TRANSWESTERN

Despite very positive U.S. jobs report in April there is growing concern that the recovery is in a stall.

Persistently sluggish economies in Europe and the U.S. have confounded central bankers and surprised investors.

The environment continues to be characterized by extreme thirst for income in a yield-starved world.

Both debt and equity markets remain highly liquid and competitive, as CRE continues to offer attractive yield to income-oriented investors.

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Policy makers in U.S., EU and China concerned about slowing growth

Despite a very positive U.S. jobs report, there is a growing concern that the recovery is in a stall. Investors have responded by fleeing to the relative safety of bonds, causing interest rates to fall—exactly opposite of what many pundits had predicted for 2014. A 3% growth rate now appears to be unduly optimistic.

Barring an exogenous shock, the underlying strength of the U.S. economy should power through these issues and generate continued economic growth. However, this will likely continue at the tepid pace of 2.0%, the hallmark of this 5-year recovery.

The Economy
  • 1Q GDP revised down to a negative 1.0%
    • Late quarter increases suggest signs of growing demand and stronger 2Q results
  • Employment grew by 288,000, and the unemployment rate fell to 6.3% from 6.7%
  • April retail sales rose just 0.1% from March, quelling hopes for a spring thaw
  • Wal-Mart reported fifth straight month of declining sales and predicts streak to continue
  • Credit card debt fell $24 bn again in 1Q to $659 bn, the lowest level since 2002
  • U.S. consumer prices grew 0.3% in April, the biggest jump since 2Q13—YOY CPI reaches Fed target of 2.0%
  • U.S. manufacturing accelerated for third month in a row, contradicting concerns of a stall
  • Auto sales also showed more lift in April, with annualized selling rate of 16 million vehicles
    • Nissan +18%
    • Fiat Chrysler +14%
    • Toyota +13%
    • GM +7.0%
    • Hyundai +4.0%
    • Honda +1.0%
    • Ford –1.0%
  • New mortgage originations fell for the third quarter in a row to $332 bn
Disruptive Technologies
Smartphones and iPads are changing the world

$1.00
The cost to produce a new webserver that can fit on a finger, enabling everyday objects to connect to the internet

76%
Percentage major banks now offering mobile deposits, compared to 20% in 2011

$1,500
Price of Google Glass Beta, digital display glasses that interact with smartphones, tablets and computers

Global Outlook
Persistently sluggish economies in Europe have confounded central bankers and surprised investors. Europe remains near stall speed despite years of monetary stimulus. The prospect of additional stimulus, as well as the flight to the safety of bonds, has driven rates even lower.
  • EU economic activity grew at a weak 0.8% in Q1, despite Germany’s growth of 3.3%
    • EU considering negative interest; actually charging for deposits to encourage banks to lend more
  • Spanish and Italian bonds have almost fully recovered with 10-year Treasuries trading as low as 3.2%
    • Compared to German 10-year Treasuries at 1.3% and the U.S. at 2.5%
  • Greece issued $5 bn of 10-year bonds at 5.9% for the first time since the crisis, representing just 1% of outstanding debt with no real impact on the need for more aid or concessions
  • Portugal announced it will exit the bailout program and take back control of its own economy
  • The Chinese economy continues to slow, falling below the 7.5% growth target, as exports declined 6.6% and imports declined 11.3%
Capital Markets
The environment continues to be characterized by extreme thirst for income in a yield-starved world. A rally in the Treasury market brought the 10-year yield to 2.5%, down from 3.03% at the end of December. This was despite the Fed’s decision to continue to cut its bond-buying stimulus by another $10 bn. Monthly stimulus now stands at $45 bn.

Spreads have also gotten very thin on risky securities, such as junk bonds.

  • Net margins for S&P 500 companies reached a trailing 12-month record of 9.8%, up from 5.6% at the beginning of the bull market and well above 20-year average of 7.5%
  • Highly rated companies are rushing debt to market with 1Q totals at $317 bn
  • French firm Numericable Group SA raised almost $11 bn in junk bonds in a series of 5- to 10-year maturities at rates between 4.875% to 6.25%—nearly double last year’s $6.5 bn record by Sprint
  • U.S. banks continue to show progress
    • The problem bank list is down to 415 institutions with assets of $126.1 bn
    • However rising rates since Q2 2013 have been squeezing margins and mortgage originations—net income down $3.1 bn
  • Rising interest rates and surging stock prices in 2013 have raised corporate pension funding to its highest level since 2007
    • S&P 500 company funding levels up $303 bn, rising to 93% funded from 78% last year
"The 'blocking and tackling' of real estate is creating solid cash flow, minimizing the disruptions to the cash flow and managing your investments properly to meet the requirements of your equity. Those fundamentals don’t change."

Rod Derven
Contributing Editor, Development Magazine

Commercial Real Estate
Both debt and equity markets remain highly liquid and competitive, as CRE continues to offer attractive yield to income-oriented investors and an opportunistic upside for those looking for higher return/risk investments.
  • CRE sales volume increased 20% in 2013 to $360 bn
  • CRE prices increased another 15% in 1Q
  • Non-listed REITs continued robust fund-raising from retail investors and raised $4.2 bn in equity in 1Q14—this on the heels of raising $19.6 bn in 2013, which represented a 90% increase from 2012 levels
  • Non-traded REITs returned a record $16.4 bn to investors through listing, sale or merger
  • CMBS origination activity in 1Q14 actually declined YOY, despite very optimistic projections
    • Actual issuance totaled $20.4 billion in 1Q, down from $22.9 billion for 1Q13
    • CMBS delinquencies have fallen to 6.4% from a high of over 10% in mid-2012
    • 22% of CMBS closed in 1Q were made with subordinate debt, nearly double 4Q12
  • Banks increased lending in 2013 to $100 bn, a 76% increase over 2012, but still below $109 bn in 2007
  • More senior lenders, particularly banks, are relaxing curbs on mezzanine debt because restrictions were costing them loans, as borrowers turned to more tolerant non-banks
  • Non-bank lenders continue to grow: commercial property lending by mortgage REITS, other REITs and other investment funds rose to $23 bn in 2013, a 332% increase over 2012
  • In 2013, $21.3 bn of healthcare properties traded hands (senior housing, skilled nursing and medical office), a 22% increase over the prior year
  • 140 pension funds, tracked by FPL Consulting, increased CRE pledges in 1Q by 40%, or $8.2 bn vs. $5.9 bn a year earlier
    • These systems have a combined $2.8 trn in total assets and $219 bn in CRE assets
  • Private equity fund-raising also remains robust
Tom McNearney

the BRIEFING is an aggregation by Tom McNearney, Transwestern chief investment officer, of other articles and reports. Tom leads Transwestern’s capital market efforts for development and investment nationwide. Tom also serves on the firm’s investment committee and board of directors, and he directs the execution and expansion of the firm’s principal investment activities across the country.