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US Real Estate Markets:
Commercial Real Estate the next drag




                 Manas Paul
     Axis Bank Research - August12, 2009
Drags in commercial real estate and concerns in housing despite some recent
                      improvement can stand in the way of a faster US recovery


•   Despite improvements in there are concerns in US housing market
        •   risks of potential addition to inventories (delinquencies, foreclosures and
            home owners waiting to sell at better price)
        •   Difficulty in getting finances both for builders as well as buyers due to
            excessive caution and rising lending standards
        •   Affordability not holding up


•   But commercial Real Estate Market is perceived to be the next drag
        •   Unabated fall in commercial property prices and rising foreclosures
        •   Concerns over a large part of USD200bn plus loans granted in 2006-07
            coming up for refinance in 2009 might not qualify for refinancing without
            significant equity infusion amidst declining value of collateral
        •   Risks of commercial real estate losses for US banks and further bank failures
        •   Fed governors have raised their concerns over “maturing loans on
            depreciated commercial properties”


                                                                                            2
Recent Improvements in US Housing Market
 Home sales improving consistently for the last 3mths                                                                                    ….amidst falling inventories
                                                                                                                     Mths of s upply
'000                                                                                                          '000
                        Ne w H o m e S a le s                     Ex is tin g H o m e S a le s                                            New Home Inventory (MOS)                Existing Home Inventory (MOS)
                                                                                                                       14
 5200                                                                                                         50
                                                                                                                       12
 5100                                                                                                         45
 5000                                                                                                         40       10
 4900                                                                                                         35
 4800                                                                                                                   8
                                                                                                              30
 4700
                                                                                                              25        6
 4600
                                                                                                              20
 4500                                                                                                                   4
 4400                                                                                                         15
                                                                                                              10        2
 4300
 4200                                                                                                         5
                                                                                                                        0
 4100                                                                                                                        Jun-08           Aug-08         Oct-08        Dec-08         Feb-09               Apr-09              Jun-09
        Ju n - 0 8     A ug-08       O c t- 0 8   De c -0 8   Fe b - 0 9      A pr-09            Ju n - 0 9


                                                                                                                         Housing starts and permits supports forward momentum
 ….and rising prices, Case Shiller rose for the first time in
 May in 3yrs
                     Median Existing Home Sale Prices            Case Shiller Price Index                             '000                                                                                                               '000
 240                                                                                                                                              Ho u s in g Pe r mits                             Ho u s in g S ta r ts
                                                                                                                      1 ,4 0 0
 220
                                                                                                                      1 ,2 0 0
 200
                                                                                                                      1 ,0 0 0

 180                                                                                                                    800

                                                                                                                        600
 160
                                                                                                                        400
 140
                                                                                                                        200
 120
                                                                                                                             0
 100                                                                                                                             Ju n - 0 8    A ug-08       O c t- 0 8   De c - 0 8   Fe b - 0 9         A pr-09           Ju n - 0 9

        Jun-08         Aug-08         Oct-08       Dec-08        Feb-09           Apr-09              Jun-09

  Source: US Census Bureau, National Association of Realtors, Bloomberg                                                                                                                                                                    3
…but not without concerns
•   Risk of potential addition to inventories                              Rising Delinquencies but affordability not holding up
      •     On account of rising foreclosures (1.5mn properties received            D e lin q u e n c y R t (R e s )                      D e lin q u e n c y R t (C o m m )
            a default, or auction notice or were seized by banks in 1H09   9                                                                                                          200
            – a 15% y-o-y increase (bloommberg news)                       8
                                                                                    A ffo rd a b ilit y In d e x (R H S )                                                             180

