The End of Irrational Exuberence in Commercial Real Estate

A couple of weeks ago the East Bay was jolted awake with the news that Emeryville's Watergate Towers office complex was one of several marquee San Francisco Bay Area properties going into default. Now comes news from Southern California that Maguire Properties is going to stop making payments on more than $1 Billion in loans on seven buildings in Orange County.

As evidenced by the chart below, we should prepare for a continued downpour of defaults and forced sales.

(Click above for a link to the source document)

While all of this sounds horrible - look through the scary headlines and realize that these events are evidence of an irrational market slowly and painfully moving back towards rationality. In other words, these events are a GOOD sign of a functioning market.

It is now clear that commercial real estate purchased between 2005 and 2008 was wildly overpriced. Almost anyone who bought during this time, is now faced with plummeting valuations with no floor in sight. By refusing to extend loans on properties that are underwater, and by dealing with the consequences, the lenders are forcing rationality back into the marketplace.

Forcing these overvalued properties into foreclosure, and back onto the market where they can be sold at the current (albeit much lower but more realistic) market rate, is a huge step towards climbing out of this hole.