INSIDE ECONOMICS

Mark Zandi:                      Welcome to Inside Economics. I'm Mark Zandi, the Chief Economist of Moody's Analytics, and I am joined by a number of folks. So let's just introduce the line-up. We got the regulars, my two co-hosts, Ryan Sweet and Cris deRitis. Hi, guys.

Cris deRitis:                       Mark.

Ryan Sweet:                      Hey, Mark, I'm proud of Cris. He's getting used to this casual look now. He does have black T-shirt in honor of a Black Friday here.

Cris deRitis:                       So yeah, there you go.

Mark Zandi:                      Oh. You're talking about the stock market?

Ryan Sweet:                      Yeah, well, markets in general, right?

Mark Zandi:                      Yeah, markets in general. We got to come back to that for sure. But yeah, he does look a little casual, but no matter what Cris wears, he looks good. Have you noticed that, Ryan?

Ryan Sweet:                      Yeah. He wants to be the first economist on the cover of TQ.

Mark Zandi:                      Is that a possibility?

Ryan Sweet:                      I doubt it, but there's always a possibility.

Mark Zandi:                      Is TQ still that Magazine?

Ryan Sweet:                      Have you been on there already?

Mark Zandi:                      Oh, actually I got a great story. I got a great story. Let me introduce the other two guests, okay, before I tell you the story, because you absolutely will not believe it, if you're watching this on YouTube and you see my hairline. But I'm going to tell you anyway, we got Janice. Janice Stanton. Janice is with Cushman Wakefield. Good to have you, Janice.

Janice Stanton:                Good to be here, Mark.

Mark Zandi:                      And Janice and I think we go back, I'm not going to even say how many years.

Janice Stanton:                I think we were one of your first clients, and we take full credit for recognizing the brilliance early on, right? So.

Mark Zandi:                      I can't remember what the project was, but I just remember it was a great project. I don't know, I have this warm, fuzzy feeling about this project I did with you. Was it a good project? I can't remember.

Janice Stanton:                Yeah, it was risk adjusted cap rates with Susan Wachter, and professors, and real estate and...

Mark Zandi:                      Yeah. With Susan Wachter of course, who's well known real estate professor at Wharton, University of Pennsylvania and a good friend too. I don't think we've gotten her on the podcast, but we definitely should get her on the podcast.

Ryan Sweet:                      Yeah, absolutely.

Mark Zandi:                      Yeah. It's the first time I crossed paths with Susan too, I think in that project. That was interesting. Yeah. Yeah.

Victor Calanog:                Mark, was your reaction, "What? How do you guys measure cap rates, really?"

Ryan Sweet:                      Yeah, right. Something to that effect, I think.

Janice Stanton:                It was like, "Why is the data so bad?"

Mark Zandi:                      Yeah, "What's going on there?" And of course, you heard the voice of Victor Calanog. Victor, how are you?

Victor Calanog:                Good, Mark. Thanks for having me today.

Mark Zandi:                      And actually, I'll have to say Victor, you look better than Cris. I don't know what you guys think, but man, he looks really sharp.

Ryan Sweet:                      Sharp.

Mark Zandi:                      Yeah.

Victor Calanog:                I was going to go for the cover of Muscle and Fitness, but that would mean less clothes I think, than we would allow.

Ryan Sweet:                      Okay, let's not go there.

Mark Zandi:                      Let's not go there. Let's not go. The obvious, Janice and Victor are experts in the commercial real estate world, and we're going to obviously do a deep dive here into the CRE world. A lot going on there and a lot to contemplate both in terms of what it means for the CRE market, but what it means for the broader macro economy. But before we do that, we do need to talk about what's going on in markets and... Oh, I wanted to tell you the story though because actually I'm somewhat proud of this.

Ryan Sweet:                      Do you still have it framed? Do you have it framed? Because I know what story you're going to tell.

Mark Zandi:                      I think it's probably in that office I don't really use.

Ryan Sweet:                      Okay.

Mark Zandi:                      It may be there. So I was in FORTUNE Magazine as one of the sexiest economists in the world. I'm not kidding. And this is 30 years ago.

Cris deRitis:                       That is a pretty low bar.

Ryan Sweet:                      Yes.

Mark Zandi:                      That's what I said. That is so true. That is so true. That's what I said. I go, "Really?" And I can't remember who, they had a three, or four, or five economists, so that's when I had some muscle mass, Victor.

Cris deRitis:                       You should be proud of that. Two words that don't ever go together. Sexy and economist. So.

Mark Zandi:                      It's so funny. That is so funny. Anyway, that's my claim to fame. Let's talk about the markets. And Cris, you want to give us a sense of things? What markets are doing? Why? and what potentially the implications are?

Cris deRitis:                       I believe the term you used earlier was markets are losing their mind and I think that's pretty apt.

Mark Zandi:                      Hair on fire.

Cris deRitis:                       Hair on fire, right? So, all over the place. It seems as though investors are selling assets, right? So the stock market is down S&P 500, Dow Jones, take your pick. They're all down. Bond yields are up, right? So people are selling off their bond assets as well or requiring a higher yield. So there's a general risk off approach here. Fear all around of recession. The most obvious trigger of course, is the Fed statement earlier this week, Fed action of 75 basis points, a hike was well known, well communicated, so I don't think that was the reason why folks are taking on this attitude. It's more the statements and the dot plots that Ryan will certainly get into, indicating that the Fed certainly has a more pessimistic outlook here, suggesting that rates will be higher for longer, making that very concrete.

Cris deRitis:                       I think if you've been paying attention, you've noticed that Powell has been very hawkish, but now he's really trying to send that message over the banister to everyone in the marketplace. And I think finally, folks are taking the message to heart. You also have geopolitical risk of course with Russia, Ukraine still particularly escalating, perhaps as well with the call up of Russian reserves. So lots of things to be fearful of all the way around. So I think that's what's going on in the marketplace today.

Mark Zandi:                      Yeah. Janice, what is your official title at CW?

Janice Stanton:                Executive managing director of capital markets.

Mark Zandi:                      Capital markets. And so you're looking at the CRE market, the commercial real estate market through the prism of capital markets, debt and equity capital that drives investment in CRE all over the world. In fact, we've been trying to get you on this podcast for a long time, but every time we think we've got you nailed down, you're in some other part of the world, which we'll come back to. But is the CRE capital markets in turmoil as every other market appears to be?

Janice Stanton:                It's not great.

Mark Zandi:                      Yeah.

Janice Stanton:                I felt a lot better frankly, before Cris went through that litany of things going on today. But I think what we're seeing in the commercial real estate markets is the fundamentals are actually pretty decent. But because of what's going on in interest rates. And if you're a borrower and most people who buy commercial real estate are levering, not only are your LTVs are down, but based on everything else Cris is talking about, your borrowing costs are up couple hundred bids. And as a result, people have pushed to the sidelines. August trades are down 40% year over year, and that's after a great first half of the year because people are just trying to absorb what's going on and then figure out what they want to do right now. So there's definitely been a dislocation of the market, but what's happening, unlike where you always get trades in the stock market or in the bond market, you're getting a bid ask spread, you're getting a 10% to 20% bid ask spread where some of the sellers are going, "You know what? I'm going to wait it out and see what happens."

Janice Stanton:                So more than anything, there's a lack of transparency. Which is funny because when you read the reports, someone will say, "Oh cap rates are down." And you're like, "What?" Because it's just the transactions haven't necessarily cleared the market in that specific property type or location. But everyone is feeling the pinch of higher borrowing costs.

Mark Zandi:                      So let me just translate that a little bit to the listener. So my translation of some of what you said is the capital flowing into the commercial real estate market is gone to the sidelines, the investors have gone on the sidelines because of this broader turmoil and markets, the Fed tightening, the run up in interest rates, both short and long-term interest rates. And you're not actually seeing that yet in terms of prices paid for real estate because in a real estate market, you might not get a transaction. The seller is still thinking, "Oh well, the price is what it was a few months ago before this mess started." The buyer says, "No way, it's a lower price." So you have this big, what you call bid ask spread.

