Real Estate Bubble? Q and A with CMBA Magazine

August 25, 2016

Questions about the real estate bubble, Brexit and more were addressed by Daniel Friedeberg, President of Barry Slatt Mortgage, for an upcoming article featured in the CMBA (California Mortgage Bankers Association) Magazine.

1. What input (if any) will the Brexit have on United States financial and real estate markets?

The term Brexit is used when referring to the United Kingdom’s vote to leave the E.U.  Initially, the name wrecked global financial markets, which did not anticipate this measure to win.

In the United States, the Dow Jones industrial average dropped significantly immediately after the announcement that Brexit had passed.  But now, after a month and a half has passed since the vote, the United States stock market has not only recovered its short term losses, but has gained significant ground and recently hit all time highs.  The Dow Jones industrial average can be seen as an economic indicator that looks forward into the horizon.

According to a 6/24/16 article by Amey Stone in Barron’s, “The direct effect of a Brexit vote on the United States is limited by the U.S. economy’s small direct economic exposure to the United Kingdom.  US exports to the UK make up only about 0.7% of U.S. GDP…”

One positive impact that Brexit has had on U.S. financial and real estate markets is lower interest rates.  The 10 year Treasury bond (the most common index for long term fixed rate loans) has dropped by approximately .25% since the Brexit vote was announced.  This  has prompted lenders to drop their rates on both residential and commercial loans in the United States.  Many prognosticators see this drop in rates as a short term stimulus to the U.S. economy.

In the long run, nobody really knows how Brexit will affect the U.S. financial and real estate markets, but in the short run we can all enjoy higher stock market values along with lower interest rates.

2.  What will be the hottest market or product in the next 12 months?

“Hot” is a relative term in the mortgage business.  It is quite complicated to predict which market or loan product will be the hottest in the next 12 months.

One segment of the commercial real estate finance market that is heating up and interests me is the CMBS (Commercial Mortgage Backed Securities) market.  In the 4th quarter of 2015 the CMBS market became volatile and unpredictable primarily due to perceived instability in foreign markets which adversely affected the appetites of bond buyers.  It was also adversely affected by new legislation mandated by the Dodd-Frank Act which will require CMBS lenders to retain a small strip of equity in each of their transactions.  This law will be enforced as of the end of 2016.

As the U.S. economy has proven to be extremely strong throughout 2016, many bond buyers have gained confidence in this segment.  Additionally, bond issuers (lenders) have started to test the market by issuing bond offerings that comply with the new risk retention rules before it is mandated.  This has had a positive reception in the CMBS market.  According to an August 5, 2016 article in Commercial Mortgage Alert, “The first conduit deal designed to comply with risk-retention rules was a big hit with bond buyers this week”.

The positive direction that the CMBS market seems to be taking gives me a reason to be excited about CMBS product.

3. Are current conditions (strong growth and easing credit) creating the potential for a new real estate bubble?

Many economists agree that the U.S. has been in a period of strong growth and easing credit since the great recession of 2009/2010.  There is always the potential that we are creating a new real estate bubble, but I do not believe we are.  The following are reasons why I believe this period is sustainable.

  • Inflation data is still negligible; this is giving the Feds ammunition to keep rates at historic levels.
  • While volatile foreign markets in both Europe and Asia have attracted domestic U.S. investments from those areas, there seems to be no lack of demand for foreign investors.
  • Foreign investors own approximately 40% of U.S. debt.  This strong demand has assisted in keeping interest rates in the U.S. low.
  • The stimulus of keeping interest rates low for an extended time period continues to perpetuate growth.
  • The growth in the U.S. economy has not been as robust as economists would like.