of high-end, collectable “trophy” real estate. His definition of trophy property, broadly speaking, was the top 2.5% of any property in any given sector. Thus, one could have trophy residences, trophy forests, and even trophy commercial property. This last category is particularly fascinating — consider the top-tier office building or buildings in any major city. For example, consider Rockefeller Center or the Empire State Building or the Chrysler Building in New York City. Each of these, and many more like them, are owned not just for the direct income but also for the “halo effect” that owning such a building can have on a portfolio. Of course, the owners of such buildings expect top-tier rents and returns over time, consistent with the reputation of such properties.

Right after the 9/11 attacks, I was called in by some real estate investors to discuss the very special security needs — and thus valuation implications — of “trophy” office properties. While every major office building in the world faces heightened security today, as compared to 20 years ago, it almost goes without saying that high-amenity “trophy” buildings can be of particular concern.

Valuation of such properties is a challenge, and requires a significant level of experience, expertise, analysis, and often unusual data. Several years ago, I was asked to value an island off the coast of New Zealand. While such islands trade hands regularly, this particular island had been developed as a trophy “get-away” by a Forbes-400 family. Normal valuation metrics hardly applied, and the value of the island had to take into account the global market for such complex properties.

With that in mind, there are some generalities that transcend all sectors of trophy property investing, valuing, and curating:

  1. The market for a trophy property is often global, not just local. Valuation of any asset usually requires consideration of recent sales of comparable properties. However, what is comparable? For that matter, what is the market?
  2. Trophy properties often require care and maintenance above and beyond the norm for non-trophy properties. Again, consider just the security concerns. Consider also that “trophy” properties often have life-spans well beyond the economic norm. One great example are homes of ex-Presidents of the U.S. or other famous individuals, which are carefully maintained, at great expense, even though they are usually well beyond their economic or structural lives.
  3. Income producing trophy properties, such as offices or high-end retail establishments (think “Tiffany’s”) have very different capitalization metrics. Much like distressed properties have higher equity ROI expectations, trophy property may have much lower or even non-existent equity dividend rates, because…
  4. Value expectations are either in very-long-term growth prospects, subjective benefits, or halo effects. As a result simplistically determined market values may be very far different from more complex investment values. Indeed, more often than not, trophy properties sell at investment values rather than a more quantitatively determined market value. This point confounds professionals in the valuation field. If trophy properties trade at investment (rather than “market”) values, the don’t these investment values BECOME the market value? Indeed, this is a troublesome question, of no small concern when considering point 5…
  5. The tax implications for trophy property can be enormous. Many trophy holdings are curated to provide tax credits, and thus come burdened with easements with implications for down-stream owners. However, determinations of the bases for such credits requires a stylized measure of “market value” and defending this can be a challenge when similar properties are sold for complex purposes.

Point 5 gets even more complicated when dealing with a pure tax credit as opposed to a sale (or swap) of property to the Federal government. As it turns out, different valuation rules apply, and so even “market value” may be two different numbers, depending on the intended users of the valuation.

I know this is a scattershot of information about trophy property holdings, the implications for valuation, and the potential benefits. Acquisition, management, and value optimization are all dynamic elements. Real Estate Valuation and Strategy dealt with these topics in the context of overall real estate investment, and hopefully I’ll have the chance to drill down on these issues more closely in the next book. In the meantime, and as always, if you have any questions, I invite you to reach out.

John A. Kilpatrick, Ph.D., MAI — john@greenfieldadvisors.com

Written by johnkilpatrick

October 26, 2020 at 10:30 am

Posted in Uncategorized

ACCRE: REIT Investing and Mid-Month Report

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This is normally the point in the month when I provide the portfolio stats for ACCRE, specifically the Sharpe Ratio and the correlations with the S&P. I’ll do that at the end. First, though, some questions I’ve received over the past month lead me to provide a primer — perhaps more of an abstract of a primer — on REIT investing in general. Note that during troubling economic times, investors regularly look to real estate as a safe haven. REITs can provide that pathway, but only if investors understand a few of the basics.