Mark Zandi:                      There's no meeting of the minds here so no one is signing on the dot line. So until that happens, we don't get real clarity with regard to where prices are in commercial real estate market. Very different than a stock market or a bond market where it's transacting all the time. It's a very liquid market and you get price discovery very quickly. You don't see that in the CRE market. Did I get that roughly right?

Janice Stanton:                Yeah. I'd like to take you to investor meetings.

Mark Zandi:                      Oh there you go. Okay. I got a job.

Janice Stanton:                It's like real English.

Mark Zandi:                      Yeah. That makes a lot of sense. So Ryan, it feels like the Fed, and maybe you can give us a sense of your interpretation of the Fed meeting that happened this past week and what the Fed's saying to us. And then I want to go next to long-term interest rates because there that's been pretty dramatic in the last few days and I want to talk about that a little bit. And that obviously matters a lot for pricing all assets including office buildings and other commercial real estate. So what's your take on the Fed meeting?

Ryan Sweet:                      So all the turmoil and financial markets started after the Fed meeting. And the takeaway from the September meeting, as Cris alluded to, the increase in the target Fed fund rate by 75 basis points wasn't surprising. They barely tweaked the statements and nothing surprising there. It was the summary of economic projections where each participant submits their forecast for GDP, unemployment, inflation and policy rate. So the so-called dot plot. And that was a significant increase between the last meeting they had which I think was in June.

Ryan Sweet:                      So they're now signaling the terminal Fed funds where it's going to peak this cycle, where they're going to most likely stop tightening is 4.6%. That's much higher than what the market was anticipating. They were thinking 4%. It's almost more than a full percentage point higher than what's in our September baseline. So basically the takeaway, and if reading between the lines and the tea leaves is, they'll stomach a recession if it brings inflation down, and that's the general takeaway. If you look at their forecasts, if the unemployment rate increases by 60 basis points between this year and next year, and as Cris has pointed out, that's always coincided with a recession. So basically, the Fed is signaling we're likely going to go into a recession and that's really affecting market sentiment.

Mark Zandi:                      Yeah. So that all makes sense. It feels like it's right on the line.

Ryan Sweet:                      Yeah, we're going to flirt with one.

Mark Zandi:                      We're going to flirt with one.

Ryan Sweet:                      It can be uncomfortable. And that's what Powell has been saying. He's like, "This is going to cause pain. If inflation doesn't come down, it's going to inflict more pain." They are laser focused on bringing inflation down at any cost.

Mark Zandi:                      Right. And so what's happening now is that stock investors are digesting that recession now or really, a really tough economy is much more likely the Fed is going to live with that and to get inflation in. And therefore, we're seeing all this red on our screens right now.

Ryan Sweet:                      Yeah, basically what the market is saying is that there's still a path to a soft landing and a soft landing is when the Fed brings inflation back down to target, we avoid a recession. So that's the best case scenario. That path is narrow, and getting narrower and narrower after each FOMC Meeting.

Mark Zandi:                      Yeah. Okay. I will point out that with even right now I'm looking at the decline in the market, I think we're down a couple of percentage points from where we were yesterday. We're still only down, only, but we're down 22% from the old time high that was hit back at the beginning of the year. And that's also sort of consistent with recession but not quite, right, it's right on the line. Because if it were a recession, we'd probably be down closer to 30%. Is that fair to say?

Ryan Sweet:                      Yeah, I think that's fair.

Mark Zandi:                      Okay.

Ryan Sweet:                      Your favorite indicator, the yield curve, the difference between a 10 Year and a 2 Year is among the most inverted since yield curve, and it's been inverted for a long time. So if you're a yield curve believer, that's pretty much sending us very strong signal that the bond market at least-

Mark Zandi:                      That's why I've been more focused as you know, Ryan.

Ryan Sweet:                      You're moving the goalpost here.

Mark Zandi:                      Or the other yield curve, the 10 Year versus the Fed funds rate, the policy yield curve, which has not inverted.

Ryan Sweet:                      It has not.

Mark Zandi:                      And it gets to my next question to you, and it goes back to cap rights and pricing in the real estate market, the 10 Year yield, have you noticed what's been going on there in the last couple days of the 10 Years? It's has gone straight up. I'm looking at it now, it's a 3.7%, right? So-

Ryan Sweet:                      Exactly. If you decompose it into the three components, which is inflation expectations, long run inflation expectations, they haven't budged. It's the expected path of the real Fed funds rate, that adjustment occurred after that FOMC Meeting when they signal... Basically the bond market is taking the Fed at its word and saying that the terminal rate is going to be 4.6% if not higher, because there's five or six Fed officials that were saying that their dots are even higher than 4.6%. So some have been arguing, we might have to get up to 5%. So I think the market's trying to assess where's the ceiling on the Fed funds rate this cycle.

Mark Zandi:                      One other thing I'll throw in the mix, I was just talking to a really good bond trader. He pointed out that the Japanese, they're intervening in markets, right, you saw that, right? They're trying to defend the yen because the value of the yen has fallen through the floor here, which I find a little bit perplexing why they feel that's a big deal given they've been trying to get inflation up anyway. But regardless, and that means that the Japanese are selling treasury, buying yen in that effort. And that's one of the reasons why we're seeing what we're seeing in the long term bond market. I thought that was interesting.

Ryan Sweet:                      Yeah. Most likely it's going to show up in the term premium, which is a needed component for the 10 Year. Yep.

Mark Zandi:                      Yeah.

Ryan Sweet:                      This week, there's a lot of central banks who made decisions. The Bank of England, a number of central banks in Asia. Everyone is being pretty aggressive, but interest rate differentials or real interest rate differentials are strongly in favor of the US. And that's why the dollar is not just against the yen, it's against almost everything. It's just appreciating very, very quickly.

Mark Zandi:                      Right. Hey Victor, you must watch the bond market here pretty carefully because it's going back to cap rates and valuation pricing in the CRE market. Do you have a take on what's driving this? Obviously, if Fed is on the war path, then that's contributing. But it feels like long term rates are rising faster than you would've expected even given that. But is that your interpretation? Do you have some view on what's going on there?

Victor Calanog:                I agree with everything that's been said so far about the underlying drivers. But if we bring it back to how that might map out our cap rates and our cap rate projections for commercial real estate is that I do think that, Janice keep me honest here, January and February, we were still hopeful that though we were anticipating interest rate increases from the part of the Fed that cap rates would at least absorb it from a spread point of view as long as 10 Year treasuries did not rise as quickly as they ended up doing.

Victor Calanog:                I know there are some property types and some geographic markets where cap rates have trended very, very low, just pretty much correlated where interest rates where going, but there was still a little bit of a spread. Now as it turns out, if we're using the 10 Year Treasury as your risk free rate for a lot of 10 Year hold periods for assets like multifamily in office where you're looking at very, very little spread and you got a lot of asset classes that have been trading at 4%, or 5% caps or below, where there's nothing and now there's upward pressure in cap rates will really likely result in an interesting situation between buyers and sellers where they go, "Yep." Janice, what do you think?

Janice Stanton:                Yeah. You hit the nail in the head there. The issue really is, with all this volatility, the people who aren't trading this bid ask spread, it's not that all of them are in denial, right? A lot of them are thinking, "Hey, the Fed is going to get inflation under control, and then things are going to restabilize, the curve is inverted. So maybe long term rates will be lower." So they're just saying, I will either buy cash and finance it later, right, or I will hold on because I don't want to mark to market at a very high borrowing cost. So maybe I'll wait a year, maybe I'll wait two years. So that bit ask spread isn't necessarily like, "No, I can't hear you. I know rates are higher, I refuse to acknowledge it." It's, "What's the best thing for my portfolio?" And maybe it's just buckle off then wait a bit.

