October 21, 2020
Stop me if you have heard this before, but stimulus talks have taken on new urgency with a potential agreement in the next few days. The question now is if the votes to approve will take place before or after the election. The talks have taken on new urgency as jobless claims increase, highly publicized layoffs by large companies, an anticipated spike in COVID infections, etc. Equity markets have rallied and treasury yields have spiked based on the expectations of an agreement. The 10 year treasury is at 0.82%, the highest level since June. Note that the 10 year Treasury dropped as low as 0.31% in March during the initial COVID crash. Other factors contributing to the rise in yields are the Federal Reserve’s decision not to implement “yield curve control” (meaning the Fed would buy enough Treasuries to keep long term rates at a certain level) and the huge supply of Treasuries (due to the US budget deficit). Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
October 14, 2020
The 10 year Treasury was flirting with 0.80% last week about 15 bps above its recent average level. Interestingly, vaccine concerns led to a 5 bp drop to 0.72%. Reports from J&J and Eli Lilly regarding delays in progress on COVID vaccines and treatments reminded investors that the road to “normal” is bumpy. This leaves Pfizer and Moderna as the only two major vaccine candidates to have any chance at approval by year end. These developments remind us that regarding commercial real estate, any return to pre-pandemic normality will be well into 2021 and many changes may be permanent. A recent analysis by Cushman and Wakefield predict an increasing of office vacancies well into 2022 with a return to pre-COVID levels being achieved in 2025. The work-from-home movement has been accelerated by COVID: permanent at home workers increased from 5-6% pre-COVID to 10-11% today. The “hybrid” worker is on the rise. Pre-COVID hybrids accounted for 35% of office workers. Today this number is 50%. The hybrid worker splits working time between the office and home.
Another major trend is affecting the real estate mantra “location, location, location”. The pre-pandemic location trend was driven by urbanization and densification around downtown cores of major cites. As mentioned by Peter Grant in today’s WSJ, the urbanization trend is being reversed. Downtown offices and attractions are less alluring to residents today. This has led to a flight to the suburbs and other secondary locations, as residents seek more space. This is not expected to “snap back” with the availably of a vaccine. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
October 7, 2020
The “must pass” stimulus has been rocked by conflicting messages as markets plunged yesterday on “no deal until after the election” talk followed by some optimism today. The familiar pattern played out this week. Federal Reserve bankers pleading with Congress that their monetary policy only goes so far and that fiscal policy is desperately needed. The bankers indicated that the June-July bounce back in hiring was “low hanging fruit” and that the remaining job losses may be long term or permanent. Disney, Regal Cinema and the airlines announce major job cuts in the last few weeks. It seems that the private sector is not ready to create jobs without assistance. The next week or two should be interesting.
Treasuries & Rates: After sitting in a tight range of about 0.65% for weeks, the 10 year T is at 0.78% today, a 4-month high. Why? Disappointment over the Fed’s September meeting minutes. As record deficits create huge supplies of treasuries, there has been some hiccups in long bond purchase volume. The Fed was expected to announce “yield curve control” measures soon, promising to keep 10 and 30 year rates within a desired range by purchasing enough treasuries to push the yield low enough. The minutes today showed that as of now, this is not the policy. So some selling occurred on that announcement and on today’s muted optimism for a stimulus deal. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
September 30, 2020
Congressional and Administration officials are trying one last time to pass a stimulus bill before the pre-election recess. American Airlines announced 19,000 furloughs today which will be reversed only if new aid from Washington is forthcoming. Other major airlines (United & Delta) are expected to follow suit, and these layoffs will have a ripple effect throughout the economy. Many analysts are pointing to statistics that indicate the recovery from the 2008 Great Recession was slowed by the lack of continued stimulus. A large bill was passed in early 2009, but follow-ups were doomed by partisan wrangling. San Francisco Federal Reserve President Mary Daly today called for stronger fiscal policy from Congress: “We aren’t out of the woods yet, so we need a longer bridge”. She also said that there is weakness in the jobs market that the unemployment rate is not capturing.
