Capital Market Update

1. Capital Market Update February 22, 2010 Marc Louargand, Ph.D., CRE Co-Director University of Connecticut School of Business Center for Real Estate and Urban Economic Studies

2. A Brief Tour of the Capital Market • The root(s) of the problem • The scale of the problem • The CMBS and Bank Portfolios • Borrowers and Lending • Transactions and Pricing • When will demand return? • Some bright spots • Capital market outlook

3. CMBS: The Root of the Problem Shutters on the Beach Santa Monica, CA

4. Shutters on the Beach • Developed as a198 room Park Hyatt begun in 1989 • Acquired in bankruptcy in 1992 by Edward Thompson & Goldman Sachs, completed in 1993 • Appraised in 2004 for $128 million, $646,464 per key • 2004: $60 million A-Note, $32 million B-Note and $20 million Mezzanine piece - $10 million used for rooms re-do • 2005: $113.9 million A-Note,$6.3 million junior trust note, $104.8 million B-Note. Total $265 million • Appraised at $320 million - $978,543 per key

5. Casa del Mar

6. Shutters on the Beach • New loans secured by Shutters’ 198 rooms and Casa del Mar – 129 rooms next door • 2007: $310 million A-Note, $72 million Mezz piece • Appraised at $450 million - $1,376,147 per key • As of August, 2009 TTM DSCR = 0.88 • 0.88 DSCR implies $15,004,000 EBIT/327 rooms or $45,883 per key or a 3.33% cap rate on 2007 valuation

7. Who’s Guilty Here? • Who’s not guilty? • Borrowers pumped values and withdrew multiples of real equity • Valuers cooperated, relying on recent sales • Rating agencies cooperated and were conflicted • Lenders relied on junior lenders who relied on lenders • Treasuries flooded us with liquidity • Reference rates fell dramatically • Risk was free because the buyers weren’t taking any

8. The Scale of the Problem: RMBS & CMBS?

9. The Scale of the Problem: the Bank Portfolio

10. Banking Sector Response: Tighten Recession recovery Long Term Capital Management 2000 Recession and 9/11 Asian Liquidity Crisis

11. Borrowers Back in the Market ? Extended recovery Matched job recovery Quick recovery Because it was a Non-real estate problem

12. Were Cap Rates too Low or too High?

13. Transactions and Pricing Implies 19%-20% Value decline

14. Recent Core Property Returns

15. When Will Demand Return?

16. Watch for the “Household Yawn”

17. Office Jobs Needed to Regain a Robust Market* • New York 105,000 • Fairfield County 17,800 • New Haven 2,500 • Hartford 9,800 • Includes Financial/Insurance Service, Information, Real Estate, Professional Technical Services and Administrative Support • * existing supply at 90% occupancy

18. Bright Spots • Job Loss is slowing, likely turning positive now or soon • Deep cuts may have caused capacity constraint • Caterpillar called back 600 workers last week • Other recalls announced • Office employment is a much bigger part of the economy than it was in the past

19. Massive Blind Pools on the Sidelines • $100 - $200 billion raised to buy distressed assets and mortgages • Multiple “Blank Check” IPO’s registered with SEC • Weak transactions flow continues $44 billion in 2009 down from $500 billion in 2007 • REITs have lowered debt burden to 60% • A familiar refrain…………………………………………

20. A Familiar Refrain • Too much money chasing too few deals! • Bidders are already reaching • So far only the FDIC is offering huge bargains • The floor is in, let the fun begin!

21. Housing Shortfall is around the Corner • Needs requirement is 1.2 to 1.5 million units per year • Completions have fallen to 380,000 annual pace in 2009 • Unsold inventory of new homes down to 6 month supply (some say 7) • Pending Sales Index of existing homes up 11% in U.S. year over year, Northeast up 15% • Many CT towns showing YoY price increases Central CT more so than Fairfield County

22. Connecticut Housing Picture is Mixed 2009 Q3 (preliminary) Constant Quality Home Price Change Percent (High Series)

23. Connecticut Housing Picture is Mixed Center for Real Estate, UCONN

24. Look for Housing Market Changes

25. Look for Housing Market Changes • Units will be smaller as in previous recoveries • Size will be reduced further for aging Boomers • The “Small House” movement will encourage more small houses • The Green revolution and interest in sustainable development will increase construction activity • The “New Urbanism” (now 30+ years old) will continue to focus on inner cities, especially those with colleges in their downtowns • Replacement/New style construction will be higher than in the past cycles

26. Capital Market Outlook History doesn’t repeat itself, but it does rhyme

27. Capital Market Outlook • Fed has raised the Federal Funds rate • Fed has signaled higher rates in the future • Banking system is coming under increased oversight and regulation • Commercial mortgages are seen as the primary problem by regulators • Good banks will be working out bad bank loans • Marco Community Bank failure –FDIC Loss sharing arrangement is back but doesn’t save the agency much • Real estate will be in the doghouse for a while

28. Capital Market Outlook • Back to Blocking and Tackling • Basic value underwriting • Current rents • Current occupancies • conservative LTV’s and DCR’s • Modest growth assumptions • Recourse loans at higher levels • Keeping tenants happy • Practicing basic real estate • Channel 1994