                                                                           7                                                                                                          160
      •     75% of the (est. USD0.5trn) outstanding payment option         6
                                                                                                                                                                                      140
            adjustable rate mortgages to require higher payment in 2010                                                                                    Re c e
                                                                                                                                                                 nt                   120
                                                                           5                                                                              In aff declines
            and 2011 peaking in Aug 2011                                                                                                                        ordab
                                                                                                                                                                     ility            100
                                                                           4
                                                                                                                                                                                      80
      •     Risks of homeowners waiting to offload their holdings with     3
                                                                                                                                                                                      60
            price improvements…estimates of survey results by              2                                                                                                          40
            Zillow.com showed the possibility of additional supply of      1                                                                                                          20
            20mn
                                                                           0                                                                                                          0
                                                                               Ju n - 0 8     A ug-08        O c t- 0 8      De c - 0 8      Fe b - 0 9      A pr-09     Ju n - 0 9
•   Home builders facing increasing demands on the loans
    they have and new loans they seek - Requirements for
    obtaining new A, D & C (acquisition, development and                           …mortgage rates inching upwards with yields
    construction) loans have grown increasingly restrictive
                                                                           9                US Govt Bond 30 year Index                     30 YR m ortgage fixed rate average
•   Potential home buyers need large down payments and                     8
    excellent credit scores to obtain a mortgage amidst
    ongoing employment conditions                                          7

                                                                           6
•   Excessive caution by some appraisers leading to many
    cases of appraisals significantly below the agreed upon                5
    sales price, in some instances even below the builder’s
    cost of construction                                                   4

                                                                           3
•   Improvements in affordability not really holding up
                                                                           2
                                                                           Jul-00       Jul-01     Jul-02     Jul-03        Jul-04        Jul-05    Jul-06     Jul-07    Jul-08           Jul-09
    Source: National Association of Realtors, Federal Reserve, Bloomberg                                                                                                                   4
Drags of Commercial Real Estate
•   US comm. property mkt size at USD6.5trn around 1/3rd the size of                     ….unabated fall in commercial real estate prices
    housing mkt (Oxford Analytics)
                                                                                        4       Moody's/REAL comm. PPI                 Mthly Returns
•   …outstanding loans USD3.5trn of which over 40% held by commercial
    banks                                                                               2

                                                                                        0
•   Unabated fall in property prices Ieading to foreclosures, amounted to
                                                                                             Jun-08   Aug-08      Oct-08     Dec-08   Feb-09    Apr-09
    USD7bn or 4.3% of comm. mortgages by Banks at the end of 1Q09 –
    registering more than 100% y-o-y rise & expected to rise to 4.6% by                 -2
    e.o.2009 (Foresight Analytics)
                                                                                        -4
•   More than USD200bn of the total loans originating in 2006-07 are due
    for refinancing in 2009 adding up to USD1.4trn till 2013…(DB                        -6
    Research)
                                                                                        -8
•   ….concerns over parts of that unlikely to qualify for refinancing currently
    without additional equity infusion amidst declining value of collateral     -10
                                                                                               NCREIF Property Index (NPI) Total Returns
•   ….implying commercial real estate loses for US banks & risks of more
    bank failures, especially regional banks having commercial real estate
    loans as an important part of their portfolio                                                               1Q 09            2Q09          1yr
                                                                                              NPI (total)       -5.20%           -5.20%        -19.60%
•   Janet Yellen Guv. San Francisco Fed (voting member):                                      Apartm ent        -8.70%           -5.13%        -20.90%
                                                                                              Hotel             -8.55%           -5.46%        -23%
    “…Our biggest concern now is with maturing loans on depreciated
    commercial properties…. the economic forces hammering commercial                          Industrial        -7.50%           -5.09%        -19.22%
    property are unlikely to reverse anytime soon ”                                           O ffice           -7.97%           -6.52%        -22.20%
                                                                                              Retail            -4.31%           -3.03%        -12.90%


    Source: MIT Centre for Real Estate Data Laboratory Initiative, National Council of Real Estate Investment Fiduciaries (NCREIF)                       5
Annexure: US foreclosure Update

