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Southern California Real Estate Still Has a Long Way to Fall

With all the talk of economic recovery — even in these pages — we think it’s a good idea to keep things in perspective.  Yes, nationwide, things are getting less bad.  But the aftermath of the property bust will be with us for quite some time, particularly in Southern California, where there was overbuilding of practically everything — houses, retails, offices, you name it.

This WSJ headline pretty well sums up the situation: “Vacancies Suppress Southern California Recovery.”

How  bad is it?  Office vacancies in San Bernardino and Riverside counties have more than tripled, rising to 24.6% from 8% in 2006.   Orange County’s office vacancy rates stands at a comparable 20%.   The Inland Empire’s retail vacancy rate has more than doubled to 10.6% from 5% in 2006 (and will likely rise further in the sluggish consumer environment we see ahead).  Anecdotal reports tell of new office buildings sitting completely empty and shopping malls defaulting on bank loans.  It is truly a depressing picture.

A separate WSJ article tells much the same story: “Maguire Properties Warns of Loan Defaults.”  The Journal writes,

Maguire Properties Inc., one of the largest office-building owners in Southern California, is planning to hand over control of seven buildings with some $1.06 billion in debt to creditors, the latest sign that rising vacancies and falling rents are causing stress in the commercial real-estate sector.  Maguire, which borrowed heavily during the go-go years to make disastrous top-of-the-market investments, mostly in Orange County, notified the buildings’ mortgage holders Friday that it expected “imminent default” on the loans. The buildings are all worth less then their mortgages and aren’t generating enough cash to pay debt service and finance leasing expenses.

Rising vacancies and falling rents create a disaster scenario for Southern California landlords.  This isn’t over.  Not even close.

Layoffs put pressure on homeowners, some of whom end up defaulting on their mortgages.  Laid-off workers are less likely to shop…putting pressure on retailers.  And obviously, laid off workers are not reporting to the shiny new office buildings…meaning that companies have little need to rent new space. We expect Southern California’s economic woes to persist for quite some time.

Charles Sizemore, CFA

Co-author of the recently-published Boom or Bust: Understanding and Profiting from a Changing Consumer Economy