Mark Zandi:                      Yeah.

Victor Calanog:                And I think that is part of what complicates this particular asset class, right, it's an income generating asset class. And as Janice noted, for multifamily warehouse distribution, sure, office under ropes along with retail. But for multifamily and warehouse distribution, they haven't gotten the memo that there's all this volatility. You've got a good amount of rent growth, decent occupancy. I do know that there are some headwinds in the horizon. Amazon is out there basically saying they're going to lease a bunch of their warehouse. I'm not saying everything's peachy, but by and large if they lease through the second quarter and we're processing third quarter data soon, rents and vacancies are holding steady.

Mark Zandi:                      We'll come back to that.

Victor Calanog:                Yep.

Mark Zandi:                      And just one other sidebar to get the listener to catch up if they aren't following along. We're throwing around the word cap rate, capitalization rate, it's short for capitalization rate. And that's simply a discount rate. So just think about the price of the real estate that's equal to the stream of rents that are produced by that real estate, that's what Victor is calling the income stream and then you just divide by the discount rate. So if cap rates are low and falling, almost being equal with that rent stream, that means prices are going higher, that kind of thing. So lower cap rates synonymous with higher prices relative to rent growth.

Mark Zandi:                      There's a couple other things I wanted to explore before we move on more in depth into the CRE market. And I'll turn back to you, Cris, is around mortgage rates. And we've been having this discussion around mortgage rates. Now I'm talking about not commercial mortgage rates, residential mortgage rates for a single family home. And last I looked, and I didn't look today, I'm scared to look to tell you the truth, but-

Ryan Sweet:                      I'll look it up for you.

Mark Zandi:                      Oh please don't. I think it was 6.4%, or I think that's what I saw yesterday. The record low back a little over a year ago was 2.6%, 2.65%, so they've come up a lot. But the mortgage rate, that 6.4% is risen even more than the long term treasury yields. The 10 Year is up a lot, we just talked about that. But even mortgage are up even more than that, which obviously is doing a lot of damage to the single family market, I guess to some degree, to the benefit of the multifamily market. But Cris, do you want to explain what's going on there? Why is that mortgage rates are going up so much more than at least historical norms compared to a 10 Year Treasury yield than has been the case historically?

Cris deRitis:                       Yeah, I just looked it up here. Google says 7%, so it's-

Mark Zandi:                      You're looking at the wrong one, man. I look at Mortgage News. Is it Mortgage News? I think we should look? I'll look it up while you tell me what is going on.

Cris deRitis:                       It's going north here. It's rising. And I think it's endemic of... There are several components here. One is just the volatility in the market today, right? So rates themselves, if you look at MBS or mortgage back securities, right? At the end of the day, the price is set by supply and demand factor. So if the rate is going up, it means that you have more limited demand out there relative to a certain level of supply, right? So I think that's a fundamental reason. But then why is that the case? Well, you have issues around the prepayment option that mortgage borrowers have when they borrow money and at these higher levels, perhaps there's a higher chance of prepayment in the future. So the MBS investor has to account for that.

Cris deRitis:                       You have that volatility I mentioned, right? So clearly in these times of extreme movements, the investors also have to account for that in bidding up the spreads, so I think those are the main components that we have here. And it's just a weird time in terms of the yield curve inversion. A lot of the models are going to produce results that require or suggest that we need a higher yield in order to make the math work here. So I attribute this excess spread that we're seeing between the mortgage rate that borrowers are paying and the 10 Year Treasury. Do these really allow these movements in the markets themselves? These dislocations in the markets?

Mark Zandi:                      Yes. My go-to for realtime mortgage rates is Mortgage News Daily, it's a website. And everything has a blemish to it, but I think this is a pretty good place to go. 6.62% as of a minute ago, 6.62%.

Ryan Sweet:                      Headed toward seven.

Mark Zandi:                      Yeah. Headed toward seven, right? And of course, hard to argue with Google. The one thing that makes me a little nervous about the mortgage rate in this argument that is based on volatility in interest rates, which I think you did a pretty good job of explaining it, no reason to go down that path again because I'm not going to explain it any better. It's very complicated. But in a bond market world, it doesn't feel like that's going to go away, that volatility in those high mortgage rates until the Feds are no longer on the war path here. As long as the Feds are on the war path, and there's a lot of uncertainty with regard to where that ends, how high are they going to push short term interest rates and how long are they going to keep them there, the volatility is going to remain in the market. As long as that volatility remains in the market, mortgage rates are going to remain very high. Would you agree with that?

Cris deRitis:                       I would. And then if you throw in the mix the cloud state of tightening, with the Fed not purchasing mortgage back securities anymore, right, that's at least one source of demand that's no longer there. Even if they're not selling actively, they're not supporting that market either. So there are a number of things probably we'd see the spreads widening out even without this latest amount of volatility. This is just an accelerator.

Mark Zandi:                      Yeah. Well, for it to-

Ryan Sweet:                      Well hopefully, it would increase, the Fed doesn't opt to sell MBS.

Mark Zandi:                      No, they won't. No, I can't imagine that. Yeah, mortgage is huge

Ryan Sweet:                      They were talking about it. Never say never, right?

Mark Zandi:                      No, but Powell is pretty explicit. I thought he was pretty explicit in press conference after the meeting.

Ryan Sweet:                      Oh yeah. Yeah. I think now it's less likely.

Mark Zandi:                      Yeah. Okay.

Janice Stanton:                That's great for the multifamily market.

Mark Zandi:                      Yeah.

Janice Stanton:                Even before the rate hike, when we look at it, we cover 50 markets. And then we do a comparison between, is it cheaper to rent or is it cheaper to own? And before the rate increases started, it was cheaper to rent in 20% of the markets. And then when rates started to go up, it became cheaper to rent in 66% of the markets, right? And with this, you're just pushing that number up, which is actually very good for the fundamentals of the multifamily investment market.

Mark Zandi:                      Which is saying a lot given how strong rent growth has been, right? Geez, Louise. We're going to lose Ryan in not too long from now. So before we lose him, two things. One, a question to you, and then I want to play the statistics game and then we're going to dive into CRE in more detail. Financial conditions. So the link between what the Federal Reserve is doing with regard to interest rates and the impact on the economy runs through financial markets and the financial system more broadly. We talked about stock prices, we talked about long term interest rates, I think we alluded to the value of the dollars, it's very strong, credit spreads in the bond market. Given the sell off in markets, which represents a tightening in financial conditions, meaning it's going to weigh on the economy more significantly. Do you think markets are now where they need to be to slow the economy sufficiently to bring inflation in, or is there more to go here in terms of the tightening that needs to occur?

Ryan Sweet:                      I think there's a little bit more to go. Not too much, just a little bit. And it affects the economy with a lag. So the tightening that we're experiencing today may not necessarily affect the economy until sometime next year. There's been a lot of tightening financial market conditions. It's going to weigh on the economy in the first half of next year, and that's what Fed wants, they want the economy to be growing below its potential roughly 2%, 2.5%, say on GDP growth persistently below that threshold to cool off the labor market, take some heat off wage pressures, and then by extension, that should help bring down some of the inflation that we're experiencing.

Mark Zandi:                      Okay. All right. Let's play the statistics game. We each provide a statistic, the rest of the group tries to figure that out through questions and clues, deductive reasoning. The best statistic is one where it's sounds so easy, we get a slam dunk, not too hard that we never get it, although that's pretty tough to do. If you can thread that needle, you're really good at this game. And if it's relevant to the topic at hand, that's even better, or goes to a relevant statistic, something out there in recent environment. I'm going to go easy on the guests at first. Well, I'll turn to you and see if you want to play, but just so you see how the game is done, I'll go to Ryan first. Ryan, you want to go first?

