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3/10/20
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While there is only speculation about the Coronavirus’ long-term impact on the U.S. real estate and the real estate capital markets, we can anticipate the short-term consequences, starting with construction projects, according to Dekel Capital Principal Shlomi Ronen.
The United States is extremely dependent on China for everything from raw materials to finished goods needed for both residential and commercial development. Approximately 30 percent of building products imported to the U.S. come from China, making it the largest single supplier of such material to this country, according to Dodge Data & Analytics, which tracks the construction industry.
But with Chinese factories forced to close due to the virus, imports from China have been constrained. Recent port numbers indicate shipments from China are down 25 percent — the same level that occurred at the onset of the recession in 2008. As a result, materials needed by builders to complete projects are dwindling.
“Just-in-time delivery and the optimization of the supply chain over the last decade, has significantly reduced inventories, and is compounding the current situation since there is virtually no slack in the system,” Ronen said. “There are no longer warehouses stocked with inventory in the United States awaiting customers. We have become so dependent on China for production, it’s unclear if the U.S. manufacturing industry can produce the materials needed in lieu of Chinese imports. The result could be significant project delays, and cost escalations for ventures that have not broken ground.”
Even for projects that have a GMP (guaranteed maximum price) construction contract, the crisis caused by the virus would likely fall under force majeure event excluded by the guarantee. Thus, any schedule delays or cost increases attributed to the virus will fall on the shoulders of project developers.
In an attempt to mitigate an economic slowdown here in the US, the Federal Reserve slashed interest rates by half a percentage point on March 3 to stem fallout from the epidemic, The New York Times reported, with bank officials voting unanimously for their biggest single cut—and first emergency rate move— since the depths of the 2008 financial crisis. Jerome H. Powell, the Fed chairman, also indicated during a news conference in Washington, D.C., a willingness to continue to “use our tools and act appropriately, depending on the flow of events.”
With Fed Funds Rate currently set at the 1 to 1.25 range following the announcement, the Fed has limited capacity remaining to stimulate the economy through continued reductions in short term rates.
“Looking at the treasury yields, we have seen them drop about 30 basis points in the last week and a half and yet our long-term rates are still higher than many other developed nations,” Ronen said. “The upside for real estate investors is that you can currently obtain long term fixed rate financing on most commercial buildings in the 3 percent range. The cost of long-term fixed-rate capital has come down and will likely remain low for the foreseeable future, until the U.S. economy is back on solid footing and growing again.”
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