The Business Cycle is often described as a sine curve, like a wave that rolls up and down, up and down, or like a roller coaster. We proceed from prosperity to peril, boom to bust, greed to fear, etc. As you have heard, “Trees don’t grow to the sky” a phrase, inferring that economic expansions can’t go on forever and must end in a contraction. Inevitably, Pleasure is followed by Pain, and thus the cycle of life rolls on.
So, everyone wants to know just where are we now in this cycle? How do we prepare for the next phase? You are aware that this cycle is the longest in history and still there are no signs of deterioration, The talking heads on TV are constantly forecasting doom around the corner, but like a stopped clock, they are right only just so often.
Here is what I know. There was a lot of selling and buying of real estate in 2015, as investors prepared for the inevitable downturn in 2017. Then the great disruption – Donald Trump was elected President, and the 2017 downturn never materialized. Now we are in the second half of 2018. What I hear and read is that the next year still looks pretty good, with no real storm clouds of Recession on the horizon. There are daily fears of Nuclear War, Inverted Yield Curves, TradeWar(s) and Overvaluation, but these have been discounted as we roll along.
What I do see now, is investors, again positioning themselves for the coming downturn by selling fully valued real estate and perhaps re-investing if they can find a 1031 Tax Deferred Exchange. Or they may not sell but continue to hold. Or sell, pay the tax and sit on cash at a 2-3% yield. So this cash, known also as Dry Powder, is piling up on the sidelines, just waiting, for the next opportunity. You see, everyone knows and believes that, say by the Year 2020, that old Recession Downturn will surface and drive prices lower, providing a really great buying opportunity; maybe as good as 2009, or 2002 or even 1992, which were the lows of the last three major cycles for commercial real estate in the last 30 years.
Investors often invest looking in the rear view mirror. By that I mean, we are hoping for history to repeat itself, so that we can invest today like we wish we had invested 10 years ago, but didn’t.
Preqin, a London firm that measures these sorts of things, says there is over $180-billion of institutional money on the sidelines, waiting to jump on a “good deal,” yet, that isn’t happening just now because buyers aren’t terribly motivated to buy at what seem high prices at the end of this long market cycle. Yet, CRE foreclosures are at low point, which is no indication of distress and there is no sign of over-borrowing on the debt side. But, no one wants to be the last fool to buy, and then not either be able to hang on in the downturn or not have available cash to buy when there are real deals to be had. So there are conflicting messages being sent.
Here is my forecast: there will be pain ahead, but not in a real estate crash. Many of the people with money stashed on the sidelines will be disappointed. All the people holding properties for higher values will also be disappointed. The Pain in the next several years will be in a stagnant, non-trending market. When a real deal comes along, there are plenty of investors ready to snap it up. There is so much money available to buy, that this will in itself prevent a market collapse. Markets crash when everyone is fully in, overleveraged and prices reverse to the downside. There is no willing money to move in so the Sellers get desperate, slashing their prices further, until they finally get a buyer to step in and snatch up the deal. All the other buyers are either out of money to buy or they are too scared to step up. This creates the vacuum that sucks down the collapsing market.
Yet now the market is so fully priced that few will venture into deals that don’t give them good upside. This will not be a deal-less market, but may turn into a lower volume market than what we would like to see. Those with impatient money will buy anyway. So, if you need to sell, there are ready buyers. If you want to hold, don’t expect big upside, but be content if you have a well-performing property. If you have cash, be patient for a deal you like, but don’t wait for a market crash that may not materialize for a number of years.