Ryan Sweet:                      All right. I got two for you, and they're related. 355,000 annualized and 55%.

Mark Zandi:                      355,000. I want to say job growth for the month of August, but it was 315,000. So it's not job growth, this is job related?

Ryan Sweet:                      It is not job related.

Mark Zandi:                      Construction number?

Ryan Sweet:                      We were getting closer.

Mark Zandi:                      Permits?

Ryan Sweet:                      Getting warmer?

Mark Zandi:                      355,000.

Ryan Sweet:                      Besides permits, what else is there?

Mark Zandi:                      [inaudible 00:28:57].

Victor Calanog:                Starts.

Ryan Sweet:                      Yeah starts, okay, 355,000.

Mark Zandi:                      But-

Ryan Sweet:                      You guys are getting close.

Mark Zandi:                      Well, you said annualized, 355,000. Is that permits for multifamily?

Ryan Sweet:                      It is not permits.

Mark Zandi:                      No.

Victor Calanog:                Starts for multifamily, Is that right?

Mark Zandi:                      It was that? Oh, okay.

Ryan Sweet:                      I go deeper. I go a little deeper. This is the highest since 1985.

Mark Zandi:                      Oh, this is 4+ or 5+ units or something. [inaudible 00:29:28]

Ryan Sweet:                      Mm-mm.

Mark Zandi:                      No? Okay.

Ryan Sweet:                      Mark, what's our bread and butter?

Mark Zandi:                      Bread and butter.

Ryan Sweet:                      Regional.

Mark Zandi:                      Oh, regional. Oh right.

Ryan Sweet:                      Here you go. You get it.

Mark Zandi:                      Yeah. Yeah. Okay.

Ryan Sweet:                      I said what region-

Mark Zandi:                      The west? South? North? East? West?

Ryan Sweet:                      There's only four. So we'll get there. It's multifamily starts in the south. It's the most in since 1985 and they count for 55% of all multifamily starts, which is roughly, they're usually between 50% and 60%. But that's a lot of multifamily starts in the south.

Mark Zandi:                      Yeah. Your point being, we're getting a lot of multifamily construction.

Ryan Sweet:                      Yes.

Mark Zandi:                      Yeah.

Ryan Sweet:                      So overall, housing starts unexpectedly increased in August. And it was mostly because of it's and multifamily. It was all multifamily.

Victor Calanog:                Yeah.

Janice Stanton:                And the rent growth, right, it was 12% rent growth last year.

Mark Zandi:                      Yeah. Even with all that construction, we're still have pretty close to record low vacancy, right?

Ryan Sweet:                      Yep. Yeah.

Mark Zandi:                      And as you point out, rent growth is double digit. So you could argue we need even more multifamily. I would-

Ryan Sweet:                      Mm-hmm.

Victor Calanog:                The chain of causality may well be strong rent growth, low vacancies, developers responding. Just like that Kevin Costner movie, right? If you build it, they're going to come because low vacancies and high rent growth.

Mark Zandi:                      Yeah. And what was that movie?

Ryan Sweet:                      You lost Mark on that one. He has no idea.

Mark Zandi:                      No, no, no. That's one of my favorite movies, The Natural. No? No, that's-

Victor Calanog:                Field of Dreams. Field of Dreams.

Mark Zandi:                      Ryan's, right? Yeah, I'm not part of the pop culture, but I like that movie. I liked The Natural better than I like the Field of Dream. That's a good movie. Except when he starts bleeding at the end. Remember, it showed through his suit-

Ryan Sweet:                      But he hits the home run.

Mark Zandi:                      Yeah, I know. But it made no sense that the internal bleeding would be... Anyway, we're getting off track. But that was a good statistic. That was a really good one. Even though no cowbells with that one. Oh, and I should say, guys, if you show yourself admirably here and if you get the statistic, you get a cowbell. Well, we've got cowbells. Yep. Absolutely. They're pretty cool. All right, Victor, you want to play or?

Victor Calanog:                Sure. Absolutely.

Mark Zandi:                      Okay. Then You fire away.

Victor Calanog:                I have a number for you, 102.3%. The first time this number crossed 100% since the COVID pandemic began.

Janice Stanton:                TSA traffic Labor Day.

Victor Calanog:                That's exactly right, September 3.

Mark Zandi:                      Oh my gosh.

Janice Stanton:                I deserve a cowbell.

Mark Zandi:                      That is definitely a cowbell.

Ryan Sweet:                      That's awesome.

Victor Calanog:                That is exactly right.

Mark Zandi:                      That's Huge. Oh my gosh.

Ryan Sweet:                      There was no hesitation.

Mark Zandi:                      There was not even a-

Cris deRitis:                       No, none.

Ryan Sweet:                      Uh-huh.

Victor Calanog:                It was big, right? I mean, Janice, we were all a go about this and yeah.

Mark Zandi:                      Collusion. I feel collusion.

Ryan Sweet:                      Yeah, I bet. Let's do an investigation.

Janice Stanton:                I was just going through all of the habits that we've returned to post pandemic versus what's happening in the office market. And that was one of the metrics I was looking at.

Mark Zandi:                      So cool. That is one... The number of people go through TSA pre-check is now a bit higher than it was at this point in the year, just part of the-

Victor Calanog:                Well, that was the number for September 3. Now-

Janice Stanton:                Yeah. Labor Day. Yeah.

Victor Calanog:                It oscillates. And we're still at around 98%, 97% after that, which... You know what, I'll take it, right?

Mark Zandi:                      Yeah.

Victor Calanog:                It's been going up and down because of all the variants. But it was the first time we crossed 100%.

Mark Zandi:                      That is really cool.

Janice Stanton:                And it's consistent with also restaurant activity and everything. All of these things are now above pre-pandemic levels.

Mark Zandi:                      Yeah. Yeah. We're back. Yeah.

Janice Stanton:                We're back.

Mark Zandi:                      We're back. We got to talk about remote work, which we'll definitely come back to, because I don't think we're quite back there yet. But what about business travel? Is that back? Is that one...

Victor Calanog:                Yeah. The TSA doesn't really disaggregate that.

Mark Zandi:                      No, but your sense is, is that mostly tourism is stronger than was?

Victor Calanog:                I suspect it's mostly leisure, travel. Janice, you tell me. We were getting less conferences canceled now as opposed to last January, I remember one of my guys went the CREFC Conference in Miami in January, and I told him it was a small miracle that only three of them got COVID. Back then, conferences were still being canceled, now, not so much, right, everybody is pushing through with it, there are protocols, but...

Janice Stanton:                Yeah, now there is more business travel. I'm on the board of AFIRE, Association of Foreign Investors in Real Estate and we had our largest conference since pre-COVID. But I think it's really individual. I called people I work with, investors, brokers in August, I got international ringtones every time I called someone in August, right? So I think there's revenge travel, it's lots of people vacationing, the euro looks great.

Mark Zandi:                      Yep. Yeah, it makes sense. So the Moody's back to normal index though is not back to one. I think it's negative one.

Cris deRitis:                       Yeah.

Mark Zandi:                      Ryan, you have a sense of why? Is it the mobility piece, that they are not back in the office?

Cris deRitis:                       Mm-hmm.

Mark Zandi:                      Okay. We construct this index called the back to normal index, it's compilation of a lot of different statistics, some of which you TSA pre-check, restaurant bookings, Box Office, that kind of a thing, in economic statistics and it's still sitting 90%, 95% of normal.

Cris deRitis:                       I think it's 71%. Yeah.

Mark Zandi:                      91%, right, or 71%? I think it's three things, Cris, one, we have our own business survey, business confidence survey.

Ryan Sweet:                      That's a good point.

