| In a downturn, which apparently we can expect | | | | are under duress due to shrinking values of their |
| like clockwork every 7-10 years, the constraint in | | | | investments in commercial real estate. Any new |
| the financial markets continues and commercial | | | | loans they write must have a margin of profit |
| lending remains sluggish. Banks are unsure of | | | | which will safeguard against future losses. |
| values and even whether they have sufficient | | | | Cap Rates |
| assets to cover their liabilities, thus they are | | | | Buyers now believe that they control the market, |
| reticent to lend. | | | | but for their part, sellers are being patient when |
| And yet industry professionals are generally bullish | | | | possible due to the declines in market value. |
| on self-storage, due to the relative stability of the | | | | Region Reports cap rates the past 12 months are |
| sector compared to other asset classes. But like | | | | as follows: |
| other sectors dependent upon commercial lending, | | | | North Central: 8.7% |
| the self storage industry faces a vacuum created | | | | South East: 8.6% |
| by the loss of the CMBS market and an overly | | | | South Central: 8.9% |
| stressed banking environment, both of which | | | | West: 7.7% |
| have reduced the capital available to finance new | | | | Northeast: 8.8% |
| transactions and refinances and negatively | | | | What causes declines in Market value? |
| impacted cap rates nationwide. | | | | Preface: Purchase price is not always equivalent to |
| Interest Rates | | | | Market Value. For a myriad of reasons a seller or |
| Rising interest rates are not a contributing factor | | | | buyer may be willing to give or take on a |
| but widening spreads are. They currently play only | | | | purchase price for reasons unique to them. |
| a small part of the decline in capital available for | | | | Market value is a theoretical value that assumes |
| purposes of acquisition and refinance. The | | | | what a sale price should be between two very |
| combination of: a pull-back in leverage and reduced | | | | typical parties, each with equal skill sets and full |
| amortization terms, in addition to greater | | | | knowledge of the property. |
| demands for borrower financial strength pose a | | | | Are lower appraisals contributing to the downward |
| larger challenge. It is no secret that today's | | | | spiral in values? It seems a fair question; prices |
| market for credit products is as tough as we | | | | are negotiated based upon other recent prices, |
| have seen since the last banking downturn, a | | | | which are affirmed and often modified after |
| recent history. | | | | appraisers declare market value. The problem |
| Banks are underwriting conservatively, making | | | | lends itself to the old complaint that appraisers are |
| sure deals have the strength and viability to | | | | sitting backwards on a forward moving horse. |
| survive today's economy. Lower loan to values, | | | | The relationship between declining sale prices and |
| higher requirements for secondary income, and | | | | declining appraisal values however is usually a |
| greater overall financial soundness of a borrower | | | | symptom rather than a cause. Appraisals report |
| are a must in today's climate. It is not likely to | | | | what is happening in the market but what causes |
| see many lenders loosening their underwriting | | | | property values to decline from an appraiser's |
| requirements prior to a demonstration of the | | | | perspective? |
| economy rebounding. | | | | Consider this example: an appraiser concluded that |
| Interest rates are unlikely to move up or down | | | | the Market Value for Joe Robertson's self storage |
| significantly as long as there is slack in the | | | | property was $2,000,000 in 2006. Later, when |
| economy. While in time interest rates are poised | | | | asked to do the same assignment in 2009, he |
| to rise significantly, this is unlikely to occur until the | | | | concluded the Market Value to be $1,600,000. |
| economy shows an uptick. Fewer lenders are | | | | Only two things could have caused the appraiser |
| willing to amortize a commercial loan for a 30 | | | | to conclude a lower market value in 2009: the Net |
| year term, with 25 years as the norm and even | | | | Operating Income (NOI) was significantly less and |
| some smaller loan balances using a 20 year | | | | or market capitalization rates were significantly |
| amortization period. As a result, loan payments | | | | higher. |
| are higher and loan proceeds significantly smaller. | | | | Capitalization rates represent the ratio between |
| If the Fed lending rate is so low, why are interest | | | | annual net income and average sales prices in a |
| rates so high? | | | | market. While the NOI may be falling in many |
| Interest rate cuts by the Fed affect the | | | | areas (due to increased vacancy rates and/or |
| economy slowly. Consider the following: when the | | | | more competitive rental rates), it almost certainly |
| Fed changes the Fed Funds rate, it can take 12-18 | | | | does not account for the entire decline in value. |
| months for the effect of the change to percolate | | | | Major drops in price also come from the changing |
| throughout the entire economy, when the Fed | | | | status quo between buyers and sellers. In other |
| lowers the short-term discount rate, this is | | | | words, when there are fewer buyers (as often is |
| designed to stimulate consumer spending on | | | | the case in a down market when debt is hard to |
| short-term credit, which typically affects credit | | | | come by) capitalization rates move upward even |
| card rates, some car loans and lines of credit. | | | | if there are few sales transactions to support the |
| Credit card rates are high right now because the | | | | increase. |
| industry is dominated by just three companies: | | | | Summation |
| American Express, Visa and Master Card. Breaking | | | | Bankers, brokers, appraisers, investors, and |
| these companies into many will solve that problem | | | | developers are all looking forward to when the |
| through increasing competition. | | | | downward spiral ends and confidence again |
| While the Fed rates are at historic lows, banks | | | | returns to the market. |
