Tag Archives: subprime

New Office Construction Down 91% in Orange County – Dozens of High-Rise Projects Stalled

An ominous sign for the Southern California commercial real estate market – and for the economy in general – is the report this week that office construction in Orange County, California, plunged 90.8 percent in the second quarter of 2008 from last year’s figures.

According to a report from Voit Commercial Brokerage, “The first half of 2008 has been characterized by a significant reduction in office development in Orange County.” 

“The total space under construction in Orange County at the end of the second quarter is 325,276 square feet,” said Jerry Holdner, vice president of market research for Voit Commercial Brokerage. “The total amount of construction is 90 percent lower than what was under construction at the same time last year.”

A drive down the 405 Freeway in Irvine shows dozens of stalled high-rise office construction projects.

Perhaps another indicator of the bust in office construction are the recent closings of several high-end restaurants in the Irvine Spectrum, which had relied substantially on business lunches. 

The slowdown in new office construction in Orange County means that more jobs will be lost in the building sector, and indicates that few companies plan to expand, or move to, this affluent and still high-priced Southern California county, which had served as the epicenter of the subprime mortgage industry.

On the other hand, the lack of new construction will likely mean that the vacancy rate for Orange County offices, which has been climbing steadily, will come down.

The vacancy rate is at 14.46 percent this quarter, which is significantly higher than the 8.95 percent vacancy rate recorded in the second quarter of 2007.

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Proof We’re in a Recession

Here’s proof that we’re in a recession: Starbucks is closing 600 stores.

According to the New York Times, “Starbucks said Tuesday that it planned to close another 500 underperforming stores and eliminate as many as 12,000 full- and part-time positions. The company, which now plans to close a total of 600 underperforming stores, will take related charges totaling more than $325 million. Most of the stores, which are company owned, will be closed by the end of the first half of its fiscal year, which ends September 2009, the company said. Starbucks estimated that total pretax charges associated with the closures, including costs associated with severance, would be $328 million to $348 million. The nation’s largest coffee chain said 70 percent of the stores targeted for closure have been open since the beginning of fiscal 2006. The job losses would represent about 7 percent of the company’s global work force.”

These closings are clearly fallout from the housing bust.  As the Times noted, Starbucks had “aggressively opened stores in areas like California and Florida, which have been hardest hit by the housing downturn. ”

The next time economists get together to discuss whether we’re really in a recession, they may have to meet somewhere other than the local Starbucks. 

It might be closed.

 

Home Prices Slip Again in Biggest Fall on Record

Home prices in 20 U.S. metropolitan areas fell in April 2008 by the most on record.

The Case-Shiller Index of 20 large cities for April 2008 shows housing price declines are accelerating, and are now falling at a rate of 15.3% from last year’s levels.

The report also showed that home prices fell 1.4 percent in April from a month earlier after a 2.2 percent decline in March.

There’s one bit of “good” news in the report: home price declines were less than expected.  According to economists surveyed by Bloomberg News, the index was forecast to fall 16 percent from a year earlier.

Not surprisingly, the housing bust continues to be most severe in previous boom areas in the West and Florida. 

Here are the markets where prices are falling fastest:

Las Vegas: -26.8%
Miami: -26.7%
Phoenix: -25.0%
Los Angeles: -23.1%
San Diego: -22.4%
San Francisco: -22.1%

Average of 20 large cities: -15.3%

The decline in home prices appears to be spreading.  Chicago showed a 9.3 percent decline and prices in New York City declined by 8.4 percent.  Charlotte, North Carolina, showed a decline for the first time.

According to Bloomberg.com, “One bright spot in the report was that more cities showed a gain in prices in April compared with the previous month. Houses in eight areas rose in value, compared with just two in March. Month-over-month gains were led by Cleveland and Dallas.”

 

FBI Hits Mortgage Fraud with “Operation Malicious Mortgage” — 400+ Indictments and the Arrests of Two Bear Stearns Execs

The FBI announced today that the Justice Department’s crackdown on mortgage fraud has resulted in more than 400 indictments since March — including dozens over the last two days.

Those arrested run the gamut of players in the mortgage industry, including lenders, real estate developers, brokers, agents, lawyers, appraisers, and so-called straw buyers.

The Department of Justice’s name for the crackdown is “Operation Malicious Mortgage,” which it describes as “a massive multiagency takedown of mortgage fraud schemes.”

According to the FBI, the on-going “Operation Malicious Mortgage” focuses primarily on three types of mortgage fraud — lending fraud, foreclosure rescue schemes, and mortgage-related bankruptcy schemes.

“To persons who are involved in such schemes, we will find you, you will be investigated, and you will be prosecuted,” said Federal Bureau of Investigation Director Robert Mueller. “To those who would contemplate misleading, engaging in such schemes, you will spend time in jail.”

In its statement, the FBI said that “Among the 400-plus subjects of Operation Malicious Mortgage, there have been 173 convictions and 81 sentencings so far for crimes that have accounted for more than $1 billion in estimated losses. Forty-six of our 56 field offices around the country took part in the operation, which has secured more than $60 million in assets.”

