January 14, 2016

After Wednesday's stock market pullback, the S&P 500 has returned to correction territory (10% down from previous peak) for the second time in six months. The underlying causes are familiar: China market worries and deteriorating oil prices. 

The impact on commercial real estate sales transaction flow is largely anecdotal, as it is too soon to measure the overall impact. We have already seen credit spreads expand in the last week, primarily from higher leverage conduit and bridge lenders, and this is on top of significant widening that preceded it in the last six months. The fear is that continued volatility could slow capital flows from the oil-based sovereign wealth funds and China, where the potential for capital export controls is a significant concern. Recent changes in Federal tax law (FIRPTA) encouraging more foreign pension fund investment into commercial real estate, while a positive, is too new to likely have any immediate impact. 

What happened and what might we see next? 

      1. Oil. On Tuesday, the price of a barrel of oil briefly fell below $30 a barrel and is now hovering near that level. Defining the economic impact of collapsing oil and commodity prices is complicated. As we noted in December on our Flash Call, the distress is concentrated in the oil business and is partly counterbalanced by the beneficial effects of low oil prices on consumers and manufacturers. The stimulus effects of low gasoline prices on consumers is significant, but is now being tempered by the negative "wealth effect" of a falling stock market.​ 
      2. China. The continued weakness in the Chinese stock market (Shanghai composite is down 15% year to date) has heightened concerns that the Chinese economy may be in for a hard landing. As noted by our colleagues in China last week, evidence of this includes weakness in the manufacturing sector and further weakening of the Chinese currency. These factors, combined with the unintended consequences of Chinese government intervention in the market, has investors on pins and needles. Despite broader pullbacks in world and Asian markets, however, the Shanghai composite was up about 2% on Thursday and our colleagues in China expect this recent volatility to have limited, if any, impact on the Chinese real estate markets though it may impact the flow of Chinese capital to the U.S. While further bad news from China is likely and will cause more global volatility, we still believe these are the growing pains of an economy in transition.​ 
      3. Emerging Markets. Investors are paying special attention to emerging-market economies that have been hit by the double impact of weakening demand for their commodity-based exports (which in turn has collapsed their currencies) and significant corporate and sovereign debt, much of which was issued in U.S. dollars. As was the case in 1997/1998, the likelihood of emerging-market debt defaults is something to keep an eye on.​ 

What might we see next? As with the August 2015 stock market correction, the recent volatility has gotten close attention from the Fed. The likelihood of the Fed actually reversing course along the lines of what the ECB did in 2011 (raised rates then reversed quickly) is unlikely; more likely is a deferral of rate increases until later in 2016. While we always expected the interest rate rise to be slow, after this week's volatility and weak oil prices, it will likely be slower than initially thought. Famous money manager Mohamed El-Erian noted on CNBC yesterday that we may be in for continued volatility as the Fed has limited options due to the ballooning of its balance sheet to trillions of dollars and the already-low level of prevailing interest rates. Until oil prices and China stabilize, short-term volatility is likely the new normal.​


Spencer G. Levy | Head of Research 

CBRE | Americas Research
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