I am often asked where I believe we are in the current market cycle. If we were in a boxing match, I believe we just heard the bell ring to start the last round. If we were at a baseball game, I believe we are in the bottom of the eighth inning. If we were slalom water skiing, we just cleared the second buoy at 43 feet off. Note; only a water skier will understand that last one.
So to answer the question, in my opinion, we are close to the next market cycle change.
Last week, I heard hotel debt described as an interest-only loan. It took me back to January 2007. That was the last time I remember anyone seriously pitching an interest-only loan as the way to underwrite a deal. If an interest-only loan is the way you make your deal come together, it's time to reconsider your options.
Let's cover a little history: There were 11 recessions from 1948 to 2010. They all varied in length, severity and duration. During that 62-year period and 11 recessions, it took an average of 10 months for the market to fall to its low point. It took, on average, 57 months for the market to reach stability. If that is correct, recovery generally takes six times longer than the recession.
On 9/11, we had 10 to 15 hotels under contract. Within a couple of weeks, we had zero under contract. That cycle was very different from any past downturn. The market had already begun to fall sharply in the first quarter of 2001 with RevPAR off double digits in most of the top 10 markets. By summer 2001, things were in steep decline and concern was everywhere. On September 11, the bottom fell out of all economic measuring data and the decline was instant. The decline was so steep and deep, it actually bottomed out the economy much quicker than expected—which allowed for a shorter recovery time. In most cycles, a slow decline manifests itself in an even slower recovery. During the aftermath 9/11, the decline was almost instant and, in retrospect, that quick decline allowed the market to bounce back somewhat quicker than expected.
Let's look at the last economic cycle as an example. The fall began in October 2007 when the CMBS hotel debt market faltered. The catalyst that started the last hotel real estate recession was the failure of the secondary debt market—and that began in October 2007.
During the ALIS conference in January 2008, we began to see the raw data pointing to a down cycle. The opinions at the time were that the cycle would be short, shallow and quick. No one saw it lasting very long, and certainly no one thought it would be that deep. By March 2008, slight concern was replaced by real concern. By May, concern was replaced with denial. By July, denial was replaced with anxiety, and then in September, anxiety was replaced with real fear.
In September 2008, the hotel real estate market fell over the ledge and didn't begin to stabilize until March 2010. It was an 18-month freefall in RevPAR, EBITDA, NOI and real estate value.
So here we sit in the third quarter of 2015 watching LTVs rise, DCRs fall, yields constricting, PPRs escalating, replacement values exceeded, interest only loans and today's values based on unpredictable IRR rather than actual return. Couple all these factors with the growing risk in the current securitized hotel debt pools along with the many older securitized hotel debt coming to term over the next 12 months—and it should give all of us some pause.
So, yes, I am concerned that we are nearing a cycle change.