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Challenges FacingCommercial Real Estate:
A Five Point Plan to Liquidity
Clifton E. (Chip) Rodgers, Jr.The Real Estate Roundtable
Washington, DCwww.rer.org
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Washington Policymakers Face Significant Challenges
• Economy – Credit Crisis, Recession, Jobs, Budget
• Global Security – War on Terror –Afghanistan, Iraq, Iran– Rise of Asia – China, India
• Sustainability and the carbon footprint– Rational energy strategy
The Real Estate Roundtable
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Political Climate Shifting?• POTUS – Approve 51.8; Disapprove 41.4 • Generic Congressional – D. 42; R. 38.7• Congress – Approve 26.8; Disapprove 64• Right Direction 39; Wrong Track 53.6• Rs ahead in NJ, VA, NH, AR, DE, PA, NY• Too soon to call
Source: Real Clear Politics - RCP Average 9/12 - 10/1
The Real Estate Roundtable
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The Real Estate Roundtable
Roundtable AgendaYear of Living Dangerously
Critical Issues– Restoring Liquidity– Filling Equity Gap– FIRPTA, ECI– Carried Interest – Sustainability– Infrastructure – Card Check
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The Real Estate Roundtable
The Credit Crisis: Staring into the Abyss
• Real estate faces most challenging credit market environment in decades
• Credit markets remain closed to commercial real estate creating systemic risks
• Lack of liquidity has paralyzed markets• Job losses hurting property fundamentals• Economic carnage continues
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Credit Market Tsunami• $6.7 trillion U.S. property market faces
worst liquidity challenge since Great Depression
• Of $3.5 trillion in commercial real estate debt, average $400 billion loans mature annually
• Credit markets remain shut down• Strategies to stop the falling knife
The Real Estate Roundtable
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Source: JPMorgan Asset Management
Commercial Real Estate Debt and EquityInvestment-grade, income-producing real estate
$6.7 trillion as of June 2008
Total Debt
$3.5 trillion
Total Equity
$3.2 trillion
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Source: Federal Reserve Flow of Funds Accounts of the United States
Commercial Real Estate Debt Outstanding
By source of funds
■ Banks ■ Thrifts ■ Insurance ■ Government ■ CMBS
■ Other
$1.04 trillion$1.3 trillion
$3.5 trillion
1988-Q41998-Q4
2008-Q4
CMBS Banks
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CMBS Issuance
58
49
74
52
93
169
206
230
0 066
78
0
40
80
120
160
200
240
1999 2002 2005
CM
BS I
ssuan
ces
Billions of dollars
1Q 2Q 3Q 4Q
2008Source: Commercial Mortgage Alert
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Billions of dollars
Commercial Real Estate Debt MaturitiesIncluding secured and unsecured debt
Source: Goldman Sachs and REIT filingsThe Real Estate Roundtable
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$0
$5
$10
$15
$20
$25
$30
$35
$40
$45
$50
03 04 05 06 07 08 YTD 09
Billio
ns
Foreign Investment In US Real Estate
Source: Real Capital Analytics
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130100
170
630
0
200
400
600
800
2008/2009 2010 2011 2012+
($ in billions)
Required Equity for Commercial Real Estate Debt Maturities
Cumul. $130 $230 $400 $1,030
Note: Assumes conservative valuation decline of 20%, original LTV of 70% and refinancing LTV of 60%. Required equity increases if value decline is
higher or LTV is lower.
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Commercial Real Estate Markets• Limited transactions since Sept. 2008• Pricing down 40% +/- from peak • Most recent deals had assumable debt,
seller financing, or lender facilitating sale• Cap rates have increased 300 bp +/- while
rents have declined 15%+• Loans in special servicing are growing $2-
3 billion per month
The Real Estate Roundtable
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Securitization Markets Essential
• Record $1.2 trillion of private RMBS were issued in 2005 and 2006
• CMBS peaked in 2007 at $237 billion• No private new RMBS or CMBS have
been created since early 2008• Critical to restore integrity of securitization
markets
The Real Estate Roundtable
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Renewed Liquidity Essential
The Real Estate Roundtable
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Central Banking Principles• Central banks calm market panics by
expanding liquidity – lend into the panic• Current Fed actions focused on credit
markets, outside banking system• Immense scale of credit markets – beyond
reach of current regulatory mechanisms• Reforms necessary
The Real Estate Roundtable
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“We knew how much of banking depended upon make-believe or, stated more conservatively, the vital part that
public confidence had in assuring solvency.”