What is a REIT? — The modern-day Real Estate Investment Trust (“REIT”) is a creature of the Tax Code, and specifically (and I still find this humorous), an amendment to the 1960 Cigar Excise Tax. Without boring you too much, if a real estate trust is structured in a certain way, then the income from that trust can be passed thru to the investors without paying corporate taxes. Now-a-days there are a lot of ways of accomplishing this tax feat, but w-a-a-a-a-y back in 1960, only REITs were a viable solution to this problem. Remember that the maximum tax on unearned income back then was 70% and in some cases 90%. Figuring out a way to make this income a pass-thru without double-taxation was (and still is) a big deal.

In the early days, REITs were mostly “captive” of big corporations or other entities. A retail business might move all of their real estate (and mortgage debt) into a REIT just to get it off the books and thus make the returns look better. The REIT existed only to hold all that paper. Nothing really changed. However, over the years, REITs began spring up as for-profit entities on their own, to specialize in certain property types, and to get listed on the New York Stock Exchange (or later NASDAQ). In many ways, the mid-1990’s was saw a real shift in REIT management style, and the modern day REITs are now largely stand-alone investments. (There are some exceptions, but they are rare.)

REITs and Liquidity — REITs basically fall into two categories: Public and Private. Private REITs are fairly similar to private equity funds or hedge funds, and provide very little in the way of liquidity. There are a lot of reasons to organize a private REIT, but trade-offs require a high degree of investor sophistication. Conversely, public REITs trade just like stocks. They are liquid, marginable, and often can be “shorted” or have options just like stocks. Specialists or NASDAQ firms make a ready market, and they often trade in the after market. Settlement terms are the same as for any other stock.

REITs Specialization — Long ago, a particular REIT may own a smorgasbord of assorted property. There are still a few that do that (“diversified” REITs). However, today, REITs largely specialize into several sectors:

  • Industrial
  • Office
  • Retail
  • Lodging
  • Residential
  • Timberland
  • Health Care
  • Self Storage
  • Infrastructure
  • Data Center
  • Diversified
  • Specialty
  • Mortgage

Within these sectors, individual REITs tend to focus on specific areas. For example, Regency Centers (REG) is a Retail REIT focused primarily on grocery-anchored centers, usually thought of as “neighborhood shopping”. Tanger Factory Outlet Centers (SKT) is also a Retail REIT, but, as the name indicates, invests in outlet centers (currently 39 of them in 20 states and Canada).

REIT Information — The National Association of Real Estate Investment Trusts (NAREIT) maintains a wealth of info on 195 publicly traded REITs. Note that there is also some data there on a limited number of private, and “public but non-listed” REITs. Further, your favorite data sources, such as your trading platform or Yahoo Finance will also be great sources of free information.

Unfortunately, real estate in general is not well understood by financial advisors, and REITs are simply a highly liquid way of investing in real estate. Thus, an advisor may know a lot about, say, pharma or tech, (or both, for that matter) but ask him or her about the retail sector or housing or even something as tech-related as data center warehouses, and you will all-too-often get a blank stare.

As always, if we can answer any questions, either on big stuff or small stuff, let us know. We’re here to help.

And now on to our mid-month report. September, as you know, was not a great month for the market in general. The S&P 500 pulled back over 6% last month, and has only recovered a bit of that so-far this month. Generally, we aim for ACCRE to be only partially coincidental with the S&P 500, thus providing some attenuation during down periods. However, for reason’s I’m still exploring, ACCRE fell much closer to lock-step with the broader market downturn in September.

S&P 500:
Average Daily Excess Return0.0327%
Standard Deviation1.3451%
Sharpe Ratio2.4315%
ACCRE Fund:
Average Daily Excess Return0.0455%
Standard Deviation1.1540%
Sharpe Ratio3.9436%
Correlation (overall)56.4666%
Correlation (monthly)73.4120%
ACCRE Metrics as of September 30, 2020

Notably, the previous monthly correlation was only about 52%. That’s a point of some interest, and we’ll want to get the correlation, on a month to month basis, back to that level.

Well, that’s about it for this week. Please note that any mention of any particular investment or investment sector is not to be interpreted as a recommendation. Greenfield Advisors, ACCRE, our team members, or our clients may or may not currently have investments which are consistent with or adverse to those mentioned herein. As always, any specific investment should only be made upon consultation with your advisors. Stay safe, and stay in touch!

