Global equity markets largely moved lower this week as the US faces a potential government shutdown and two large strikes that are crippling the Automotive and TV/Film industries. Our summary of the week is below with links to relevant article highlighted in each area.
Its the Economy Stupid
While the Fed did not raise rates on Wednesday, they did signal that they would not be coming down anytime soon. This will have many knock down effects on the economy as debt service levels will not abate anytime soon. Presidents are always looking for an economic boost going into an election year and any signs of a recession can spoil any chance for a second term. The Biden Administration does not have many levers to pull to quickly jumpstart the economy as any spending bill would never make it through a republican controlled Congress.
Blowin' in the Wind
There are many different forms of renewable energy mainly driven by the sun, wind, water and biomass. According to the EIA, at the end of 2022, the US currently consumes 13% of renewable energy with the remaining produced by petroleum, natural gas, nuclear and coal. The Biden Administration has set an aggressive 80% renewable energy goal by 2030 and an important component in meeting this goal is the wind business. However, this industry has been plagued by much higher than expected costs that has led to firms walking away from projects, demanding higher prices to produce power or requests for billions in government funding.
Five northeastern state governors recently asked the Biden Administration for additional funding due to the issues this industry faces. This comes off similar news in June from BP and Equinor who are co-developing three wind farms off the coast of New York. If BP and Equinor cannot renegotiate power prices with the State they will unable to raise funding for the project. Wind is currently the largest single source of renewable energy in the United States at 29% (biomass in total is 37% when you combine biomass waste, biofuels and wood). The Danish company Orstad, the world's largest offshore wind developer, has lost over 30% of its value as it plans a sizable write down of its US assets.
This creates a conundrum for investors - the pressure is on to produce renewable energy but at what financial cost? The average American is already feeling immense pain from inflation which has no signs of abating. Is solar, wind or biomass the best place to place your chips? Only time will tell but this evolving space should cause caution for investors.
Opportunity Zone News
EQT Exeter purchased a 179,000 sq. ft. warehouse within an Opportunity Zone in San Bernardino, CA. This marks one of the larger sales of Opportunity Zone investments since the program began. Investors do not receive the tax-free sale unless the investment is held for 10-years.
Republican candidate from Florida, Tim Scott has indicated he wants to create Opportunity Zones 2.0 which would expand the program to more rural areas of the country. While Scott is a longshot candidate at this point it is important to see bi-partisan acceptance of the program and potential expansion over time.
Congress and Opportunity Zones
Congress is currently focusing on two issues that will most likely delay any attention paid to smaller bills. First, the US government will shut down on October 1st if a stop gap spending bill fails to be passed. The more conservative members of the House Republican majority are looking for major spending cuts which would be dead on a arrival in the Democratic controlled Senate. Given recent history, this more than likely will be unresolved until the final hours.
The Republican controlled House is also holding its first President Biden impeachment hearings next week. These two high profile issues will dominate the news for the next two weeks so do not expect any movement. There are two proposed bills that will affect the Opportunity Zone program. Whether they are addressed in the fall legislative term at all is not clear although both will have significant impacts.
The Opportunity Zones Transparency, Extension, and Improvement Act was a bi-partisan bill proposed in April 0f 2022. This would sunset OZ tracts that were no longer consider impoverished, allow “fund of fund” structures which would lower the minimum investment for many deals, improve reporting requirements and extend the capital gains deferral among other issues. It is difficult to predict what a significantly divided Congress will act upon in the fall. The delays or roadblocks include:
• Presidential Election cycles in conjunction with a divided congress often slows progress
• The Tax Cut and Jobs Act (TCJA) where opportunity zones were created sunsets in 2025. Certain members of congress want to address the entire TCJA rather than just modify the Opportunity Zone program – The Expiring TCJA
• More important fall session legislation includes appropriations for funding of the government, National Defense Authorization Act and the Farm Bill
The Perfect Storm
There are two interesting themes in the real estate market that will continue to play out in 2024. The trend of working from home and shared office space has commercial real estate (CRE) lenders on its heels. The high vacancy rate combined with high interest rates has led many Wall Street firms to predict a crisis in 2024. Many of these loans will need to be refinanced at 300-400 basis points higher that their current rate which will create crippling monthly loan payments when rental income is down significantly. The three charts below show the perfect storm facing the CRE market.
For real estate investors this will cause pain for investors in the wrong vintages, opportunity for those willing to take the risk in buying CRE in the hopes the market recovers and a catalyst to diversify in other areas of the real estate market (warehouses, self-storage, data centers etc.)
Large Wall Street firms have become the largest buyers of single family homes. These large public companies use complicated algorithms to identify and purchase single family units. The largest single family home owner in the United States is Innovation Homes (owned by Blackstone Group) who has amassed an inventory of 80,000+ homes. Will this end the American Dream for the US middle class?