Retail Chatr

Lately it has occurred to me that commercial real estate owners are not willing to face facts.  This has become abundantly clear in the pricing of properties for sale that come across my desk on a daily basis.  I am still seeing properties priced at very aggressive capitalization rates.  Why?  I have no idea.  Maybe it is because sellers know the motivation for the purchase of a commercial property varies from buyer to buyer and the sellers want to troll the market for that last and best buyer willing to overpay for their asset.  Maybe that is what makes real estate so unique as compared to the stock market.  Value is determined largely by a broker’s ability to convince a buyer that a property is worth a certain price.  Value is also largely determined by a particular buyer’s motivation to purchase.  This is where the inefficiency of the real estate market is clearly on display.

If I own stock in Citibank (NYSE: C; currently trading at $1.43 / share) and I want to sell my shares, the price is set.  I have no say in the sale price.  There is a very efficient market that has determined the value of my holdings.  I don’t have the option to say “let’s put it out there at $3.00 and see if there are any takers”.  People selling stocks do not have the option of overpricing their offerings and hoping for a buyer to come along and overpay.  This is the result of perfect information provided to all.  The commercial real estate market suffers from a great disparity between those in the know and those that do not have good information.  There is a large information gap from one person to the next.  What I question is just how large is that gap?

If you look at the Dow Jones Industrial Average (currently at 6,876.63) and compare that to the 52 week high of 13,191.49 you can easily calculate that value has dropped approximately 48% from the recent high.  Shouldn’t commercial real estate be suffering the same fate?  Market intrinsics say yes; however, current market pricing does not reflect this.  In fact, its not even close.

If, for example, you take a property that would have traded at a 6.00% capitalization rate and a value of $5,000,000 at the peak of the market (somewhere between 2005 – 2007) and apply the same 48% price adjustment we currently see in the stock market you arrive at a value of $2,600,000 and a 11.54% capitalization rate.  This, to me, represents a slight overcorrection in value.  Using an adjustment to a 9.00% capitalization rate which is more in line with my belief as to an accurate market adjustment, we get a revised valuation of $3,333,333.  If properties were being priced with this 33% discount off of their highs from a few years ago we would have a market with substantially more momentum than we currently see.  The problem is we do not see this type of pricing adjustment across the board as we should.  The reason is simple: commercial real estate investment is an inefficient market that operates on imperfect information.  You simply can’t overprice an offering in the stock market as we can in commercial real estate.  In the stock market, you are either a seller or you are not.  In commercial real estate there are people masquerading as sellers but are unwilling to meet the market.

So when will commercial real estate owners face the facts and swallow the 33% discounts from yesteryear?  Pricing needs to be adjusted across the board.  Waiting for comparable information to set the market will mean the market has already moved along in another direction because our market information is stale by the time it is published.  If you truly want (or need) to sell, get in front of the market or be prepared to chase it downward.

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