 •     Foreclosure actions were initiated on 1.37% of first
       mortgages during the first quarter of 2009

 •     SADJ delinquency rate was 9.12% of all loans outstanding
       as of the end of the first quarter of 2009, up 124 basis
       points from the fourth quarter of 2008, and up 277 basis
       points from one year ago

 •     The percentage of loans in the foreclosure process at the
       end of the first quarter was 3.85%, an increase of 55 basis
       points from the fourth quarter of 2008 and up 138 basis
       points from one year ago. Both the foreclosure inventory
       percentage and the quarter to quarter increase are record
       highs

 •     Shifting away from sub prime to prime
        •     foreclosure rate on prime fixed-rate loans has
              doubled in the last year, and, for the first time since
              the rapid growth of subprime lending, prime fixed-
              rate loans now represent the largest share of new
              foreclosure
        •     In addition, almost half of the overall increase in
              foreclosure starts we saw in the first quarter was due
              to the increase in prime fixed-rate loans
        •     Pointing to the impact of recession and drops in
              employment on mortgage defaults


Source: MBA national Delinquency survey, Federal Reserve of San Fransisco   6
Standard Disclaimer:
The material/information enclosed/provided herein is merely being provided by Axis Bank Limited as information to the Client without any obligation. The
material/information contained herein is not to be construed as tax, investment professional or legal advice. In the event that a Client seeks to invest its
funds on the basis of the material/information enclosed herein, the Client must do so at its sole risk and must consult with its/his/her own legal, business,
professional and tax advisors to determine the appropriateness and consequences of such an investment and arrive at an independent evaluation of the
same. Axis Bank Limited shall not, in any manner, be liable for the consequences arising out of such investment made by a Client. Axis Bank Limited is not
any way representing as to the truth, and/or completeness, and/or accuracy of any information contained herein//attached herewith and the same is subject
to change without notice or Intimation.”
Disclaimer for Singapore clients:
This document is published by Axis Bank Limited (“Axis Bank”) and is distributed in Singapore by the Singapore branch of Axis Bank. This document does
not provide individually tailored investment advice. The contents in this document have been prepared and are intended for general circulation. The
contents in this document do not take into account the specific investment objectives, financial situation, or particular needs of any particular person. The
securities and/or instruments discussed in this document may not be suitable for all investors. Axis Bank recommends that you independently evaluate
particular investments and strategies and encourages you to seek advice from a financial adviser regarding the suitability of such securities and/or
instruments, taking into account your specific investment objectives, financial situation and particular needs, before making a commitment to purchase any
securities and/or instruments. This is because the appropriateness of a particular security, instrument, investment or strategy will depend on your individual
circumstances and investment objectives, financial situation and particular needs. The securities, investments, instruments or strategies discussed in this
document may not be suitable for all investors, and certain investors may not be eligible to purchase or participate in some or all of them.
This document is not an offer to buy or sell or the solicitation of an offer to buy or sell any security and/or instrument or to participate in any particular
trading strategy.
Axis Bank, its associates, officers and/or employees may have interests in any products referred to in this document by acting in various roles including as
distributor, holder of principal positions, adviser or lender. Axis Bank, its associates, officers and/or employees may receive fees, brokerage or commissions
for acting in those capacities. In addition, Axis Bank, its associates, officers and/or employees may buy or sell products as principal or agent and may effect
transactions which are not consistent with the information set out in this document.
Axis Bank and its affiliates do business that relates to companies and/or instruments covered in this document, including market making and specialised
trading, risk arbitrage and other proprietary trading, fund management, commercial banking, extension of credit, investment services and investment
banking. Axis Bank sells to and buys from customers the securities and/or instruments of companies covered in this document as principal or agent.
Axis Bank makes every effort to use reliable and comprehensive information, but makes no representation that it is accurate or complete. Axis Bank has no
                                                                      information,                                                      complete.
obligation to inform you when opinions or information in this document change. Facts and views presented in this document have not been reviewed by,
                                                                 document                                                                 not
and may not reflect information known to, professionals in other Axis Bank business areas, including investment banking personnel. Axis Bank accepts no
                                                                                                                                 personnel.
liability whatsoever for any loss or damage of any kind arising out of the use of the contents in this document. Axis Bank’s comments are an expression of
                                                                                                                         Bank’
opinion. While Axis Bank believes the statements to be true, they always depend on the reliability of Axis Bank’s own credible sources.
                                                                 they                                            Bank’
Disclaimer for DIFC clients:
Axis Bank, DIFC branch is duly licensed and regulated in the Dubai International Financial Centre by the Dubai Financial Services Authority (“DFSA”). This
document is intended for use only by Professional Clients (as defined by Rule 2.3.2 set out in the Conduct of Business Module of the DFSA Rulebook) who
satisfy the regulatory criteria set out in the DFSA’s rules, and should not be relied upon, acted upon or distributed to any other person(s) other than the
intended recipient.