- Raymond Moley, a key presidential adviser to FDR
–Restore public confidence –Assuring solvency–Giant steps to address crisis
The Real Estate Roundtable
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Fed Liquidity Programs1. Term Discount Window Program
2. Term Auction Facility
3. Primary Dealer Credit Facility
4. Transitional Credit Extensions
5. Reciprocal Currency Arrangements
6. Securities Lending
7. Term Securities Lending Facility
8. ABCP Money Market Fund Liquidity Facility
9. Commercial Paper Funding Facility
10.Money Market Investing Funding Facility
11. Term Asset-Backed Securities Loan Facility (TALF)
The Real Estate Roundtable
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Treasury Initiatives• EESA authorized $700 billion for TARP
– $444 billion committed – $365 billion disbursed
• Capital Purchase Program (CPP) – $250 billion to banks – Repayment of over $70 billion
• Home Affordable Modification Program • Continued capital support to GSEs and MBS
purchases
The Real Estate Roundtable
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Recent Accomplishments
• Extension of the TALF through June, 2010• Key provision of “ARRA” (HR 1) provides
important COD income relief until 2014 • New Treasury guidance allows servicers
to modify securitized loans “at any time” without triggering REMIC tax consequences – permits problems to be addressed before loans default
The Real Estate Roundtable
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Term Asset Backed Securities Loan Facility
Potential Size of TALF
Asset SpecificHaircut
AAA-RatedABS /CMBS
$900 billion
Fundedby
Federal Reserve
$100 billion
Funded by
TARP
Funded byInvestor
Supports revival of credit markets
Collateralized lending to AAA investors - opportunity for levered funds
Catalyze new issuance of ABS, CMBS
Tighten spreadsRestore credit flows to key
sectors of the economy
The Real Estate Roundtable
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TALF Aiding Markets• TALF “has shown early success in reducing risk
spreads and stimulating securitization activity”• Responsible for $124 billion of new ABS backed
by auto leases, credit cards and small-equipment loans
• $8 billion in Legacy CMBS• New Issue CMBS eligible for TALF – June • Legacy CMBS eligible for TALF – July• TALF extended through June 30, 2010
The Real Estate Roundtable
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0
200
400
600
800
1000
1200
1400
1600
07/10/08 09/07/08 11/05/08 01/03/09 03/04/09 05/02/09 06/30/09
bps
10-Yr Super Duper CMBS
Super Duper CMBS Treasury Spread
TALF Announced12/01/08
TALF TermsAmended02/06/09
First TALFFunding
Announced03/03/09
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Key TALF Issues• Low leverage does not fill liquidity gap• Warehousing credit still not available • TARP restrictions create investor concerns• Fed concerns about:
– Extracting liquidity at right time– Exposure to large single borrowers
• June 30, 2010 expiration• No new CMBS model has emerged
The Real Estate Roundtable
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Good News
• REITs have raised $23.3bn equity YTD and $6.7bn unsecured debt
• Banks have raised over $100bn in capital• Since February enactment of Cancellation
of Indebtedness (COD) provision, over $1 tn in debt restructuring and deleveraging
The Real Estate Roundtable
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Public-Private Investment Program (P-PIP)
• Public-Private Investment Funds (PPIFs)created with 1:1 equity from private investors + USG
• Combines private capital with USG capital• Potential USG leverage up to 6:1• Private partners retain asset management
control
The Real Estate Roundtable
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The Real Estate Roundtable
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PPIP – A Slow Start • Legacy Securities Program
– Five firms have raised $3.07bn – Matched by USG equity – $9.02bn of additional debt capital – Total $12.27bn of purchasing power
• Legacy Loans Program– $64.2m paid for 50% equity stake in LLC
comprised of portfolio of residential mortgage loans with $1.3bn in unpaid principal balance
The Real Estate Roundtable
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Five Point Plan
1. Enhance and extend the Term Asset-Backed Securities Loan Facility (TALF) program for CMBS
2. Establish federally-sponsored credit facility for originating new loans: adapt P-PIP structure; guaranty program based on FDIC insurance model; covered bonds
The Real Estate Roundtable
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Five Point Plan3. Encourage foreign investment in U.S. real
estate – revise Foreign Investment in Real Property Tax Act (FIRPTA) and ECI
4. Encourage banks and servicers to extend performing loans
5. Reject new anti-real estate investment taxes (e.g., capital gains, like kind exchanges and proposed tax hike on partnership “carried interest”)
The Real Estate Roundtable
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Additional Measures Needed• Credit facility concepts
– GSE for commercial real estate – Adaptation of the LLP - PPIF “new” loans– FDIC-like securitization guarantee program– Financial institutions consortium– Covered bonds – Other ideas
The Real Estate Roundtable
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The Greening of Real Estate
• U.S. income property today accounts for – 40% of energy consumption – 70% of electrical energy consumption– 30% GHG emissions (indirectly)
• EPA’s Energy Star Program has – Reduced CO2 emissions by equivalent of
taking 8-12 million cars off the road annually • LEED and energy-related tax incentives
The Real Estate Roundtable
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Cap and Trade
• Incentivize “green” investments by – Property owners should own and trade CO2
reductions instead of allocating 100% carbon-trading energy efficiency benefit to utilities
– Energy end users –building owners – should participate in this emerging market
– Monetizing CO2 reductions created through energy efficiency investments by users of energy such as buildings
The Real Estate Roundtable
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climate change bill
• Renewed debate expected next year; possible Senate action on stand-alone bill this year
• House passed bill in June; committee-passed bill in Senate
• Both include positive incentives for energy retrofits in existing buildings
• Also contain troublesome provisions that would, in effect, nationalize building-code process
• Continue working to further moderate the code-related language in the Senate version
The Real Estate Roundtable
Climate Change Legislation
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“Livability Agenda”
• Significant upgrades of aging transportation infrastructure (e.g., roads, highways, bridges)
• Forward-thinking investments in renewable energy infrastructure, mass transit, and the creation of a “smart energy grid”
• Promoting “mixed use” real estate development, transit-oriented development and other key concepts in the “smart growth” toolbox
• Consistent with our sustainability agenda
The Real Estate Roundtable
Livability Agenda
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Going Forward
• Develop governmental and private sector initiatives that will restore economic growth
• Policymakers must articulate clear strategies to address contraction of credit– Priority now to restore/maintain credit flows– Other new ideas necessary to fill equity gap– Comprehensive approach to restoring job growth,
economic expansion, real estate market demand
• Continue to pursue new ideas
The Real Estate Roundtable