March Madness
Bonnie Murray, Founder & CEO, Raccord, Inc.
April 15, 2023
Only persistently high inflation coupled with the collapse of a SIFI, or three or four, systemically important financial institutions, would warrant a castle move by the Fed. The ninth rate hike of this cycle, bringing the benchmark rate to its highest level since 2007, was brushed aside in favor of more exciting action enshrouding the global banking sector and upending the capital markets. With a wave of the wand, universal deposit insurance brought ease to an industry rife with risk taking and moral hazard, to solve today’s problems. The consequential effects of market psychology and significantly tighter lending standards, which will likely remove 50 bps from GDP this year and wipe out the effects of rate increases of the same size, have sent shock waves throughout every corner of the investment world. We’re only beginning to see the workouts, delinquencies, defaults, corporate bankruptcies and earnings impact. If you ask ChatGPT the effects, trained on trillions of words of training data, the response is fairly ambiguous.
The credit markets offer a glimpse of the fractured landscape. The number of loans maturing in commercial real estate alone over the next 24 months points to an arduous road ahead. We’ve already seen well respected institutions hand the keys back to the bank on outdated assets. The amount of unhedged, floating rate debt, particularly in the multifamily and single family home market is staggering. First Republic disclosed their fair market value of their real estate loans were $19 billion below carrying costs, essentially wiping out all of the bank's shareholder equity, exposing the fault lines in the securitized loan market and poking the sleeping bear. The government's intervention in the sale process is eerily similar to the back door negotiations of Bear Stearns and Washington Mutual in 2008. The lesson from that time was where there is one, there are many.
The confluence of macro headwinds weigh heavily on the CRE industry in the midst of its own transformation, where massive challenges exist that conflate a number of economic and social issues. The profound shift in what the future of work and physical space looks like and the capital requirements needed to address this is highly complex and will require collaboration on the part of the private sector and government, slowing the pace of progress. Change is inevitable, growth is optional. The more existential crisis is the role physical infrastructure plays in climate change and inequality, necessitating innovative solutions for the industry to become net positive, all within the confines of economies that have expectations for unlimited growth on a finite planet.
These times do in fact present an unconstrained market opportunity across the technological landscape to solve big problems through creative solutions. We’ve only begun to touch the surface with OpenAI and Wolfram Alpha. However, many decision makers fail to focus on outcomes, taking respite in their comfort zones where loss aversion, one of the most potent cognitive biases, takes control. Albert Einstein said it best, “the definition of insanity is doing the same thing over and over again and expecting different results”. As founders, we learn through practice, not in theory. We repudiate the standardization covenant which is the cultural notion that we must have a rigid goal with a linear progression to ensure stability rather than creating the circular flow of test, fail, iterate, learn which defines innovation. True entrepreneurs challenge the cultural norms to optimize for the future, having a complex circuitry, where we’re wired to step outside the walls of comfort. We understand that limitations are a product of the mind and humans are at their best when immersed in something challenging. We begin our journey in a corner where there is no market and there is no roadmap, stretching our mind to its limits. Jeff Bezos once said “Innovation requires a long-term willingness to be misunderstood”.