                                                                                                                                                                  7

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Us Commercial Real Estate The Next Drag Aug12

  • 1. US Real Estate Markets: Commercial Real Estate the next drag Manas Paul Axis Bank Research - August12, 2009
  • 2. Drags in commercial real estate and concerns in housing despite some recent improvement can stand in the way of a faster US recovery • Despite improvements in there are concerns in US housing market • risks of potential addition to inventories (delinquencies, foreclosures and home owners waiting to sell at better price) • Difficulty in getting finances both for builders as well as buyers due to excessive caution and rising lending standards • Affordability not holding up • But commercial Real Estate Market is perceived to be the next drag • Unabated fall in commercial property prices and rising foreclosures • Concerns over a large part of USD200bn plus loans granted in 2006-07 coming up for refinance in 2009 might not qualify for refinancing without significant equity infusion amidst declining value of collateral • Risks of commercial real estate losses for US banks and further bank failures • Fed governors have raised their concerns over “maturing loans on depreciated commercial properties” 2
  • 3. Recent Improvements in US Housing Market Home sales improving consistently for the last 3mths ….amidst falling inventories Mths of s upply '000 '000 Ne w H o m e S a le s Ex is tin g H o m e S a le s New Home Inventory (MOS) Existing Home Inventory (MOS) 14 5200 50 12 5100 45 5000 40 10 4900 35 4800 8 30 4700 25 6 4600 20 4500 4 4400 15 10 2 4300 4200 5 0 4100 Jun-08 Aug-08 Oct-08 Dec-08 Feb-09 Apr-09 Jun-09 Ju n - 0 8 A ug-08 O c t- 0 8 De c -0 8 Fe b - 0 9 A pr-09 Ju n - 0 9 Housing starts and permits supports forward momentum ….and rising prices, Case Shiller rose for the first time in May in 3yrs Median Existing Home Sale Prices Case Shiller Price Index '000 '000 240 Ho u s in g Pe r mits Ho u s in g S ta r ts 1 ,4 0 0 220 1 ,2 0 0 200 1 ,0 0 0 180 800 600 160 400 140 200 120 0 100 Ju n - 0 8 A ug-08 O c t- 0 8 De c - 0 8 Fe b - 0 9 A pr-09 Ju n - 0 9 Jun-08 Aug-08 Oct-08 Dec-08 Feb-09 Apr-09 Jun-09 Source: US Census Bureau, National Association of Realtors, Bloomberg 3
  • 4. …but not without concerns • Risk of potential addition to inventories Rising Delinquencies but affordability not holding up • On account of rising foreclosures (1.5mn properties received D e lin q u e n c y R t (R e s ) D e lin q u e n c y R t (C o m m ) a default, or auction notice or were seized by banks in 1H09 9 200 – a 15% y-o-y increase (bloommberg news) 8 A ffo rd a b ilit y In d e x (R H S ) 180 7 160 • 75% of the (est. USD0.5trn) outstanding payment option 6 140 adjustable rate mortgages to require higher payment in 2010 Re c e nt 120 5 In aff declines and 2011 peaking in Aug 2011 ordab ility 100 4 80 • Risks of homeowners waiting to offload their holdings with 3 60 price improvements…estimates of survey results by 2 40 Zillow.com showed the possibility of additional supply of 1 20 20mn 0 0 Ju n - 0 8 A ug-08 O c t- 0 8 De c - 0 8 Fe b - 0 9 A pr-09 Ju n - 0 9 • Home builders facing increasing demands on the loans they have and new loans they seek - Requirements for obtaining new A, D & C (acquisition, development and …mortgage rates inching upwards with yields construction) loans have grown increasingly restrictive 9 US Govt Bond 30 year Index 30 YR m ortgage fixed rate average • Potential home buyers need large down payments and 8 excellent credit scores to obtain a mortgage amidst ongoing employment conditions 7 6 • Excessive caution by some appraisers leading to many cases of appraisals significantly below the agreed upon 5 sales price, in some instances even below the builder’s cost of construction 4 3 • Improvements in affordability not really holding up 2 Jul-00 Jul-01 Jul-02 Jul-03 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Source: National Association of Realtors, Federal Reserve, Bloomberg 4
