Its always possible but I think the risk is low. Many generalists misunderstand how REIT debt is structured. The vast majority of the debt for each company is property level and not recourse to the parent company. For example VNO has about $2.6 billion in corporate debt vs $1.3 in cash. They have plenty of unencumbered assets - most notable is the Farley building which they have spent $1.1 billion on and is leased to Facebook for 15 years (low 6s yield on cost). So just one building + cash covers basically all of VNO's corporate debt.
Fantastic article, thanks for sharing. I agree with almost everything but have 2 questions
1. If the structural decline in demand from WFH is realized as leases roll off, why is it crazy to assume we're only halfway through given the avg oREIT WALT?
2. Good chart on tech layoffs. While I realize office-using employment is white collar vs. total employment, it feels like we have a ways to go for currently record-low levels of unemployment to normalize on the back of Powell's hiking cycle
Those are my only 2 areas of pushback. Thanks again, great article
So good questions. On the first I think I wasn't clear enough on this. You are right that given REIT WALT's that just looking at that metric that REIT NOI will continue to deteriorate - and I do think that is going to be the case. However what is most important for the REITs is the overall market condition when a lease rolls. So the current weak market impacts their current roll, negatively, either via vacancy, lower rates or higher TIs. However in say 2-3 years, if I'm correct that the overall market is better, then the rollover won't be as negative. So what really matters in my view is the overall direction and state of the office markets - if we are at the bottom (or getting closer), then REITs have some more pain to experience but it shouldn't be awful.
On the second- its hard to say. I try to not make firm macro predictions but instead look at things probabilistically on the range of outcomes. It seems based on data we have seen so far & current trends that office market related layoffs may have peaked or be pretty close. Tech may already be swinging back towards hiring (or at least halting layoffs) based on the AI boom/bubble forming. But regardless I think you'd need something like a GFC to occur to rationalize current pricing. And I just don't see us having that kind of financial crisis given recent underwriting standards. I could go further down this rabbit hole (eg aging population may mean secularly lower unemployment rate - look at the east Asian countries), but I will try to stay out of those weeds for now. We probably do have more pain to come though
Thanks for the thoughtful response and well said re: rent rolls.
The more I think about (2) to your point on assessing probabilities, the more I think the only thing that matters is the % of structural office demand destruction from WFH in 10 years. I haven't seen any good math in research assessing the WFH impact, because a lot of analysts are looking at the decline in average physical occupancy, which would be like a civil engineer designing a bridge based on the average load vs. the maximum load.
Its always possible but I think the risk is low. Many generalists misunderstand how REIT debt is structured. The vast majority of the debt for each company is property level and not recourse to the parent company. For example VNO has about $2.6 billion in corporate debt vs $1.3 in cash. They have plenty of unencumbered assets - most notable is the Farley building which they have spent $1.1 billion on and is leased to Facebook for 15 years (low 6s yield on cost). So just one building + cash covers basically all of VNO's corporate debt.
Fantastic article, thanks for sharing. I agree with almost everything but have 2 questions
1. If the structural decline in demand from WFH is realized as leases roll off, why is it crazy to assume we're only halfway through given the avg oREIT WALT?
2. Good chart on tech layoffs. While I realize office-using employment is white collar vs. total employment, it feels like we have a ways to go for currently record-low levels of unemployment to normalize on the back of Powell's hiking cycle
Those are my only 2 areas of pushback. Thanks again, great article
So good questions. On the first I think I wasn't clear enough on this. You are right that given REIT WALT's that just looking at that metric that REIT NOI will continue to deteriorate - and I do think that is going to be the case. However what is most important for the REITs is the overall market condition when a lease rolls. So the current weak market impacts their current roll, negatively, either via vacancy, lower rates or higher TIs. However in say 2-3 years, if I'm correct that the overall market is better, then the rollover won't be as negative. So what really matters in my view is the overall direction and state of the office markets - if we are at the bottom (or getting closer), then REITs have some more pain to experience but it shouldn't be awful.
On the second- its hard to say. I try to not make firm macro predictions but instead look at things probabilistically on the range of outcomes. It seems based on data we have seen so far & current trends that office market related layoffs may have peaked or be pretty close. Tech may already be swinging back towards hiring (or at least halting layoffs) based on the AI boom/bubble forming. But regardless I think you'd need something like a GFC to occur to rationalize current pricing. And I just don't see us having that kind of financial crisis given recent underwriting standards. I could go further down this rabbit hole (eg aging population may mean secularly lower unemployment rate - look at the east Asian countries), but I will try to stay out of those weeds for now. We probably do have more pain to come though
Thanks for the thoughtful response and well said re: rent rolls.
The more I think about (2) to your point on assessing probabilities, the more I think the only thing that matters is the % of structural office demand destruction from WFH in 10 years. I haven't seen any good math in research assessing the WFH impact, because a lot of analysts are looking at the decline in average physical occupancy, which would be like a civil engineer designing a bridge based on the average load vs. the maximum load.