Mark Zandi:                      And that has been weak. It stabilized recently, but it's weak. Second thing is we use Ryan's GDP tracker. So what is our estimate of GDP growth in the current quarter? And GDP has been weak, it fell in the first half of the year. So that's also contributing it. There's a third reason... Oh, and mobility.

Ryan Sweet:                      Mobility, yeah.

Mark Zandi:                      Yeah. The mobility. That's weird. That's the Google mobility that track people's moves based on cellphone movements, and they break that down into that related office, or retail, or transit stations, all kinds of different breakouts. And some of the mobility has recovered, but a lot of it hasn't. It's still well below. So it's really odd in that respect.

Cris deRitis:                       Yeah, I think public transit is still way down.

Mark Zandi:                      Yeah. Public transit's way down. Office is down, still way down.

Ryan Sweet:                      Yeah, certainly.

Mark Zandi:                      Yeah. Right. Janice, did you want to go? Do you have a-

Janice Stanton:                Sure

Mark Zandi:                      Yeah, fire away.

Janice Stanton:                What the heck? Okay, so 120% of pre-COVID levels.

Mark Zandi:                      Okay.

Ryan Sweet:                      Is it open table?

Janice Stanton:                No, but it's a little north of a hundred, but it's not open table. It's more specifically real estates. I'm more specifically real estate.

Mark Zandi:                      Oh, okay. Interesting.

Victor Calanog:                Hotel ADRs.

Janice Stanton:                No, but that's interesting.

Mark Zandi:                      Traffic through Times Square.

Janice Stanton:                It has to do with investors.

Mark Zandi:                      Oh, investors. And it's a positive thing that it's 120%.

Janice Stanton:                It's a positive thing it's 100%.

Mark Zandi:                      It's a positive thing. Is it global investors in commercial real estate?

Janice Stanton:                Yes.

Mark Zandi:                      Yes. Okay. It could be something like the amount of, I hesitate to say it because it doesn't feel like it's right, but something like the dollar amount invested in US commercial real estate?

Janice Stanton:                So you're getting close.

Mark Zandi:                      Okay.

Janice Stanton:                So it is about the dollar amount and investing in commercial real estate, but it's not has been invested.

Mark Zandi:                      That has been invested?

Janice Stanton:                It's not has been.

Mark Zandi:                      I'm sorry.

Ryan Sweet:                      Is it dry powder?

Janice Stanton:                Dry powder.

Ryan Sweet:                      Dry powder.

Mark Zandi:                      Dry powder. Oh, I'll see.

Janice Stanton:                So even though we said that transactions were down 40% in August, the dry powder number is 120% of pre-COVID levels which shows an incredible amount of capital on the sidelines waiting for this to sort itself out.

Mark Zandi:                      Okay, that makes perfect sense. Yeah, perfect sense. So you're saying as soon as things look like the Fed's over, the coast is clear, we're on the other side of whatever it is we're in the middle of. There's a lot of money on the sidelines that could come in pretty quickly here. Yeah. Another reason why sellers don't want to sell probably.

Janice Stanton:                Exactly.

Mark Zandi:                      Yeah, right.

Janice Stanton:                Yeah.

Mark Zandi:                      They're saying, "I'm just going to wait for that pot of money to come in at some point." Yeah. Okay. All right. Let's do one more. Cris, you're up.

Cris deRitis:                       Yep. 873,000.

Mark Zandi:                      That's completions.

Ryan Sweet:                      [inaudible 00:38:46]

Mark Zandi:                      No, that's number homes in the pipeline to going to completion?

Cris deRitis:                       What kind of homes?

Mark Zandi:                      Multifamily homes.

Victor Calanog:                Started?

Cris deRitis:                       That's multi.

Mark Zandi:                      There you go.

Ryan Sweet:                      Good job.

Cris deRitis:                       That's multi, yep.

Ryan Sweet:                      Very good.

Cris deRitis:                       That's multi. 873,000 are under construction, right?

Mark Zandi:                      Yeah. And with the single family, I think homes in the pipeline going to completion is actually starting to come off here pretty quickly, I think.

Cris deRitis:                       That's right. Yeah. But 873,000 is a lot record high since 1973, right?

Ryan Sweet:                      Yeah.

Cris deRitis:                       So yeah, that's a lot that could come online and help fulfill some of this deficit that Victor mentioned, so.

Mark Zandi:                      Yeah, I guess one benefit of people losing their jobs in single family construction sites is they can walk across the street and go work for a multifamily developer and get some of those homes completed. Yeah.

Cris deRitis:                       Although the permits are down, right? So.

Mark Zandi:                      True. Yep. All right. Well, that was good. We should move one, right? Yeah, you want mine? I mean-

Cris deRitis:                       Of course, we want yours.

Mark Zandi:                      Really?

Ryan Sweet:                      Yeah.

Mark Zandi:                      You really want mine? Okay, hold on one second.

Ryan Sweet:                      He's got to look one up.

Mark Zandi:                      I got to check. I got to check what it is right now.

Cris deRitis:                       Copper prices.

Ryan Sweet:                      Yeah, I was about to say it.

Mark Zandi:                      No, it's not copper prices.

Cris deRitis:                       $135.

Mark Zandi:                      1.09. 1.09. And I gave you a big hint. I gave a big hint.

Ryan Sweet:                      [inaudible 00:40:06]. It's the dollar against the euro.

Mark Zandi:                      You got it. You got the pound. It's the pound.

Ryan Sweet:                      Oh, the pound. Okay.

Mark Zandi:                      Yeah. There's one British pound, but it's $1 in, at this point, 8.80 cents, $1.088. Has anyone looked the time when the pound got close to parity?

Ryan Sweet:                      Mm-mm.

Mark Zandi:                      I can't remember

Janice Stanton:                In the '82.

Mark Zandi:                      Did you look at it when pound crashed?

Janice Stanton:                I think it was just about pound parity, right?

Mark Zandi:                      Yeah. That's when Soros made all his money, I think on that crash in the pound. And that obviously goes to the fact that while the US, our economy is struggling, the European economy and specifically the UK economy is really, really struggling. I think the recession seems very likely there at some point. And of course, they just got a new prime minister who passed a piece of legislation or is in the process, I guess, of passing the legislation to cap the energy costs for households, because they've been going skyward. Because Europe relies very heavily on Russian energy, and that's been cut off to a large degree and cost prices go north. So, very understandable, right, because low income households are just getting completely hammered. But the complication of that is it's fueling the inflation fire, right, and potentially exacerbating the inflation making it more entrenched and raising the odds that the British are going to get in some stag inflation scenario with persistently high inflation and ultimately a very weak economy. So that's why investors I think in the foreign exchange markets are really having a lot of difficulty with this anyway.

Mark Zandi:                      But the dollar's up against all the currencies, I mentioned the Yen, it's actually beyond parity against the euro. It's 0.969 against the Euro. So the dollar is now stronger than the Euro, and against all currencies it's up quite strong. Against Canadian dollar, the Aussie dollar, it's about 70 cents. So very, very significant. Okay. Let's turn more specifically to the commercial real estate market. And Ryan just signed off, I think he has some child responsibilities. And let's talk, maybe you can talk about the multifamily market first, and I guess to some degree the industrial market. Those are the markets where I guess the fundamentals are better and I guess investors are still engaged. Would that be fair to say, Janice? Is that reasonable statement?

Janice Stanton:                Yeah, so the basic issue with the multifamily market, unlike with industrial or office, is you get to reset your rents every year, right? So to the extent that people are worried about inflation and even if cap rates are going up, if you can reset your income, and if your income is in some sense index to inflation, it protects you against what's happening with borrowing rates, et cetera. I would say that that is in general, and it has really favored the multifamily market. But it also doesn't really reflect, I think what's happening socially.