While most of those indicted so far are relatively small players in the industry-wide fraud crisis, Mueller today repeated his earlier promise that federal authorities are not ignoring the major players in the mortgage industry, but are investigating some “relatively large corporations” as part of its sweeping mortgage-fraud probe, including some 19 large companies, including mortgage lenders, investment banks, hedge funds, credit-rating agencies and accounting firms.

Most of these corporate fraud investigations, said Mueller, deal with accounting fraud, insider trading, and the intentional failure to disclose the proper valuations of securitized loans and derivatives.

The FBI’s announcement of Operation Malicious Mortgage coincided with the indictment and arrest in New York on Thursday of two former Bear Stearns managers, Ralph R. Cioffi and Matthew Tannin, who are charged with nine counts of securities, mail and wire fraud resulting in $1.4 billion in losses on mortgage-related assets.

According to the New York Times,  Cioffi and Tannin “are the first senior executives from Wall Street investment banks to face criminal charges, and the investigation by federal prosecutors based in Brooklyn is likely to become a test case of the government’s ability to make successful prosecutions of arcane financial transactions.”

“This is not about mismanagement of a hedge fund investment strategy,” said Mark J. Mershon, the head of the New York office of the Federal Bureau of Investigation at a news conference Thursday afternoon. “It’s about premeditated lies to investors and lenders. Its about the defendants prostituting their client’s trust in order to salvage their personal wealth.”

 

Financial Sector Blamed by U.S. Report as Primary Cause of Nation’s Economic Decline

While there is still disagreement among economists over whether the U.S. is in a classically defined recession, there can’t be any doubt that the economy is in serious trouble and has been for quite some time, and that the primary culprit is the nation’s financial sector.

The dismal economic growth figures announced this week by the Commerce Department’s Bureau of Economic Analysis underscore just how bad our national economy is, and which regions of the country and sectors of the economy have been hit the hardest.

The new estimates released by the U.S. Bureau of Economic Analysis (BEA) show that economic growth slowed in most states and regions of the U.S. in 2007. Real GDP growth slowed in 36 states, with declines in construction and finance and insurance the leading factor in most state’s economic losses.

Nationally, real economic growth slowed from 3.1 percent in 2006 to 2.0 percent in 2007, one percentage point below the average growth of 3.0 percent for 2002–2006.

According to the BEA report, “The deceleration in growth in 2007 was most pronounced in Arizona, California, Florida, and Nevada. Each of these states had experienced faster real growth than the nation since 2003, but slowed dramatically between 2006 and 2007, to rates below the national average (chart 2). In 2006, Arizona and Nevada were in the highest growth quintile, and California and Florida were in the second–highest quintile. But in 2007, Arizona dropped to the third quintile; California dropped to the second–lowest quintile; and Florida and Nevada dropped to the lowest quintile. In Arizona, Florida, and Nevada, construction subtracted more than one percentage point from real GDP growth. In California, construction and finance and insurance combined subtracted one percentage point from real growth.”

Forty-nine states saw losses in the construction industry 2007.  The sole exception was Wyoming with a 6.0 percent increase in construction. Nationwide, the combined drop in construction was 11.0 percent.

The largest drop in construction in dollar terms was in California, down $10.8 billion, which accounted for 1-in-6 of the $67 billion lost in construction work nationwide between 2006 and 2007.

In terms of percentage of construction work losses, the hardest hit states were:

New Hampshire -18.70%
Michigan -16.74%
Delaware -16.34%
Florida -15.96%
Arizona -15.53%
Maine -13.82%
Iowa -13.77%
Virginia -13.55%
Vermont -13.47%
California -13.46%

The BEA clearly identifies the credit crisis, and its domino effect on related industries such as real estate and construction, as the primary cause of the nation’s economic woes. 

BEA noted that “A downturn in the finance and insurance industry group accounted for nearly half of the slowdown in economic growth in 2007.”

“Construction’s value added declined 12.1 percent in 2007 after falling 6.0 percent in 2006. Real estate and rental and leasing value added growth slowed to 2.1 percent in 2007 from 3.4 percent in 2006.”

Four industry groups — finance and insurance, construction, mining, and real estate — “accounted for about one quarter of GDP in 2007. However, they accounted for nearly 80 percent of the slowdown in economic growth.”

These figures support what we’ve been saying for a long time: the real estate market (and related industries like construction) will not recover until the financial markets are stablized.

Pending Home Sales Rise — But Don’t Expect the Housing Market to Recover Soon

There was some unexpected positive news on the housing front today: pending home sales rose in April 2008 to the highest level since October 2007, according to the National Association of Realtors (NAR).

NAR complies a monthly “Pending Home Sales Index” (PHSI), which tracks housing contract activity based on signed real estate contracts for existing single-family homes, condos and co-ops. Modeling for the PHSI looks at the monthly relationship between existing-home sale contracts and transaction closings over the last four years. The PHSI gives figures for the nation and four regions, and includes seasonally adjusted as well as not seasonally adjusted figures.

A reading of 100 on the PSHI is equal to the average level of sales activity in 2001.

