Ok, of late, the stock market's been interesting, housing sales have been picking up speed somewhat (it is the Spring home buying season, afterall!), and some economists are anxiously looking for good news in the first quarter of 2010, or maybe even by the fourth quarter of this year.  All good news, right!  While I prefer to be an optimist, we must be very careful not to overlook one very, VERY important possibility....The Next Economic Tipping Point!

We all know that office and industrial leasing demand in most markets around the U.S. is way down, and that retailers have closed a lot of stores, making some shopping centers sad places to hang out.   Some commercial landlords, many of whom are holding on to their buildings, white-knuckled, in anticipation of a hoped-for early recovery and a resulting uptick in demand for commercial space, are moments away from losing, or giving back, their buildings to lenders.   Lenders are poised to foreclose on defaulting loans, and many are fearful of the volume of failed buildings that may come there way, for which they may likely be unprepared. 

Further complicating this issue is that capital markets, which have recently shown some small signs of life, have been closed for large transaction financings since last summer.   In the last five to seven years, landlords and investors financed thousands of commercial buildings with short term debt.  That debt most often was based on high valuations and high loan-to-value ratios.   As those loans expire this year, in 2010, 2011, 2012, and beyond, most of those landlords and investors will be forced to seek replacement debt.  Many will not find new debt at reasonable terms because of fallen valuations, lower loan-to-value ratios, and other lender requirements that simply will not satisfy cash flow and ROI requirements. 

Some statistics suggest that billions and billions of dollars in commercial debt will expire in each of the four years between now and 2012.  I recently heard an unsubstantiated projection that over 10,000 office buildings nationwide will seek replacement financing before the end of 2009...10,000!  Let's say they're only half right.  That means that, on average, 100 office buildings in every state will be in financial distress...that's a lot!  And, that's just 2009.  Similar magnitudes were thrown around for industrial and retail buildings, not to mention hotels,  health care, and other types of commercial real estate, with more buildings requiring refinancings in 2010, 2011, and so on.  If this comes true at the volume being discussed, that will certainly wreak havoc on local real estate economies, the nation, and global markets, too. 

By the way, my discussion here isn't about whether this will happen...it's already happening!  My comments here are about the potential huge volume in these occurrences and the potential impact on the economy.  Commercial buildings across the country are in financial distress.  Many are being foreclosed upon, others are being given to lenders by borrowers in lieu of foreclosure, others are being sold at discounts to their original purchase prices.  In many cases, investors are buying mortgage debt from lenders at discounts to original value in anticipation of future opportunities to foreclose on those buildings and end up with quality real estate at deep discounts. 

One of the saving graces of the current real estate market is that, unlike the major real estate recession that ocurred in the late 1980's and early 1990's (Remember that one?  Can anyone say R - T - C?), most markets around the U.S. entered the current receession with little over supply of commercial real estate.  Few markets, if any, contain a large number of  "see through" buildings.  Remember "see through buildings"...those office, retail, and other buildings that you could see right through because they contained no tenants and were constructed not to satisfy demand but, most often for the purpose of generating tax losses that could be applied against ordinary income?  Remember, when every dentist thought he was a real estate developer?  Thank goodness we don't have to deal with that, too!

If a recovery doesn't begin to take hold soon, and capital markets don't free up debt on terms that make sense for commercial landlords, could this be The Next Economic Tipping Point?  If so, how would this affect the national and global economies?  What will it do to commercial tenants and their leases?  Large tenants and those that have been advised by sophisticated real estate professionals have likely protected themselves against such events...the operative term here is "likely!"   But, what about the thousands of small commercial tenants, whose leases probably don't afford them the same protections that larger tenants typically achieve?  What will be their fate if The Next Economic Tipping Point actually does occur?

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