John A. Kilpatrick, Ph.D., MAI — john@greenfieldadvisors.com

Written by johnkilpatrick

October 19, 2020 at 11:21 am

Posted in Uncategorized

Distressed Real Estate

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In 2021, and perhaps beyond, the market is going to be flooded with distressed real estate. On the residential side, we learned a lot of lessons about collateral and loan underwriting in the 2008/10 debacle, but nonetheless, a lot of homeowners will fall into trouble by the sheer length and depth of this recession. As of this writing, this recession is only about a half year old, but most analysts forecast continued economic doldrums for at least a year or more to come, even if we get some immediate COVID cure. Generally, it takes months for residential foreclosures to begin hitting the market. With that, one can readily see a significant number of foreclosures, short-sales, REOs, and distressed listings on the market for many months to come. In some sectors, such as hospitality, full recovery (however one defines that) may not happen for several years.

On the commercial property side, business failures — particularly in retail — are already being documented. A recent report by the accounting/consulting firm BDO documents 29 major retail chain bankruptcies thru the end of August, spanning 5,998 individual stores. In addition, 18 major “healthy” chains, such as Starbucks, AT&T, and Office Depot announced 4,228 closures in the first half of 2020. Add to that the untold number of small chains and individual “Mom&Pops” that are going under and we can readily see a lot of commercial landlords with problems on their hands. One estimate, from Yelp, put the current business closures (both temporary and permanent) at 132,580, and those are just the ones that are tracked by Yelp. In June, the proportion of these which will be “permanent” passed the 50% mark.

Graphic Courtesy YELP Economic Report, 2Q, 2020

Of course, the Yelp report focuses on consumer oriented businesses, such as restaurants, shopping & retail, beauty & spa, bars & nightlife, and fitness centers. As everyone knows, office work has shifted significantly to “on-line” and home-based work. Technology such as Zoom, Go-To-Meeting, and Webex have been a God-send, but from a commercial real estate perspective, this creates a significant level of distressed property.

At Greenfield, we’ve worked on a myriad of distressed property situations over the years, including contaminated property litigation, business failures, brownfield redevelopment, and natural disasters. We’ve made a few observations that may prove handy as our clients and friends tackle these problems going forward.

  1. The Highest and Best Use of a property may significantly change. I was interviewed recently for a magazine article on adaptive re-use of retail property for low-end housing. This can be a distinct possibility in some situations, but this use change will have a major impact on value, and even on the mechanism for determining value. In the case of adaptive re-use, the cost of adaptation may exceed the post-change value. Hence, while the change may be desirable, and perhaps even necessary, the financial feasibility of this re-used is under water.
  2. Markets are slow to re-absorb properties after a severe disruption. If one house goes into distress, I might be able to buy it and turn it into a rental. However, if 25% of the houses in a market go into distress, the absorption period can be enormous. Many investors, even sophisticated ones, fail to take this into account.
  3. A really pretty hotel may turn into a very ugly condominium. In 2006, the famed Watergate Hotel in DC was converted into condos, and at the time the value-add was enormous. However, the cost was nothing to sneeze at, either. I once looked at a hotel that had, in its life, been an assisted living facility, an off-campus student housing apartment, and an extended stay hotel. Each of these uses required different amenities, services, and upgrades. By the end, this hotel was a maintenance nightmare, as different systems never fully integrated with each other.
  4. Physical adaptability may hinge on minor flaws. Consider parking, for example. Downtown CBD offices may require little parking, particularly if most of the workers commute by mass transit. However, conversion of that building to condos, apartments, or a hotel may be a completely different problem, and rendered infeasible by the cost of a simple parking problem.
  5. Environmental issues can be a snag. Some uses (offices, for example) may have a different environmental concern or impact than, say, housing. City governments which counted on high-tax paying commercial properties, demanding little in the way of consumer services, may balk at a conversion to a use with a different array of environmental impacts.

This list goes on, and can be very specific to the property in question. Often, the impacted landlord simply does not have the resources to study or enact a conversion, and so has to sell. However, property sales incur a dead-weight cost on top of the already realized loss in value. Transactional attorneys, brokers, appraisers, and others will need a new level of creativity to deal with this mess. Even if we get Covid under control soon, and we all hope that we do, the real estate disruption will linger for years to come.

Written by johnkilpatrick

October 9, 2020 at 1:36 pm

Posted in Uncategorized

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