April’s PHSI figures show that the seasonally adjusted index of pending sales for existing homes across the nation rose to 88.2 percent from a March reading of 83.0 percent.

March’s figure of 83.0 percent was the lowest since the index was started in 2001.

Moreover, the April 2008 figure of 88.2 percent is still 13 percent below April 2007’s reading of 101.5 percent.

Some regions fared much better than others.

The region that did best was the West — with a seasonally adjusted figure of 98.8, its highest level since June 2007.  The West also showed an 8.3 percent increase from last month and a 4.0 percent increase from 95.0 percent a year ago. 

The Midwest — at a seasonally adjusted rate of 83.7 percent — posted a 13.0 percent increase from last month, but a 13.1 percent drop from last year’s figure of 96.4 percent.

The South — at a seasonally adjusted rate of 88.8 percent — showed a moderate 4.6 percent increase over last month, but that was still a stunning 22.5 percent decline from last year’s figure of 114.6 percent.

The worst region in regard to pending home sales was the Northeast — with a seasonally adjusted rate of 79.3 percent — which indicated both a monthly decline ( -1.9 percent) and a sharp decline (-12.2 percent) from 101.5 percent a year ago.

As usual, NAR strained to see these very modest national gains in the most positive light, claiming that they show that “the underlying fundamentals point to a pent-up demand.”

NAR chief economist Lawrence Yun again predicted that an upturn in the housing market is just around the corner.

“Home sales are at about the same level as they were 10 years ago, yet the population has grown by 25 million people and we have over 10 million more jobs,” Yun said. “The housing market has been underperforming by historical standards, partly because buyers were hampered by mortgage availability issues, but that’s improved and an upturn is more likely.”

Other analysts are not nearly as optimistic about the meaning of the PHSI figures. 

They point out that banks are dumping properties at fire-sale prices, and that inventories will continue to grow as foreclosures continue to rise.  NAR’s PHSI does not differentiate between full-market sales, short-sales, and foreclosures.

Even NAR’s economist Lawrence Yun acknowledges that much of the increase in pending home sales comes from “bargain hunters” who have “entered the market en mass.”

The New York Times reports that Mark Zandi, the chief economist for Moody’s economy.com, believes that April 2008 marks the bottom for home sales, but he also believes that home prices won’t bottom out for another year. ”It’s the beginning of the end of the housing downturn, but it will be a long painful ending,” he said.

We think that Zandi is being overly optimistic — when the housing downturn ends depends on many factors, including straightening out the mortgage and credit industries, that are still a very long way off.

 

Terrible News Again for Herbst and the Casino Industry

The news is terrible again for Terrible Herbst.

Standard and Poor’s Ratings Services has lowered its rating on Herbst Gaming’s 8.125 percent senior subordinated notes to ‘D’ from ‘C’, following Herbst’s failure to make an interest payment on June 1, 2008.

The bad news for casinos is not limited to Herbst properties.  Bloomberg News reports that “Casino bonds are generating the worst returns for investors as companies from Apollo Management LP’s Harrah’s Entertainment Inc. to Herbst Gaming Inc. risk bankruptcy under the weight of their debt.”

Bloomberg also reports that “Herbst Gaming, operator of 8,400 slot machines in Nevada, stopped paying interest last month, Tropicana Entertainment LLC and Greektown Casino LLC filed for bankruptcy in May and bond prices show Harrah’s and Station Casinos, which piled on more than $25 billion of combined debt in the past year to go private, are also at risk of default.”

The culprit is a deadly trifecta of sharply falling revenues and property values combined with an enormous debt overload.

According to the Nevada Gaming Control Board, casino gambling revenue on the Las Vegas Strip fell 4.8 percent to $517.5 million in March, the third consecutive monthly drop.  Similar losses were experienced in Atlantic City, the second-largest U.S. gambling center, where casino revenue fell 6.7 percent this year through April after a 5.7 percent drop in 2007.

These falling revenues come just when the casinos are committed to paying back tremendous amounts of money that was borrowed when it seemed that the good times would never end.

As Bloomberg reports, the casinos “took on a record debt load before the economy’s latest slowdown. Leon Black’s Apollo, of New York, and Fort Worth, Texas-based TPG Inc. acquired Harrah’s in a leveraged buyout in January for $27 billion.  Station Casinos, owner of 12 Las Vegas-area properties, was taken over for $8.5 billion in November by its management and buyout firm Colony Capital LLC. ‘This would probably be the most leveraged’ the gaming industry has ever been, said Michael Paladino, an analyst at Fitch Ratings in New York. ‘There’s going to be an increase in defaults’.”

“Investors from William Yung, who led Columbia Sussex Corp.’s purchase of Tropicana, to Capital Research & Management Co., the biggest Harrah’s bondholder, are being stung by losses. Debt issued by a group of 10 of the biggest high-yield gaming companies from Las Vegas to Atlantic City and Connecticut will rise to a peak of 6.6 times cash flow this year from 6.5 times in 2007, Deutsche Bank predicts. The total debt for the group will increase to $47 billion from $45 billion.”

When it came to taking on debt, the casinos gambled big.

And this time, the analysts say, the odds are against the house.