  • 5. Drags of Commercial Real Estate • US comm. property mkt size at USD6.5trn around 1/3rd the size of ….unabated fall in commercial real estate prices housing mkt (Oxford Analytics) 4 Moody's/REAL comm. PPI Mthly Returns • …outstanding loans USD3.5trn of which over 40% held by commercial banks 2 0 • Unabated fall in property prices Ieading to foreclosures, amounted to Jun-08 Aug-08 Oct-08 Dec-08 Feb-09 Apr-09 USD7bn or 4.3% of comm. mortgages by Banks at the end of 1Q09 – registering more than 100% y-o-y rise & expected to rise to 4.6% by -2 e.o.2009 (Foresight Analytics) -4 • More than USD200bn of the total loans originating in 2006-07 are due for refinancing in 2009 adding up to USD1.4trn till 2013…(DB -6 Research) -8 • ….concerns over parts of that unlikely to qualify for refinancing currently without additional equity infusion amidst declining value of collateral -10 NCREIF Property Index (NPI) Total Returns • ….implying commercial real estate loses for US banks & risks of more bank failures, especially regional banks having commercial real estate loans as an important part of their portfolio 1Q 09 2Q09 1yr NPI (total) -5.20% -5.20% -19.60% • Janet Yellen Guv. San Francisco Fed (voting member): Apartm ent -8.70% -5.13% -20.90% Hotel -8.55% -5.46% -23% “…Our biggest concern now is with maturing loans on depreciated commercial properties…. the economic forces hammering commercial Industrial -7.50% -5.09% -19.22% property are unlikely to reverse anytime soon ” O ffice -7.97% -6.52% -22.20% Retail -4.31% -3.03% -12.90% Source: MIT Centre for Real Estate Data Laboratory Initiative, National Council of Real Estate Investment Fiduciaries (NCREIF) 5
  • 6. Annexure: US foreclosure Update • Foreclosure actions were initiated on 1.37% of first mortgages during the first quarter of 2009 • SADJ delinquency rate was 9.12% of all loans outstanding as of the end of the first quarter of 2009, up 124 basis points from the fourth quarter of 2008, and up 277 basis points from one year ago • The percentage of loans in the foreclosure process at the end of the first quarter was 3.85%, an increase of 55 basis points from the fourth quarter of 2008 and up 138 basis points from one year ago. Both the foreclosure inventory percentage and the quarter to quarter increase are record highs • Shifting away from sub prime to prime • foreclosure rate on prime fixed-rate loans has doubled in the last year, and, for the first time since the rapid growth of subprime lending, prime fixed- rate loans now represent the largest share of new foreclosure • In addition, almost half of the overall increase in foreclosure starts we saw in the first quarter was due to the increase in prime fixed-rate loans • Pointing to the impact of recession and drops in employment on mortgage defaults Source: MBA national Delinquency survey, Federal Reserve of San Fransisco 6
  • 7. Standard Disclaimer: The material/information enclosed/provided herein is merely being provided by Axis Bank Limited as information to the Client without any obligation. The material/information contained herein is not to be construed as tax, investment professional or legal advice. In the event that a Client seeks to invest its funds on the basis of the material/information enclosed herein, the Client must do so at its sole risk and must consult with its/his/her own legal, business, professional and tax advisors to determine the appropriateness and consequences of such an investment and arrive at an independent evaluation of the same. Axis Bank Limited shall not, in any manner, be liable for the consequences arising out of such investment made by a Client. Axis Bank Limited is not any way representing as to the truth, and/or completeness, and/or accuracy of any information contained herein//attached herewith