Are 70% discounts on office buildings enough? Billionaire investor Howard Marks isn't sure.

By Joy Wiltermuth

The legendary Oaktree Capital investor sees a reckoning ahead for commercial real estate and highly leveraged companies

"Let's say you are getting 70% off - is that enough? The mere fact that the price of something is down doesn't make it a buy."Howard Marks, co-founder and co-chairman of Oaktree Capital Management

Office buildings that have been selling at steep discounts in New York and other big cities don't necessarily guarantee a win for their new owners.

That's according to legendary investor Howard Marks, co-chairman and co-founder of Oaktree Capital Management, who discussed the topic in an interview Monday with Bloomberg Television.

Private equity and commercial real estate, both of which heavily relied on debt to amplify returns in the past 15 years, will face a reckoning amid a backdrop of higher interest rates, Marks said.

But he isn't yet sold on how steep of a discount certain assets should fetch.

"Let's say you are getting 70% off - is that enough?" Marks said, after being asked whether he's joined other investors in scooping up office buildings at eye-watering discounts.

"The mere fact that the price of something is down doesn't make it a buy," he noted. "It has to be [that] the price is down more than it should be, given the fundamentals."

The U.S. office sector set a record 20.1% vacancy rate in the second quarter, eclipsing 20% for the first time in history, according to a new report from Moody's, which also pointed to "natural concern over how high the [vacancy] rate will continue to climb."

Effective rents also have been flat or negative for four straight quarters, Moody's said, despite an economy that's been growing and a historically low unemployment rate of 4.1% as of June.

Transaction volumes have remained relatively low since the Federal Reserve began hiking interst rates in 2022, making it difficult to gauge property values. But in a sign of the times, properties financed by Wall Street's bond machine have been seeing new appraisals come in at about 40% to 60% below previous levels, analysts at Barclays said on Monday.

While there was little distress in the market during the low-rate environment of 2009 to 2021, higher interest rates will likely spark buying opportunities, Marks said.

That's because leveraged transactions previously closed by companies include debt structures that didn't anticipate rates increasing by 400 to 500 basis points, he said.

"To put it in short, it was a great time to be a borrow," Marks said, of low rates and economic growth. "But right now - and I think going into the future - leveraged companies will not be renew their leverage as easily, and the cost of doing so will be higher."

The benchmark 10-year Treasury yield, BX:TMUBMUSD10Y used to financial properties and much of the U.S. economy, was near 4.27% on Monday, down from a peak in October of 5%.

Read next: The rush to exit commercial real-estate funds is going mainstream

-Joy Wiltermuth

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07-08-24 1616ET

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