The COVID-19 crisis has brought with it a lot of uncertainty and very uneasy market shifts. The economy appears to be getting closer and closer to a much larger downturn. The real estate market might be heading for its own crash. In times like these, it is often helpful to look at what the most successful investors are doing to see if there is something that we can learn. What is real estate investor Sam Zell doing to prepare for a real estate market downturn?
Who is Sam Zell?
Sam Zell is one of the most successful real estate investors of all time. The crafty 78-year-old is currently worth almost $5 billion. One of his first business ventures was reselling playboy magazines to his friends as a kid. He made most of his fortune through his investment firm, Equity Group.
He has a great autobiography that I would recommend that anyone even sort of interested in real estate should read. The book is called Am I Being Too Subtle? which is also the phrase that he likes to end any of his deal pitches with after he finishes explaining his plan. It was on my top 10 book list that I posted recently. You get a lot of his blunt humor and his core business philosophies in the book. It’s definitely worth picking up.
Sam Zell the Grave Dancer
While it invests in all sorts of different ventures, Equity Group historically has invested primarily in real estate, with a particular focus on office buildings. Though this is not to say that the firm does not invest in other types of real estate; in recent years Zell’s firm has bought some mobile home parks to add to the portfolio. Zell calls himself a “professional opportunist.” His competitors call him the “grave dancer,” another name he gave to himself.
Just before the 2008 crash, Zell sold the main office building arm of his company, Equity Office, for $39 billion. Many of those properties were under water just a couple of years later. Needless to say, that deal worked very well for Mr. Zell. The subsequent owners entered the graveyard.
Equity Group Has Sold Off Dozens of Properties in Recent Years
Zell purchased a REIT, Equity Commonwealth, back in 2014. He has raised $3.4 billion from selling 150 office properties since then. Equity Commonwealth only owns five properties at the moment.
Zell obviously thought it was worth cashing out of those deals and taking home handsome profits. With so much cash, it seems like he is poised to perform very well into and through a market downturn. But what would trigger a real estate downturn in the first place?
What Could Cause a Real Estate Downturn?
The government has ordered quarantines in many states. This, and the ongoing global health crisis from the Coronavirus, is threatening many people’s jobs. If people start losing their jobs, tenants will be unable to pay rent. Rents will likely drop significantly if that happens.
For highly leveraged deals, even a small dip in rent could spell disaster. Real estate has been relatively expensive in recent years, and rents have risen quickly in many areas. A sudden shock to the market by removing many viable tenants could trigger a downward spiral.
Those investors who are not over-leveraged will be in a much stronger position. They ideally will have cash to pounce on those deals that foreclose or that sell to cut losses. And then the cycle would start over again.
There is also a chance that lenders will be able to forgive or extend loan payments given the current situation. This would probably only happen with significant government action via a comprehensive stimulus program, though one has yet to be enacted. If a strict quarantine is enforced without government assistance so that people and businesses can continue making loans and rental payments, one would think that things will get much worse very quickly.
What’s Next for Sam Zell?
Time will tell. It depends on how aggressive Zell and his team want to get. Now nearing his 80s, Zell is presumably in a very different stage of his career than many years ago, but opportunities may be too irresistible for the savvy investor. What’s the harm of another solid real estate deal, after all?
What we do know is that Zell has a mountain of cash that he can easily deploy on distressed properties should they arise. Whatever the result, cash heavy opportunists like Zell will be in a very good position if the market turns south.
So, what can we learn from all of this? Cash reserves are important. Not only do they protect an investor in a downturn from defaulting on loans or other obligations, they give an investor a powerful tool to go on the offensive. Sam Zell is fairly insulated from a lot of the current market uncertainties because of liquidating his previous investments. He is simultaneously well equipped to start scooping up properties in the near future.
This is not to say that cash is king, but having some cash is vital. Not only is cash a defensive measure, it is offensive. Without cash, especially if creditors get worried about market conditions, an investor will have few options for actually acquiring good deals. It will be interesting to see how Sam Zell utilizes his position.