US Default - What does it mean to real estate?

As we watch the slow-motion trains lumbering toward each other in Washington, more and more observers begin to contemplate that it could really happen:  a US debt default.  What does it mean in real estate? 

Much of the press in the last week tells us that investors have moved from a belief that it couldn’t happen and wasn’t worth planning for, to a sense that it was imaginable, to cancelling traditional August vacations so that they can be at the trading desk in case it does happen.  Yet the one consistent report has been that even as we begin to believe it possible, most investors and businesses are not taking any action to protect against the impact of a default. 

In many ways, real estate is just like the rest of the economy in the event of a US debt default:  uncertainty, higher borrowing costs, and a blow to an already weak recovery would hurt real estate as they would hurt other sectors. Cassidy Turley has an interesting analysis of federal spending by city as a percentage of the local economy that is helpful in thinking about likely longer range impacts of the ultimate resolution of the crisis.

Whether you hope that we’ll ultimately solve our problems through tax increases or through spending cuts, it has to be the case that an abrupt cut-off of federal funds to a variety of recipients – from Social Security beneficiaries to block grant programs – will affect demand in disruptive ways.  And, with the likely effect on home mortgage rates, the housing market may take another hit.

In more immediate terms, this manufactured crisis will have an impact on the real estate industry as it does on other sectors of the economy.  But perhaps there are also some specific areas to think about in the real estate world.  Some are direct and clear:  it’s bad news, for instance, if the federal government has leased space in your office (though yesterday’s Wall Street Journal tells us they’re routinely 30 days late).  Others may be a little less apparent.  Either way, I hope this starter list of concerns will turn out to be an echo of Y2K, preparation for a crisis that never materializes. 

1. Are your tenants agencies of, or funded by, the federal government?
2. Do any of your tenants rely on the federal government for funds that cover their rent?  This will be a particular concern to, say, senior housing providers. 
3. Do you use Treasuries as collateral?  Do you have an obligation to maintain the value of your collateral?
4. Do you have funds in escrow or with an exchange accommodator?  What are the escrow agent’s or accommodator’s investment policies?
5. What about ripple effects:  will your non-sovereign counterparties be affected in ways that pass through to you?
6. In a possible liquidity crunch, is your liquidity in your control – or are you relying on counterparties’ commitments?
7. In any of these contractual situations, would a US debt default be a force majeure excusing performance?  Going forward, perhaps standard force majeure clauses will talk of “acts of war, terrorism, civil unrest, and government gridlock.”

Real estate may face some unique problems in these areas. Unfortunately, we’re just like the rest of the economy in not having a good solution for the loss of a riskless investment alternative.    

Comments

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