'Armageddon' Price Discovery To Come First

Posted by urbandigs

Tue Jun 9th, 2009 05:27 PM

A: Folks, I'm still not 100% here and off for next few days but wanted to discuss an important topic. The first two quarters have been nothing short of intense as we seemed to experience a shift in psychology from 'Armageddon' to 'Green Shoots / Reflation' over the course of just a few months. Isn't it amazing how quickly confidence can change? The nature of our markets is that there is a 2-3 month time lag between contract signing and closing, sometimes longer if financing is hard to line up. Which puts us in a very interesting spot right now. For the most part, the closings that we will see now will reflect contracts that have been signed in February and March - that period of time when Armageddon was on the table and stocks were on their way down to the Haines' bottom. If you go back into time & place, and then compare it today, there has been quite a shift in general psychology that has affected both buyers, sellers, and brokers. Lets discuss briefly.

You may have noticed many of your listings on Streeteasy go into contract the past 5-7 weeks, as this fierce rally continues and green shoots are discussed everywhere. I have reported on this pickup a number of times and the reasons I think for it. Many seem to think there is a reflation trade going on right now with the massive stimulus (both fiscal and monetary) taken to stem this crisis - clearly the worst bout of debt deflation since the great depression. Combine the first wave down, with low rates that many feel are going higher, and a 40% surge in equity prices and you have the makings of a nice tick up in action. Sustainability is another equation that is not for this discussion.

Now, for a moment, put yourself back into time & place to February and March - what do you see? Here is what you see...

a) first wave of illiquidity hits Manhattan real estate after Lehman, seeing real estate activity stop for 5 months

b) first wave down in price adjustment

c) banks are still in serious trouble and failure isn't off the table of a major bank - bank stocks are trading at depressed levels

d) stocks in general are in a plunge on their way to the most recent lows, hit March 9th, 2009

e) fear level was HIGH

Combine those forces and put yourself back into time & place and this market was still quite sluggish, after 5 months of being frozen. There were signs of deals starting to happen and the high end was getting hurt the most. Sellers that had to sell, for whatever reason, had few bids to hit. Those that did get bids, strongly considered hitting them - and in fact, many did. Lets call the months of OCT - FEB, the fear factor months that defined the first wave down - an adjustment that almost every broker previously denied as even possible. Lets take a look at how the equity market selloff to the lows, the fear factor, the bank recapitalization, and then the equity surge looked over the first two quarters of 2009:

fear-shift.jpg

Now, what you need to understand is that the deals that were signed into contract at the tail end of the fear factor months will close first! So, the second wave of price discovery that trickles in AFTER the first wave down in prices will reflect the deals that occurred in the fear months! So don't be surprised to see some crazy prints get recorded, because they will reflect a much different period of time than when the numbers are discovered at today.

490-wea.jpgCase in point. Take a look at 490 West End Avenue, 9B. This is a classic 7 (3BR/3BTH + DR + MAIDS) that needed some work and whose price was reduced from 2.45M to 1.975M over the course of a 9 month listing history. The listing entered contract on March 12th, 2009, 3 days from the stock market lows and right at the end of the fear factor months! Then we get price discovery as the sale gets recorded for $1.5M! This is a prime example of how the Armageddon price discovery will occur first.

Now, what remains to be seen is whether these types of sales are considered outliers from a temporary blip in the market when fear was at an extreme. Or, will buyers use this as a new baseline to submit bids too? I'm thinking somewhere in the middle for at least as long as this equity rally sustains itself. Certainly, the world today is not facing Armageddon and a systemic bank failure seems all but off the table. That is quite a change from 3-4 months ago when nobody could say for sure what may happen next - so, it must properly be priced out of deals, for now. Not only that, but today's world is witnessing a stimulus induced equity rally around the globe that is boosting confidence in a reflation trade and perhaps a V-shaped economic recovery. Time will tell whether this is sustainable or not. For me, you never know what might issue in another wave or two of illiquidity similar to the months after Lehman's failure - and I don't buy into a V-shaped recovery.

The shift in psychology was not only dramatic, it was amazing to be honest with you. It is affecting buyers, sellers and brokers alike. Buyer activity has picked up big time from the fear factor months, as buyers get more willing to submit a bit in the lower end of the pyramid range of where deals seem to be happening at based on price point - certainly, prices aren't rising nor are deals happening at peak levels. Traffic is picking up, brokers are reporting on it, and sellers are learning of it. As a result, sellers may not be as motivated to hit a bid that otherwise might have been hit during the fear factor months. It's so individual and by no means are things flying off the shelves! Deals still seem to be occurring in the range I provided months ago, yet at the lower end of that range due to the shift in psychology.

This means that in a few months from now, we will likely see deals closing at levels above the fear factor months - but we will have to go through the Armageddon discovery phase first! Interesting times indeed! Expect to see the biggest surprises in the Classic 6, 7, and 8 market as deals start to close from contracts that were signed when the fear level was much higher than it is today! This is due to the higher end nature of this crisis.

Thoughts? Examples of others? Would love some reader insight here!!

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