Before the financial crisis, there was the 1980s real estate bust. The southwest part of the country was particularly hit hard.
Along with the bust, came the S&L crisis, many bank failures, and for one company, Trammell Crow, a post-mortem on the numerous mistakes different partners made during the boom times. In 1989, a memo was sent asking partners “to reflect upon the environment which lead to the collapse of the Southwest real estate markets.” The replies were pieced together into over a 100-page list, consisting mostly of mistakes made during the period.
If you work in commercial real estate or study it, it’s a great resource. Being real estate, excess leverage is a recurring theme. Diworsification is another mistake that pops up often. There’s the typical behavioral stuff too — overconfidence, overoptimism, greed, FOMO, etc. — that always surface in hindsight.
It’s interesting how booms, universally, push people to reach for things, lower their standards (while raising expectations), chase more and more investments (instead of staying focused on their top ideas), or do deals because money’s available. That belief that if they don’t do it, someone else will, and they’ll miss out, is like sitting on a time bomb with a hidden countdown during a boom.
FOMO’s a hard one to get past. Nobody’s immune, it seems. Even professionals miss what’s going on until it’s too late.
My real estate knowledge is limited, so parts of the memo read like a foreign language. However, enough of the mistakes transfer over to other areas to be useful. For example, you can substitute things like investment with project/deals or earnings/revenue with rent and the idea still works. (Left out of the short list below are business mistakes on personnel, administration, and overhead that might be useful to some and parts might be translatable to other sectors, regarding business cycles.)
- Don’t get caught in a market frenzy. If we had sold more product during the frenzy, we would not be selling for the prices we are today just to cover shorts.
- Keep a conservative strategy as to bad times. Generally, we did not know we were in a bad market until it was very bad. Remember, it doesn’t pay to say “it can’t get worse or last much longer.”
- Make every deal at the best rate you can. The deals we made in the early months of the downturn now look like great deals in retrospect. At the time we did not feel good about most of them, but today they are our best deals.
- Don’t believe that just because rents have gone up at 5% per year for five years, that they can’t or won’t drop 25% in one year.
- Don’t buy too soon when things are going down. For example, we offered a contract for $22 per square foot in 1987 that we’ll probably get for $17.50 per square foot this year.
- Worst case projections in one quarter tend to become best-case projections for next quarter.
- Cash is king.
- Do not do a project just to do something — maintain careful underwriting standards.
- Easy to pay for projects if you only figure the upside — do not think the world can only go up.
- It is better to go slower.
- Lenders have a “herd” mentality. When your market is “in” it is powerful; when your market is “out”, the reverse is true.
- One bad project can make up for five good ones.
- When the market is hot, sell some of your interest along the way up; when it starts heading down, there are no buyers.
- Confusing quality with image.
- Move quickly when markets peak or are declining. Don’t hesitate to sell at a fair price today because you think you can get more for it tomorrow.
- One way to stay financially healthy is to “sell too soon.”
- Avoid the delusion that particular markets or “things will improve” faster than they really will — and run business accordingly (good defense).
- No room for slop — future not forgiving.
- Success lulled us into a sense of complacency (in some cases of almost feeling bulletproof).
- In the euphoria of a hot market, we tended to ignore true market fundamentals. We didn’t have and/or prudently evaluate good information. Often our market research was last week’s leasing meeting.
- Pride kept us from cutting projects, debt, rents, and overhead in a timely manner (psychologists have proven that the human psyche will take enormous risks before it will admit to a loss).
- We did not realize that people and institutions cannot be expected to predictably act as they have in the past. Competitors, customers, lenders, vendors, and your own organization all act in strange ways which exacerbates all of your problems.
- Without question, our perceived need to keep busy caused us to spend and commit unnecessarily. We would have been far better off to have played golf on some days rather than doing a deal.
Memo: Lessons in a Down Market
- To Beat the Market, Invest Differently Than the Market – J. O’Shaughnessy
- Getting Busy on the Proof – Above the Market
- Pure Downside, No Silver Lining – M. Housel
- Money Out of Nowhere: How Internet Marketplaces Unlock Economic Wealth – B. Gurley
- The Fall of America’s Money Answers Man – NY Times
- Visualizing 150 Years of U.S. Employment History – Visual Capitalist
- 2019 Breakthrough Technologies: How We’ll Invent the Future – B. Gates
- A Structured Approach to Strategic Decisions – D. Kahneman
- What if All the World’s Economic Woes Are Part of the Same Problem? – N. Irwin
- The Secret of the World’s Greatest Art Thief – GQ
- The Great Star Wars Heist – Popular Mechanics