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   ARTICLE   |   From Scotsman Guide Commercial Edition   |   July 2005

Look out: Price corrections likely are on the way

Many of us have hypothetical crystal balls, which we use to predict the future. For many, the 2005 real-estate market has looked cloudy. A deeper gaze into our crystal balls shows that it is only a matter of time before we see price corrections in the real-estate marketplace.

Some say that interest rates will continue to increase, prompting a price drop. Ken Rosen, a University of California at Berkeley professor and chairman of the Fisher Center for Real Estate and Economic Development, used his crystal ball to start a hedge fund of real- estate-related stocks. The hedge fund bets against the future of real estate and was established to sell short its real- estate-stock investments.

Rosen invested millions of dollars in an upcoming real-market correction. He believes California’s Bay Area already had a housing bubble, which is now bursting. With the Federal Reserve signaling a rise in interest rates, Rosen and others believe it is only a matter of time before real-estate prices decrease.

Interest rates can offset any marketplace phenomenon. In the past few years, they have sustained historic lows, which have resulted in a flurry of real- estate-purchase financing and refinancing. After Sept. 11 and the Nasdaq crash, Federal Reserve Chairman Alan Greenspan predicted a U.S. recession, so he created a shallow one. He offset a true recession by keeping interest rates low.

 In addition, large and small investors have sold their income property for a small fortune and traded their equity into a larger property. But just because lenders or mortgage brokers can finance a property deal does not necessarily make it a good one. Although the concept is strong and viable, many investors did not improve their financial positions. Investors who proudly thought they were upgrading their investment have found otherwise. They gave up smaller units that generated a solid cash flow for a larger building with a break-even cash flow, at best.

With rents softening, vacancies increasing, tenants reallocating from rentals to home-ownership and loans increasing, some investors are experiencing cash-flow hell. Multifamily- property values aren’t rising because rents remain at status quo. And with interest rates rising, values will have a tendency to sink. This leaves investors few alternatives other than to keep their properties for the long haul.

We regularly hear stories about the real-estate market still being active. This is only half-true. Just because the market is active does not mean it is vibrant. Again, lower interest rates are keeping values high. Historically, however, all markets eventually correct themselves. Interest rates will increase, buying power will decrease and values will decline. It’s inevitable.

From a mortgage perspective, Dataquick analyst John Karevoll called the uncertainties surrounding the real-estate market in 2005 “much greater than (during) any time I can think of.” The Iraq conflict continues to use U.S. resources. The national debt is at its highest level ever. Terrorism remains a threat. The dollar is declining, spurring an international currency crisis. The threat of resurgent inflation remains, as fuel and raw-materials prices head higher. There is a possibility that the stock market will tank. And the stimulus of a presidential-election year is now behind us. The times ahead are filled with many challenges.

Although all of these issues can make us uncomfortable, we should not ignore reality and the facts. The future of our real-estate investments will always be on a case-by-case basis.

As we face the future, let us remember the words of Martin Luther King Jr.: “The ultimate measure of a man is not where he stands in moments of comfort and convenience, but where he stands at times of challenge and controversy.” 


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