Spotlight on Hotels: The hotel sector has been hardest hit by the pandemic. Recent weeks have seen permanent closures of high-profile hotels such as, The Luxe on Rodeo Drive in Beverly Hills and the “Crossroads of the World” Hilton on Times Square. Experts indicate that without significant aid from Congress the wave of closures is just beginning. CMBS has been the preferred loan execution for hotels for many years with $85 billion in outstanding hotel loans. Statistics from Trepp, the leading CMBS analytics group, indicate unprecedented stress on the sector. Loans delinquency are at 23.4%, highest on record (December 2019 it was 1.3%). The volume of delinquent loans exceeds the highest level reached during the Great Recession by 53%. Over 35% of CMBS loans are on servicer “watchlist” with 24% in special servicing now. The hardest hit MSA’s are New York/Newark, Houston, Chicago, Dallas, LA, Atlanta. All these metros were major convention and business travel hubs. There are some bright spots in the industry as many desirable drive-to destinations are experiencing high occupancy. Travelers are getting comfortable with procedures such as contactless entry, intense cleaning procedures, etc. It is apparent that a return to “normal” levels of air travel and business meetings will be dependent on the widespread distribution of an effective vaccine. This is estimated to occur in mid-2021 at best, so Congress must act or the industry will see waves of foreclosures over the next several months. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
September 23, 2020
One of the October 1 “cliffs” is solved as an approved continuing resolution is on its way to being approved, keeping the Government open until mid-December’s “lame duck” session. As partisanship battles flare and with no serious negotiations underway, prospects for another round of stimulus are fading. As Fed Chair Powell and Treasury Secretary Mnuchin appeared before Congress this week, Powell reminded legislatures that he does not have “spending power” and fiscal policy is their responsibility. The usual “needs list” was discussed by lawmakers: reallocations of unused Cares Act funds, money to schools, more PPP aid to hard hit industries (travel, restaurants, etc). Mnuchin even discussed PPP funding to help landlords make mortgage payments and/or make up for lost rent payments due to the pandemic. Economic bright spots include a rebound in household spending, brisk home sales, increased home mortgage application volume and manufacturing picked up to a 20 month high.
Loan Rates: The 10 year treasury has been trading in a very tight range for weeks (today at 0.67%), securitized loan markets are rallying and spreads are tightening. This continuing “perfect storm” is resulting in 10 year loan rates for agencies and CMBS around 3.00% with some loans pricing in the 2’s. Unless rates go negative, its hard to imagine coupons any lower. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
September 16, 2020
Today’s Fed meeting and subsequent statement from Fed Chair Powell spelled out a major change in Fed Policy that has been discussed this year: allowing inflation to “run” at or above their long stated 2% target without immediately raising rates. The old guidance, first announced in 2012, was that the Fed was targeting inflation rising to 2% or unemployment dropping to 5% and would increase rates if those thresholds were met. The “old normal” of pre-Great Recession economic theory was that crossing those thresholds meant that an overheating economy would spur inflation (see early 80’s Volker era). As the last decade has given way to the “new normal” whereby ultra low unemployment and interest rates has not resulted in inflation. The Fed is now saying that inflation can go to 2% and above for a while. Today’s statement “(The Fed) will aim to achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time and longer-term inflation expectations remain well anchored at 2 percent.” And when does the Fed see inflation running consistently at 2%? According to their forecast released today, it won’t be until well into 2023 at the earliest. Allowing for “run-time”, this puts the next “lift-off” of rates into 2024. Powell indicated that “highly accommodative” policy (zero rates, bond purchases, etc) “until the economy is far along in this recovery”. It begs the question, when will inflation return and what will it look like in this era? Powell also said that a “closely trusted” vaccine is critical to the economic recovery and that the Fed is not “out of ammo” as far as tools to aid the recovery. So, stimulative monetary policy is a given in today’s world. What about the more difficult issue of stimulative fiscal policy, which requires consensus in Washington? Today was the most optimistic day for months in that regard as the Administration and Congress leaders both signaled lots of common ground complete with conciliatory rhetoric, let’s see what tomorrow brings. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
September 9, 2020
It looks like Congress will keep the government open with a “clean” continuing resolution punting any shutdown risk until the December “lame duck” session after the election. The bill may be so clean that it won’t include any updated stimulus funding. A vastly stripped down bill in the Senate has little chance of becoming law and serious negotiations have yet to start. Last week’s employment report was positive on the surface with the headline jobless rate falling to 8.4% from 10.2% in July. But the jobs survey is conducted during the week that includes the 12th of the month. During late August some warning signs emerged as job openings plunged on major job recruiter sites. Major employers are set to implement job cuts in September/October (such as airlines and other travel industry employers if the aforementioned stimulus is not approved). Fed Chair Powell spoke in an interview soon after the report was released and reiterated that low interest rates will be in place for “an extended period of time, measured in years”. CMBS spreads continue to tighten as the bond buyers bid aggressively on loans originated in the “2020 normal.” Well underwritten office, industrial, multifamily and self storage loans are pricing in the 3.50% range with some interest only as the 10 year T remains at about 0.70%. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
August 26, 2020