Janice Stanton:                And what we had during COVID is a big social backlash against the discrepancy between rich and poor, and all of these kind of social issues. So we have started to see rent control support across a number of markets, and we don't know how it's all going to work out. So while you do have today the ability to index your income up as inflation goes up, there are merging pressures to cap in some sense. We said average rent growth was 12% last year, and that's on average. It's 20% in some markets. So there is emerging pressure to say, "Enough is enough. Let's put a cap on individual rent growth in markets."

Victor Calanog:                Now, to be fair just for historical context, before COVID came along, the big news in 2019 was that four states for enacting some form of rent regulation. I remember a candidate in New York state running off of a platform saying the rent is just too dang high, right? So affordability, I think, has always been and will continue to be an issue. I think from an income point of view, for multifamily investors, it's been a great year, Janice. We have effective rent growth at 12.7% in 2021. A record quarter in the third quarter. Very impressive. But to your point, these are the headwinds where there are backlashes where we go, "You know what? This year we'll make it a 5.5% year to date, middle half for probably forecasting between 6.5% and 7% suggesting that the ladder half will encounter a bit more bumps in the road."

Mark Zandi:                      Oh, you said we're going from double digit rent growth to about half that?

Victor Calanog:                Well, 12.7% or around 7% plus, those are our numbers. And with that said, I'm not crying a river for multifamily landlords if they can eek out 7% plus rent growth for 2022 given how this year has progressed.

Janice Stanton:                Yeah. And I also think the double digit rent growth in 2021 doesn't reflect the fact that in 2020, it was frozen, right? So it really wasn't 12% on top of 6%, it was like 12% on top of effectively zero.

Victor Calanog:                Yeah. In 2020, we've recorded some record drops in effect rents for places like San Francisco. Washington DC had a record drop for the 40 years or so we've been tracking this data. So yeah, it's coming off of a bit of a low.

Mark Zandi:                      But to your point, Janice, about the pushback here in the prospects of rent control, I was at a national multifamily housing council, I believe, conference.

Victor Calanog:                Four weeks ago, right, Mark? Yep.

Mark Zandi:                      Yeah. Were you there, Victor? I might have missed you.

Victor Calanog:                I couldn't make it, but Kim Betancourt from Fannie Mae says hi. She missed dinner with you because she was a little bit under the weather.

Mark Zandi:                      Oh yeah. I was counting on Kim, I missed her. But anyway, first thing I noticed was how packed it was. The ballroom was overflowing, so business is good. Second thing is they had a group of protestors outside, very vocal complaining. Because these are landlords, right, big landlords, institutional investors, and they're angry. As you can imagine, they can't pay their rent, especially if they have to pay a rent increase of 12.7%. For most people, that's just out of bounds.

Victor Calanog:                And Mark, I'd love to make them concrete, right, we talk about changes. But Janice, you mentioned that in some markets and neighborhoods, that's 20% plus. And they had our researchers sharpen their pencils when we were about to publish the Brooklyn submarket was going to pull the 25% rent growth in 2021. And how it translated to one of my staff members, she left Moody's since then, I'm not sure if it's causal. But her $3,000 one bedroom was going to get a rent increase of $700, right, that's 23.3% in Brooklyn. It was real.

Mark Zandi:                      Yeah. And you know what I think, Victor, I don't know that I even introduced you guys appropriately. Did I, Cris? I think I just kept on going because I just feel so we know each other so well I never really introduced you. So we were talking all this time, people might be saying, "Well who are these guys?" And although in the real estate world, you're very well known. But Victor is a part of Moody's Analytics in our commercial real estate group. And Janice is a, did I mentioned Cushman Wakefield, one of the biggest... Well, how would you describe Cushman Wakefield? Just massive real estate company. you are into everything.

Janice Stanton:                Yeah. That's the real estate services firm. So we do everything, office, multifamily, industrial, rent, sell. If it has something to do with real estate, we'll do it.

Mark Zandi:                      Yeah, you got your fingers in all the pies and all over the world as I mentioned earlier, you're all over the world. So I apologize for that, I just took it for granted because we're buddies, so I didn't even think about it. I do that to Cris all the time. I'm sure I didn't even say you were the deputy chief economist, but it's okay.

Cris deRitis:                       I didn't even know if you said my name. Yeah.

Mark Zandi:                      At this point. Okay, so can we go back to the rent a little bit, because for a macro economist, this is really important because rents drive the cost of housing, particularly as measured in the consumer price index, the measure of inflation that we all look at. It's a third of that index and it all goes back to rent. So if rents are rising very rapidly and 12.7% is out of bounds rapid, that housing costs adds to the inflation picture. So it's really important to getting inflation down and ending the Fed's rate hikes that we get rent growth rolling over starting to slow here. So Janice, do you have a view on rent growth in the multifamily market? Have we passed the peak in rent growth and starting to get moderate?

Janice Stanton:                Yeah. So we definitely think we're not getting another 12.7% year. There are a lot of starts. But structurally, we've under supply the sector for more than 20 years. So the pressures that we have are because you get to markets with 3% vacancy rates and we've under supplied them. So we think with the amount of starts and we focused a lot on starts that we have coming online, it's going to take some of the pressure off. And that rent growth will moderate and taper, which I think is a good thing.

Mark Zandi:                      Yeah. And Victor, you said 6%. Did you give a date? There's good forecasters that I know, you give a forecast without a date, I think.

Victor Calanog:                Yes.

Mark Zandi:                      I don't think he gave me a date. Cris, did he give me a date? I don't think think he-

Cris deRitis:                       I didn't hear it. I didn't hear it.

Mark Zandi:                      I didn't hear a date. So 6% by when? Is that by this time next year?

Victor Calanog:                We're looking at 6% to 7% expected for all of calendar year of 2022. Yep.

Mark Zandi:                      For 2022? Oh okay.

Victor Calanog:                Yes, yes. Yeah.

Mark Zandi:                      Okay. Can I ask then, roughly speaking, what does 2023 look like next year in terms of rent growth?

Victor Calanog:                We're looking at half that thereabouts.

Mark Zandi:                      Okay.

Victor Calanog:                Yeah.

Mark Zandi:                      Oh, okay. That's very encouraging.

Victor Calanog:                There's that moderation. But I will let you know that given the data that we've tracked, and how some clients have used it to predict shelter inflation, there is about a two to three quarter lag. And so what we're seeing hit the CPI numbers, Janice, is probably the 12% that we recorded in 2021 right about now. And so hopefully, relief is on the horizon hopefully starting next quarter, but we'll see. We'll see.

Mark Zandi:                      Okay. Okay. So you're saying calendar year 2022, we're going to be at 6%, 7%, which means we're ending the year on a pretty soft note compared to the start of the year. We came brooding into the year, double digit rent growth, we're leaving the year. It feels like low single digit growth to get to 6.67% for the calendar year.

Victor Calanog:                The second half in particular, we are expecting a bit of a slowdown, and it could be reduced to just three factors, less of that. Emigration, the former Zoom towns that characterize pretty strong demand at that point, and then slower household formation and just the affordability issue that we've discussed.

Mark Zandi:                      Which creates demand destruction households can't form. And they can't afford to buy a single family home, they can't afford the rent now, so they have to stay with their parents or double up with-

Victor Calanog:                And it's some somewhat disingenuous to just go and say, "I'm always optimistic because someone needs a place to live." But it also means you could go back to your parents' basement, which they preserved for you exactly when you were eight years old, right?

Mark Zandi:                      Yeah. Hey Janice, in terms of capital flows, you said that investors have gone to the sidelines. Does that also apply to the multifamily market? Are so-

Janice Stanton:                There's a much more demand for multifamily. And multifamily is actually in debt today because rates are higher. There's a very strong bid for that. It's seem, at this point in the cycle, it's a little bit of a cushion against what might happen with recession, especially mid-market assets, senior workforce housing. But definitely multifamily in general has bucked a trend, and it's probably... We used to call it beds and sheds. Anything with a bed in multifamily, anything with shed industrial. Now sheds are somewhat less in demand, but multifamily beds are still the number one choice for investors.

