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Thursday
Feb162017

Unconventional Wisdom

In any presidential election year, many businesses hold off making major decisions due to uncertainty. With the election of Donald Trump, that feeling of uncertainty hasn’t gone away. And maybe that’s a good thing, given the poor track record of people in the prediction business over the past few years.

The conventional wisdom (and the polls) said Hillary Clinton would win the Presidency. Wrong! You might have thought professional prognosticators would have learned to hedge their bets after the Brexit surprise earlier in the year. And the failure of conventional wisdom isn’t confined to the political world. How many years did real estate analysts predict interest rates would rise before they actually did late last year? Where’s the crisis wrought by the un-refinanceable CMBS Wall of Maturities?

Maybe we’re seeing the economic equivalent of the physics phenomenon known as the ‘observer effect’: The act of observing an object changes it. So when investors fear the worst, and plan accordingly, then the anticipated disaster doesn’t happen. Or when voters are told the outcome of an election in advance, some of them will do the opposite.

Here’s the problem: In the real estate business, you have to make predictions. Commit to development financing today and you’ll know whether you were right in two or three years. Buy a property in an area that’s poised for growth and you can win big—if you’re right. If you’re not willing to stick your neck out, you’re not in the real estate business.

If we can’t predict the future reliably, maybe Trump is doing us a favor by being unpredictable. It started the days after the election—Wall Street analysts had predicted that a Trump win would cause global stock markets to fall anywhere from 2 to 10 percent, but on November 10, the Dow was up 1.4 percent and the S&P 500 increased by 1.11 percent. But interest rates jumped by about 50 basis points in November.

As I write this today (everything could change tomorrow), this is the prevailing view of how the Trump Administration will affect the economy and the commercial real estate business:

- Interest rates will continue to rise – If the uncertainty around President Trump isn’t enough to push up rates, the expectation that the Federal Reserve will raise the Federal Funds Rate should do the trick. At some point, higher interest rates will translate into higher cap rates.

- Lenders will open their wallets – The President has already issued an order for a 120-day review of Dodd-Frank, and banking CEOs have his ear on this issue. It’s likely that whatever is left of the law a year from now will be less restrictive to banks, which will respond with more aggressive lending practices.

- GDP growth will increase – If Congress significantly reduces corporate tax rates as expected, the short-term impact on the economy will be positive. On the other hand, President Trump’s opposition to immigration means that tech companies—a driving force behind economic growth—will have trouble getting top talent from around the world, as they have done under the H1B visa program. And if the lost revenue from corporate taxes isn’t replaced by some other method, we could be back to high deficits that hurt the economy over the long term.

- Commercial real estate will get a favorable policy treatment – It’s hard to imagine that President Trump would enact policies targeting his own business sector. That doesn’t necessarily mean the CRE business will do well, since our sector’s performance depends on the state of the economy and the financial markets. But at least we know that the Administration wants our industry to do well.

- Foreign capital will continue to flow to the U.S. – So far, the President has signaled that he wants a more friendly relationship with Russia, and he is less committed to NATO than previous presidents. For global real estate investors, a closer U.S.-Russia relationship would be another risk factor in regard to European investment, and one more reason to move money to the relatively safe confines of North America.

Will this conventional wisdom come to pass, or are we in an era where we need unconventional wisdom? Get out your Magic 8-Ball – it’s got a better recent track record than the pundits.

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