and the same is subject to change without notice or Intimation.” Disclaimer for Singapore clients: This document is published by Axis Bank Limited (“Axis Bank”) and is distributed in Singapore by the Singapore branch of Axis Bank. This document does not provide individually tailored investment advice. The contents in this document have been prepared and are intended for general circulation. The contents in this document do not take into account the specific investment objectives, financial situation, or particular needs of any particular person. The securities and/or instruments discussed in this document may not be suitable for all investors. Axis Bank recommends that you independently evaluate particular investments and strategies and encourages you to seek advice from a financial adviser regarding the suitability of such securities and/or instruments, taking into account your specific investment objectives, financial situation and particular needs, before making a commitment to purchase any securities and/or instruments. This is because the appropriateness of a particular security, instrument, investment or strategy will depend on your individual circumstances and investment objectives, financial situation and particular needs. The securities, investments, instruments or strategies discussed in this document may not be suitable for all investors, and certain investors may not be eligible to purchase or participate in some or all of them. This document is not an offer to buy or sell or the solicitation of an offer to buy or sell any security and/or instrument or to participate in any particular trading strategy. Axis Bank, its associates, officers and/or employees may have interests in any products referred to in this document by acting in various roles including as distributor, holder of principal positions, adviser or lender. Axis Bank, its associates, officers and/or employees may receive fees, brokerage or commissions for acting in those capacities. In addition, Axis Bank, its associates, officers and/or employees may buy or sell products as principal or agent and may effect transactions which are not consistent with the information set out in this document. Axis Bank and its affiliates do business that relates to companies and/or instruments covered in this document, including market making and specialised trading, risk arbitrage and other proprietary trading, fund management, commercial banking, extension of credit, investment services and investment banking. Axis Bank sells to and buys from customers the securities and/or instruments of companies covered in this document as principal or agent. Axis Bank makes every effort to use reliable and comprehensive information, but makes no representation that it is accurate or complete. Axis Bank has no information, complete. obligation to inform you when opinions or information in this document change. Facts and views presented in this document have not been reviewed by, document not and may not reflect information known to, professionals in other Axis Bank business areas, including investment banking personnel. Axis Bank accepts no personnel. liability whatsoever for any loss or damage of any kind arising out of the use of the contents in this document. Axis Bank’s comments are an expression of Bank’ opinion. While Axis Bank believes the statements to be true, they always depend on the reliability of Axis Bank’s own credible sources. they Bank’ Disclaimer for DIFC clients: Axis Bank, DIFC branch is duly licensed and regulated in the Dubai International Financial Centre by the Dubai Financial Services Authority (“DFSA”). This document is intended for use only by Professional Clients (as defined by Rule 2.3.2 set out in the Conduct of Business Module of the DFSA Rulebook) who satisfy the regulatory criteria set out in the DFSA’s rules, and should not be relied upon, acted upon or distributed to any other person(s) other than the intended recipient. 7