Mark Zandi:                      Got it. Got it. Okay. So it feels like when you look at the spectrum of commercial real estate, multifamily feels like it's at the top of the heap in terms of the fundamental conditions, vacancy, rent growth, prices, capital flows, all those things. Would it be fair to say at the bottom of the list is the office market, particularly the big office towers sitting in big, urban centers like where you are right now? You're in New York, aren't you, right now?

Janice Stanton:                I'm in New York. You're right.

Mark Zandi:                      In your office in New York. Yeah

Janice Stanton:                And I think you've pegged that accurately. The issue with office today is not only the national vacancy rate, which is 17% plus, it's also this reluctance of employees to go back full time to the office. So some employers are basically saying, "We know we want these guys back. There are two job openings for every person looking for a job." So to push people back to the office doesn't seem... You don't want to be too tough because you don't want to get a lot of rollover, you don't want the great resignation at your company, right?

Mark Zandi:                      Yeah.

Janice Stanton:                So the office sector, I think people are thinking, "Wow, it looks like it might be a value investment, but we're not quite sure yet what's happening with workforce flexibility and work from home." So the trades have been at a relatively low level.

Mark Zandi:                      No one is buying, no one is selling, nothing. That bid ask spread is very wide.

Janice Stanton:                Yes. The bid ask spread is wide. Unless you have something like 95% occupied or a 100% occupied long term credit tenants, sure, that looks pretty bulletproof. As long as you can get through the next couple of years, that looks pretty good. But anything with a large amount of vacancy or roll, people are just taking a little bit more of a wait and see attitude. I personally feel like there's some value investing to be had here, but it's quite a counter cyclical approach.

Mark Zandi:                      When you say value investing, you mean prices are going to get to a place where there's real value, even if-

Janice Stanton:                Significantly below replacement cost, right?

Mark Zandi:                      Right.

Janice Stanton:                But you have to buck trend for the next year and a half because vacancy rates, even with everything, even if comes back to the office, they can see rates are still structurally quite high now. They are not out of line with what happened after the GFC or Dot-com, in terms of eight to nine quarters of negative absorption is completely consistent with what has happened, it just doesn't feel good when you're in it, right? Yeah. So that's going on in office.

Victor Calanog:                And also, I think to Janice's point about the uncertainty in the tight labor markets, it is true that in the near term office is that asset class that has a crosshair target painted on its back, right? If we encounter some kind of recession, I'm just going to bet there are going to be a bunch of CFOs offering a refrain like, "To manage our margins, we're going to let go of underutilized office space, and reinvest, and retain and reward our people. So let's see." It's an easy target.

Janice Stanton:                See, that's very interesting because you're saying that a recession is bad for office. I think in a weird way, a recession gives employers more leverage to being bring people back to the office.

Victor Calanog:                Oh, interesting.

Janice Stanton:                And the reason I say that is because the productivity numbers early in COVID were sky high, right? People had a shelter in place, you couldn't go out, you couldn't hang with your friends, you couldn't go to restaurants, you couldn't go shopping. So productivity numbers were really high. But if you look at starting in 2022, the productivity numbers went below trend and employers started to say, "You know what? People..." In all these polls, Cushman Wakefield does a gajillion of these polls about, are you engaged? Are you motivated? There's a 15% gap between if you're in the office three or more days a week, you are 15% more likely to be motivated and engaged. So even though you want the flexibility to work from home, if you take the temperature of how you feel, people who are in the office three plus days a week are more motivated and engaged. So I think employers would like to draw people back to the office, it's just that individuals want the flexibility to work from home. And given the balance of power between employee and employer, they're giving flexibility right now.

Victor Calanog:                Yeah, that's in the near term. I do think there is a centrifugal, centripetal, I always confuse this, right? There is likely, I would claim that in the intermediate term, three to five years out, that there will likely be a showdown when it comes to, "Well, you know what, we probably have proximity bias. And if you show up in the office more often than your peer, I wonder if you're going to get promoted faster." And is that going to pull people back to the office or is that going to be an HR issue because you know want to play like you're the enlightened employer, you're saying, "It's going to be the same for hybrid and in office, and yet this person in office is advancing faster." Well, let's see.

Janice Stanton:                I actually think that conversation is starting to happen more in an ad hoc basis. Meaning that in the beginning, employers tried to lure people back to the office. They said, "We're going to get you the best space." Actually, brand new class A office space, is it a 30% premium to the rest of the market today? And it was 20% pre-COVID. So people are placing more value on the best space. So they're saying, "Come on in, let's lure you in. We're going to have really awesome space. It's going to be really collaborative." They were doing food and fun. "We're going to have ice cream."

Victor Calanog:                "Ice cream every of Tuesday afternoon."

Janice Stanton:                Like Tuesday tacos. Come on in. 15 minute massages at your desk. But now-

Mark Zandi:                      Is that right? Are you making that up?

Janice Stanton:                No, no, no. This is true. Not every companies, some companies-

Mark Zandi:                      Moody's did that, Victor for us. No, I didn't get massages.

Victor Calanog:                I'm thinking they'll run file of harassment training and prevention.

Mark Zandi:                      Right.

Janice Stanton:                Funny. But now I think it's moved to the point where everyone is looking at what's going to happen with recession. Conversations are starting to be had in a mentorship way saying, "People are looking at contingency plans, maybe contingency cuts. It might be good for you to be more visible." So this is exactly what you're talking about, Victor, it's better for you conceptually, right, because people still have a little bit of an old mindset. I don't know that we've 100% accepted from an employer perspective, the flex work, the work from home. If there are cuts, I think that if you're less visible, you're a little bit more vulnerable. And I think those conversations are happening.

Mark Zandi:                      I just want to point out, there's this growing... We talked about this last week on the podcast, because we had Nick Bunker from Indeed, was it? It's Indeed.

Cris deRitis:                       Indeed. Yep.

Mark Zandi:                      Indeed. It's a job posting. And he's a great economist and he follows this remote work dynamic pretty carefully. And he made the point, and I think he's right, there's this gap between what economists think about remote work that it's productivity enhancing, and what CEOs and business people think it's productivity destroying, somebody is wrong. And so we'll figure that out going forward. One thing, Janice, you did say in the chatter we had before the podcast, and you travel a lot all over the world, that attitudes towards remote work are very different across the globe. Do you want to describe that? I found that fascinating.

Janice Stanton:                Yeah. So it's interesting. In a lot of countries, they can't understand why the US isn't 100% back. So I just got back from literally Singapore, Seoul, Tokyo, South Palo, Brazil, Santiago, Chile and London. And I would say that the US is far behind all of those markets in terms of the return to office. And maybe Austin isn't as far behind, because Austin is one of the markets where it's on a Wednesday, maybe up towards 70%. But if you go to these markets, South America is a 100% back, it's like nothing ever happened. The UK may be a little softer, but it's mostly back. You look around a floor and most people would be there, Friday might be light.

Janice Stanton:                But in the US, our numbers are really hovering at half, a little bit higher, a little bit lower depending on where you are. And they're better after Labor Day. New York was up 9% after Labor Day, which shows a post Labor Day push, but still all in. And it shows in office occupancy, it shows in if you look at mass transit, subway ridership, bus ridership, around 60%, we have been much slower to get back in the office. And the question among a lot of the international community is, if it's gone on for this long, the longer it goes on, the harder it is to revert to it. In Tokyo you'll have a meeting, everyone will be wearing a mask three feet from you and they'll be a plexiglass screen, but they're in the office.

Mark Zandi:                      Interesting. And I'm headed that way. I'll be in Tokyo in two weeks. I didn't realize I better take my mask with me.

Janice Stanton:                Lots of COVID tests. Lots of PCR tests. Get ready.

