Two weeks ago, I had a conversation with an investor who owns and operates over two hundred shopping centers in twenty-five states from Florida to Alaska, and who is looking to place a pretty hefty investment into New York City Retail. He shared a sentiment that I’ve been hearing a lot lately, which is that the biggest obstacle in today’s retail real estate market is the Fear Of Making A Mistake, FOMAM. That fear often takes the form of, “I want to wait & see what happens with interest rates,” and it’s completely understandable.
OK, what’s the problem?
There may not be one. If you are locked in with a low long-term interest rate and your retailers are paying their rent, or your property is otherwise generating problem-free cash flows, then party on. You have good reason to set a selling price floor, and not act until the market or a buyer meets or exceeds it.
OK great, so what about everyone else?
The problem with FOMAM is that waiting out the market might feel risk-free, but actually has its own insidious, inherent risks with long-term implications. Both known unknowns and unknown unknowns lurk around the corner. Firstly, are interest rates even going to come down? The ongoing arguments between more esteemed economists than myself leave plenty of doubt. You can listen to one here between Former Treasury Secretary Larry Summers, who gives well thought out reasons that rates will stay higher indefinitely, and Solow Professor of Economics emeritus at MIT Olivier Blanchard, who sees lower rates coming sooner, and decide for yourself.
FOMAM: Fear Of Making A Mistake
Every landlord has different goals, but the other risks of FOMAM may include:
- Building owners who bet on interest rates coming down and Loan-to-Value going up may run into scores of others owners doing the same. Putting the building on the market later might mean competing with dozens more similar properties.
- Conversely, if rates do not go down, or down enough, there may be a spike in distressed properties on the market. Once again, building owners might find themselves competing with more landlords, and in this case, landlords desperate to make a deal.
- For owners with vacant buildings looking for cash flows, or those just tired of management, waiting might mean missing out on the generally higher cash flows currently available. If rates do go down and access to capital becomes easier, then cap rates will likely compress.
- As cap rates go down, the window for a building to produce desired income may shorten. For owners seeking to do a 1031 exchange either in NYC or out of state, waiting for a better price on the current building could mean significantly diminished cash flows from the acquired property.
- How long is too long? Losses and recoveries tend happen over a few years, not a few months. Building owners sometimes get stuck in endless FOMAM cycles, waiting for a dramatic market shift that never happens.
In short, every choice involves risk, but so does letting the markets make choices for you. Success depends not on risk avoidance, but on risk identification and management. Knowledge is king.