Look for a preview of a major shift in Fed policy regarding inflation at tomorrow’s virtual Jackson Hole symposium. Fed Chair Powell is expected to unveil a policy of an “average inflation” target. Instead of using a 2% inflation figure as a “trigger” to increase rates, the new policy will allow inflation to hover above and below 2%. This means that the Fed is pushing out the eventual rate increase even farther. The reasoning is to avoid a “trap” of sluggish growth along with producers unable to raise prices effectively. This will allow inflation to “run” a little while, and is another recognition that the old rules don’t apply in the “new normal” of ultra low rates and low growth/inflation. Meanwhile, on the fiscal policy front, nothing is happening with stimulus negotiations between the House, Senate and Administration. The major airlines are announcing massive layoffs for October 1, when their stimulus ends (unless the stimulus is extended). Airlines are a critical part of the USA’s economic infrastructure. With a full government shutdown looming in 35 days (October 1), this creates the “final” deadline for Congress to come to some sort of agreement in a hyper partisan environment close to the election. Critical unemployment benefits, SBA funds for small businesses still suffering from pandemic issues, school aid, and funds for treatment/vaccines are all on hold until then. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
August 19, 2020
The market reaction to today’s release of notes from the Fed’s July meeting was “on one hand, but on the other hand”. The policymakers noted that the rapid rebound in employment in May and June may not last as COVID spikes continue to affect the economic activity in July and August. They noted future path of the recovery is highly dependent on the path of the virus, the timing of treatments and vaccines. Future labor market growth is dependent on “broad and sustained” re-openings of businesses and normalized consumer behavior. Therefore, the Fed indicated that aggressive stimulus may be needed longer than previously assumed. Usually the market reacts positively to this type of news. Any indications from central banks that the “punch bowl is being removed” often results in a sell off in equity markets. Today the initial reaction indicated a nervous market digesting the Fed’s downbeat look at the economic picture. Last week’s spike in CPI had not yet occurred at the time of the meeting but it seems that the Fed continues to believe that inflation is not an issue. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
August 12, 2020
The stimulus negotiations ended with no deal and partisan bickering, resulting in limited executive orders that may be challenged in court. With Congress going on recess, the next deadline is a big one! New annual appropriations bills need to be passed by October 1 to avoid a government shutdown. Congress will convene again in September with August economic data possibly providing more context on the urgency or lack thereof. The hyper partisan atmosphere of the election should also make it “interesting”. Meanwhile, today’s surprising jump in CPI indicated inflation is still around. The 0.6% core rate increase (excluding food and energy) was the highest since 1991. This is partially a result of pent up demand for items whose prices were depressed during the March – June pandemic shut down and gradual reopening. One month is not a trend, but the 10 year T jumped to 0.68% (note that it hit a low of 0.50% last Tuesday). That’s a 36% increase in a week. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
August 5, 2020
With the economy still reeling from the effects of COVID and much of the population unemployed and facing expiring benefits and eviction, there is widespread consensus that another stimulus package is essential. Congress has heard from a huge spectrum of America on both sides of the aisle: their constituents, economists, past Fed Chairs Yellen and Bernanke, Fed Chair Powell, small business associations, fortune 500 CEOs, community groups, state and local government officials, and more. This is one of the most critical fiscal legislative moments in history. Washington is trying to push through their disfunction, partisanship and heated election year politics to craft a bill. With summer recess set for next week, it seems that this Friday is the deadline for an agreement (which will then take days to document and be voted on). The stakes are high for commercial real estate of course. Enhanced unemployment benefits and/or stimulus checks are critical for the apartment and retail sectors (and for the economy in general). The CRE council and some legislators are trying to include aid to commercial real estate owners, particularly those with CMBS loans. CMBS delinquencies are climbing (over 10% overall, with hotels over 25%). Servicers are unwilling to offer continued (or any) forbearance and borrowers are looking to Washington for relief. Congress is also being swayed by the hit to the hotel industry, which is a huge employer. The proposal taking shape involves banks providing preferred equity for 12-18 months of debt service, expenses and taxes. The preferred equity will be at a rock bottom rate of 2.5%. The loans will be guaranteed by the U.S. government. The preferred equity structure will not violate CMBS borrower covenants on additional debt. The negotiations are difficult and contentious, some participants are saying it is “50/50” that a comprehensive deal will get done. The stakes are high. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
July 29, 2020
Comments from Fed Chair Powell today reiterating the Fed’s commitment to accommodative policy for as long as it takes. The Fed policy statement held few surprises, extending commitments on swap lines (through March 2021), bond buying ($120 billion a month in Treasuries and Fannie/Freddie), corporate bond buying, emergency lending programs (extended to Dec 31). Unprecedented programs to purchase municipal and corporate bonds also will continue. Powell noted the recent “leveling off” in the economy after May/June job gains were “sooner and stronger” than expected. But subsequent surges in COVID cases around the country have partially derailed that recovery. He noted debit and credit card spending, hotel occupancy and other consumer metrics are slowing, and future trends are unknown due to the unpredictability of the virus.
Interesting comment: “The two things are not in conflict. Social distancing measures and a fast reopening of the economy actually go together. They’re not in competition.” Spoken like a true analytic banker. He sees no danger of inflation and actually seemed to warn of deflation as he indicated that the pandemic is lowering prices (except for the notable exception of food prices). Watch the data: tomorrow’s 2nd quarter GDP announcement will be unprecedented, predicted to be minus 35% (!) Remember this is annualized, so it will show about a 10% drop in the 2nd quarter, still very significant. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners
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