Mark Zandi:                      Well, apparently the government just dropped the Visa requirement for visits, but yeah, it makes it a little easier. Well, at this point, we're running out of time. And I thought we could end the conversation in this way because we are economists and obviously, recession is top of mind. From your prism, your perch, looking at the commercial real estate world as you do. Does it feel like a recession is coming? First of all, is that a recession is there? And secondly, a recession is coming in? Maybe I'll throw in one other question while I'm at it. Is there something you would be looking at or that you are looking at to gauge whether it feels like we're going into a recession or not from a CRE perspective? And I'll go to you first, Victor, if you've got a perspective on that.

Victor Calanog:                I do think that from the income driver point of view, commercial real estate always lags the overall economy. It'll follow if and when employers start shedding jobs, in which case there will probably be pretty clear markers of a recession incoming. But with that said, I think the general hope is that even if there's probable volatility on the pricing side, that if it is a relatively shallow recession, fingers crossed that a lot of these income generating property types of stuff we talked about today will weather it just fine. But we will see. And so those are the things we look for. Again, I'd love to see the Q3 numbers for income drivers. I'll leave the rest of Janice when it comes to the capital markets and transaction volume and cap rate stuff, we're not seeing it just yet, Mark. But again, it's a lagging variable.

Mark Zandi:                      Just so to make it clear, when you say income drivers, you mean like the rents-

Victor Calanog:                Rents and vacancies.

Mark Zandi:                      Yeah.

Victor Calanog:                Yep. Yep. Just rents and vacancies.

Mark Zandi:                      And you're not seeing any sign yet of stress?

Victor Calanog:                Well, aside from the idiosyncratic stuff, yeah sure, there are headwinds in industrial because we're buying less goods as we transition the economy to spending more in services. That's why you've got earnings warnings from Target, Amazon and Walmart, but you've got airlines posting record earnings. And so, there is that. And so Amazon is leasing a bunch of their warehouses, they're stopping construction, but there's that. But with that said, is it localized? Is it across asset classes and asset types? We haven't seen it just yet. Just yet.

Mark Zandi:                      What about development? Have you noticed any projects that were early stage and have just gone dormant, or projects that are underway that are being slow walked? Are you sensing any of that happening?

Victor Calanog:                We're seeing more of the difficulty in the construction financing side, I think, just because you've got a lot of lenders also saying, "Look, do we want to pull back and reevaluate our LTV and our income assumptions?" But with that said, we just cited that 873,000 multifamily properties are coming down the pike. I do think that if and when there's a down burn that comes, that's when causality comes where supply growth slows down, right? Once you've got your shovels in the ground, sorry, that apartment building is going to open its doors even if we run into a recession with lease of velocity slowing, and then we'll pull back on future deliveries.

Mark Zandi:                      What about you, Janice, from your perch? Do you sense any weakening in the environment both from a real perspective, vacancy, absorption and from a capital markets perspective?

Janice Stanton:                Yeah. So I agree with Victor that the fundamentals in multifamily and industrial are so strong that even when you get some headwinds with a relatively, brief recession, they're just headwinds, it's nothing catastrophic. I do think though that... And actually Kevin Thorpe of Cushman Wakefield just put out a paper on price adjustment. I think that the fundamentals are different from price adjustment because I think that your return on equity given the spike in debt rates mean that we're going to see upward cap rate movement even with the fundamentals being pretty decent, right? Because if most people lever 65% or 75% of acquisitions and now LTVs are down to 60%, 65%, and your cost of borrowing is up north of 200 basis points, you just can't afford to pay as much for the assets even if the fundamentals are pretty darn good.

Mark Zandi:                      Yeah.

Janice Stanton:                So yeah. I think we're looking for 100 in office. There's a paper that Cushman just published and it breaks it out by property type, but it's as much as a hundred basis points cap rate increase.

Victor Calanog:                And then what's interesting about that, Janice, right, Mark you alluded to this earlier, because cap rates have gotten so low over time, that same hundred basis point increase will result in greater value destruction if you're going up from four to five as opposed to if you were starting up from seven to eight, right? It's that denominator effect. And so it is concerning and when it plays out.

Janice Stanton:                And as we are moving too, right? Because with inflation and everything, so you get a little bit of offset, but it's an issue. Values will be lower with the cost of debt where it is today.

Mark Zandi:                      Yeah. Okay. But if you're sitting trying to scan the horizon here for recession, you'd say "There's reasons to be nervous and worried given what's going on with interest rates, and what it means for the cost of capital, and what it means ultimately for the price of commercial real estate." From a fundamental perspective, demand, vacancy, supply, not yet. You're not seeing anything really. Yeah.

Janice Stanton:                No. In office is softer than the other property classes for everything that we talked about, the return to the office. But the fundamentals are actually quite good.

Mark Zandi:                      Quite good.

Janice Stanton:                If you look at past recessions and where we started with the fundamentals, they're pretty darn good today. So we can withstand some of these headwinds. Not a problem.

Mark Zandi:                      Good. Hey, Cris, I want to just turn it back to you for any last words. You've been listening to this conversation. Anything strike you with regard to the conversation?

Cris deRitis:                       No. I generally agree with everything that's been said here. I think just turning back to the multifamily construction numbers, I think consistent with what was described is, yeah, we do see this increase in number of properties that are under construction, but we've also seen a decline in actual completions recently, right? So that does suggest that slow walking. We're building out, but maybe not as speedily as we otherwise could. And then you also do see the back on permits, right? So that's also suggesting some caution there not really starting new projects at a very rapid pace in this environment.

Mark Zandi:                      Right. Okay. So your sense is actually, there are some signs that builders, developers are starting to grow more cautious here and maybe reining it in a little bit on the margin.

Cris deRitis:                       Yeah. I think still aggressive relative to history if you go back a couple years, right?

Mark Zandi:                      Yeah.

Cris deRitis:                       So they still sense the demand out there.

Mark Zandi:                      Yeah. Yeah.

Cris deRitis:                       The other question I haven't really studied closely is the mix. If we're thinking about multifamily in terms of the luxury, or higher end of the market versus lower end of the market, it looks like it's still targeting the higher end.

Mark Zandi:                      The higher end.

Victor Calanog:                Yeah. I'd say, Janice, right? The numbers just don't work because of the high construction costs.

Janice Stanton:                Exactly.

Victor Calanog:                You're buying a class A property, right?

Janice Stanton:                Yeah. Exactly. What you do for mid-market is you renovate the older stuff. Because it's just too hard to build without other concessions, or support or government support. It's too hard to build with the current cost of construction to mid-market.

Victor Calanog:                Onset for the mix. Class B, C vacancies are 3%. And as of the second quarter, rent growth for class B, C apartment properties actually outpace those of class A. Let's talk about that in terms of the context of affordability and just overall tightness.

Mark Zandi:                      Right. Okay. Well, we've covered a lot of ground, and I think we need to call it a podcast. We could do this all day long. And maybe we'll have you guys back, if you're interested in 3, 6, 9 months to see if there's any more warning signs out there from your perspective on what's going on in CRE, and what it means for the broader economy.

Victor Calanog:                We might all be back in the office.

Mark Zandi:                      Yeah, I'm going to try to be.

Janice Stanton:                I'm here.

Mark Zandi:                      Yeah, you're there.

Janice Stanton:                I'm here.

Mark Zandi:                      Yeah. I'm not sure. You can see my not elsewhere classified room back here, so. And I think-

Victor Calanog:                I just miss the laundry hip hugger.

Mark Zandi:                      Yeah, that's right. I'm trying to clean up a little bit for you, Victor. Yeah.

Victor Calanog:                Thank you.

Mark Zandi:                      But I want to thank you guys for taking the time, for a very informative conversation. And with that, we are going to call this a podcast. Take care, everyone.