Arizona’s real estate market likely to hit bottom in late 2009, executive says

Posted By Mike Padgett

Dec. 18, 2008

By late 2009 or early 2010, Arizona’s struggling real estate industry should start improving. That is the expert opinion of Kurt Rosene, senior vice president of national development at The Alter Group. Rosene offers his thoughts about several aspects of the market in a column he prepared for ArizonaNotebook.com.

What activity do you expect in commercial and residential development in 2009?

During the next 12 months, it will be a period of adjustment as we see workouts of distressed assets, write downs by the large players and, ultimately, the return of liquidity as the $700 billion bailout takes effect.

Look to 2010 for a better year, although the underwriting will look much more traditional and credit will be scrutinized very carefully.

Have we hit rock bottom on current land prices?

The short answer is no. Land prices are partially related to what’s happening in the rest of the real estate market – particularly the housing market. Homebuilders acquired a lot of land inventory during the bull market. According to the Commerce Department, the housing construction has fallen four straight months, causing investors to liquidate their shares in homebuilders.

In order for the housing market to come back, we have to work through the excess inventory and open the spigots of financing for home buyers through Fannie and Freddie and the commercial credit markets.

When will the market reach rock bottom?

Our best guess is that the bottom will occur in late 2009 or 2010.

The liquidity issues in the market are dramatically affecting the land business as there is no debt for land acquisition. Therefore, the only land buyers are opportunistic buyers that are trying to read where the bottom will be.

The opportunity players will wait until they can maximize their investment. This will take some time and the horizon of return will have to be a couple years beyond the bottom. The stabilization of the residential markets will be required in order for land values to begin to correct. We are already seeing deeply discounted land values trade from owners and banks that require liquidation and that will continue for the future.

Bank lending issues?

For banks to start lending, first they need to workout their distressed loans and assets and improve their reserves. Once the bailout takes effect and banks start lending to each other, we should see the credit markets unfreeze. Some banks, those with low leverage and traditional underwriting, have withstood the storm well and stand to be in a great place to pick up distressed assets. The focus will be on much more traditional underwriting, which will place more emphasis on the type and performance of assets. The near term will restrict the ability for most banks to lend for new construction because most markets are overbuilt and the lease rates do not support new development.

 

Are we seeing a tenant’s market

We are seeing more rent abatements and incentives thrown into commercial leases for tenants. Rental rates are trending downwards and landlords are aggressively competing for what tenant activity exists. Down cycles historically present a good opportunity for tenants to analyze their options to move up in class and lock into lower rental rates for a long period of time. The tenant should take advantage of this time to trade up from B or C class space to A space which might represent only a modest gross rent increase and give them a better environment for their corporate image.

Location remains a critical factor?

Any time we enter into a down cycle in the real estate continuum, the product that weathers the storm is usually due to location. It is an old real estate adage, but you can never replace a well-positioned asset. Tenants will continue to look for amenities, visibility and immediate access.

This is why our Riverwalk development, located in Scottsdale and is adjacent to Loop 101, continues to see strong interest. Scottsdale’s office market is over built, but tenants continue to look at our development because they are afforded tremendous visibility to Loop 101 traffic, and we have immediate accessibility to a majority of the Valley’s workforce. Aside from Scottsdale, downtown Tempe and the Biltmore area will hold their own while waiting for the recovery to occur.

 

How will the new light rail system, set to begin running Dec. 27, impact future development?

It is too early to say how much affect light rail will have on commercial development. However, in the long term, we believe it could have more affect on residential development, but that will take another cycle to judge.

Commercial development will occur at light rail stops. In the near term, we believe that this will be true for Tempe and downtown Phoenix, which is where infill opportunities will support the product.

What predictions can be made for the real estate industry in next five years?

The next five years will see a lot of changes in real estate. There will be more regulation of the financial markets. For the short term, 2009 looks, at best, to be very similar to 2008.

We believe that the beginning of the end will occur in 2010, where we will begin to work out of this down cycle.Therefore, we will begin the mantra, “It will feel like heaven in 2011!”

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Dec 18th, 2008

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