Floating on Water Isn't Easy

By Marcelo Bermúdez,
President of Figueroa Capital Group, Inc., a subsidiary of Charles Dunn Company

For investors who have been using the LIBOR as their weapon of choice to minimize cost of capital on their commercial real estate income-producing investments, their bet has cost them about 25 basis points in 2011. It has gone from 0.25 percent or so to about 0.54 percent for the 3-month, and about 0.72 percent to 1.07 percent for the 1-year rate. It is also at its highest level since July 2009. The LIBOR, besides being the rate at which international banks lend to each other, is also a confidence measure between banks. Rising rates mean banks trust each other very little as of late. You can pick your choice of various economic events that are influencing these spreads: Monetary policy of the United States, the European Union’s boxing match with Germany’s Angela Merkel, China and the Yuan or even the upcoming WTO ministerial conference. Strategizing to stay the course and floating your rates or determining if long-term fixed rates should be a play is worth considering in early 2012.

The 2008 LIBOR was hovering in the six percent range, but once the Fed printed money to keep the markets cool, banks seemed to be not as worried, so rates (and spreads) plummeted. With banks taking write-downs finally, you are certain to see rates rise to compensate for the assumed risk. Credit stress is increasing, but it is nowhere near the levels of 2008. When you look at any of the major investment or national bank economic forecasting data, we should expect a 3.2 percent rise in fourth-quarter GDP. This should possibly quell any looming ideas about a double-dip recession for now. While the employment numbers have improved, it remains largely due to the phantom workforce that is no longer looking for work.

Rapid growth in South American countries may put pressure on rising rates. In an interview by Tony McAuley at Alchemy Magazine, Jim O’Neill, Chairman of Goldman Sachs Asset Management, argues that the developed world’s financial woes are allowing growth market countries to assert their roles in the global economy. Note – he is not referring to emerging markets. While some countries may have financial markets that need continual development, ‘their fiscal and debit position of the eight growth economies is better than the whole of the G7, except Canada. O’Neill wrote a white paper in 2001 betting a majority of the global economic growth would come from the BRIC countries of Brazil, Russia, India and China, so he certainly has some credibility. In addition to the BRICs, O’Neill considers Turkey, Mexico, South Korea, and Indonesia as sufficiently developed to be considered growth markets.

If its time to lock-down long-term fixed rates for your portfolio, you will get some push back from lenders who will likely offer 5-year money instead. They won’t be as excited about 10-year offerings, unless you can reach the non-recourse (life insurance) debt providers. Since it is late in the year, it is best to contact them now to try and close something early in 2012 since they will have new allocations for the year that should be attractive, even though leverage will be lower than your traditional lender.

Marcelo Bermúdez is the President of Los Angeles-based Figueroa Capital Group, a subsidiary of Charles Dunn Company, that focuses on structuring debt and equity solutions for commercial real estate investment properties.