Portfolio Construction - Part 7

Let’s look at speculative development - a survey by de Montfort University, in Leicester, England, has shown that in 2005 there was £23 billion of development finance out of a total market size of property lending in the UK thought to be between £164 billion and £175 billion. Six years earlier at the turn of the millennium, there was only £9 billion of development finance. In that year, £3 billion was for residential development for sale, and £6 billion was for fully pre-let commercial real estate development - i.e. there was nothing whatsoever for speculative commercial real estate development.
Though this category hovered between zero and £3 billion for the five years up to 2004, it shot forward to £5 billion in 2005. By May 2006, The Times newspaper of London said of this news that “banks have rapidly stepped up their exposure to speculative development finance, from virtually nothing five years ago to £5 billion at the end of 2005 ... Lending to speculative commercial developments, where no business tenants have been signed up in advance to rent the building, is regarded as risky. In the early 1990s, excessive bank lending to speculative projects came unstuck when the economy crashed and developers could not repay their loans ... the rapid increase in lending to these (speculative) projects is beginning to cause concern among some property analysts, who fear that banks should be more careful not to repeat past mistakes.”
The mentality of development is dictated by the underlying conditions - a typical property boom feeds on itself and becomes a race to borrow, buy, build and sell. Transactional justifications become ever weaker and deals concluded that logically should never have been done. Individual and corporate borrowers overstretch, banks distort their lending criteria beyond what is appropriate and margins everywhere become totally unsustainable. The assumption that booms continue forever leads all participants to act as though this one will do the same with no thought for the consequences.
This is readily highlighted in a micro example. There are 13 occupiers in the city who currently occupy 1 million square feet or more; one can only wonder what may happen as they grow their need for space. Some of these occupiers have forecasted that they will grow their businesses at 5 percent per annum and that therefore they will each need a further 200,000 square feet of space within a few short years. Assuming that these forecasts are accurate that is another 2.5 million square feet of extra office space.
Many large firms looking for space in the City have started to identify locations, fuel site assembly plans and, together with a commissioned architect, design before pre-letting the accommodation from a friendly partner developer. Essentially, these firms are becoming property developers to satisfy their new real estate requirements based on an assumption that they will achieve continued above trend growth. If they fail to hit these targets, they’ll find themselves holding empty real estate. Not a problem, they can rent it to someone else who’s growing like crazy. But what if everyone stops growing like crazy at the same time? And what if everyone has assumed that they will grow like crazy and corporates and developers are suddenly awash with property? And what if interest rates are higher on these heavily leveraged properties and at a time when rents and therefore capital values which are in the commercial world determined almost exclusively by real rental yields?
Suddenly a booming market is contracting more dramatically than it was growing and all those ‘what if’ questions that were never asked are suddenly coming home to roost. An early warning sign in the UK could be the retail sector, where many retailers are finding trading conditions difficult, yet the property from which they trade is becoming increasingly expensive in rental and yield terms.
In the US the early warning signs are appearing more and more in the residential sector. The well-known problems in the sub prime mortgage sector (which all the eternal optimists are having to work overtime to explain why this should be contained within this sector when logically this should be the harbinger of wider problems) are migrating up the risk spectrum, with borrowers now insisting on at least a 5% down payment for Alt A bonds (loans between sub prime and prime).
Let’s just take a step back - borrowers will now ONLY lend 95% of asset value to borrowers who aren’t prime and in many cases can’t/won’t document their income? Not only were they lending 100% to this category before, in many cases they were lending more than 100%.
The assumption here seems to be that lending 100% today to non-prime borrowers (remember that the importance of the security or the loan to asset value becomes more significant as the credit status of the borrower worsens) will be okay because the loan won’t go wrong and if it does then in a year’s time the asset will be worth 115% of today’s value so a 100 or 105% loan to value doesn’t constitute risk. Consumers borrowed 100 percent of their home’s value on about 18 percent of Alt A loans made last year, according to Bear Stearns, the largest mortgage-bond underwriter. Another 16 percent had loan-to-value ratios above 90 percent as well as limited documentation. The actual lenders themselves aren’t concerned about risk because after all they’ll sell it on soon enough but what’s forcing them to change their criteria is that the market no longer wants to touch these riskier loans or at least a smaller number of interested buyers will be paying the lenders much lower prices for them. It’s a fact that Bear Stearns Cos., General Electric Co.’s WMC Mortgage, Countrywide Financial Corp., IndyMac Bancorp Inc., Goldman Sachs Group Inc., Lehman Brothers Holdings Inc. and Credit Suisse have all said recently that they are pulling back from buying Alt A mortgages sold with no down payment or in a re-financing of the house’s entire value. This is forcing the lenders to adjust their criteria rather than the fact that there will be huge defaults. If you don’t plan to own the loan book yourself you don’t care how it performs, as long as you can sell it.
Anyone who can’t see the madness of that line of thinking probably shouldn’t be allowed out on their own.
To be continued…

The above data and research was compiled from sources believed to be reliable. However, neither MBMG International Ltd nor its officers can accept any liability for any errors or omissions in the above article nor bear any responsibility for any losses achieved as a result of any actions taken or not taken as a consequence of reading the above article. For more information please contact Graham Macdonald on [email protected]@mbmg-international.com.com

Snap Shots: by Harry Flashman

Shoot the Bride (and the Groom to make sure)

I have written about wedding photography before. If you are at all adept with your camera, someone, somewhere, will ask you to shoot their wedding. If you can refuse with grace, stop reading and go to the next page. If, however, you are trapped into it - keep reading!
One very experienced wedding photographer even went so far as to call the craft, “Hours of controlled patience, punctuated by moments of sheer terror and intense bursts of creativity.” You have been warned.
However, to make it less of a terror, here are some guides to photographing someone else’s ‘big day’. It is because it is someone’s big day that it becomes so important to get it right. You can’t go back the next weekend and shoot it again!
Wedding photographers talk about the three P’s - preparation, photography and presentation. From the amateur photographer’s point of view, the first two P’s are the most important, although you should not forget the last one.
Preparation. This is very important and can make your job so much easier. This would include going to the church, temple, registry office or whatever before the great day to see just what you can use as backgrounds, and where you can position the happy couple, and their parents, and their bridesmaids, and their friends, and the neighbourhood dogs and everything else that seems to be in wedding photographs. Just by doing this, you at least will know ‘where’ you can take some photographs.
Preparation also covers talking to the couple and finding out just what they expect to be taken. When you take on photographing a wedding, you are taking on a huge responsibility.
Also part of the preparation is to make sure your cameras are functioning properly, so check. Note too, that I said ‘cameras’ because there is nothing more soul destroying than having a camera fail during an event such as this. Preferably, the second camera will be the same as the first, so that your lenses will be interchangeable. Yes, lenses! You will need a wide angle (say 28 mm), a standard 50 mm and a short telephoto (say 135 mm). The wide angle is needed for the group shots and the standard for couples and the tele for “head hunting”, looking for those great candid shots.
Now comes the actual photography itself. You have already written down all the shots that the couple want, so you can cross them off your list as you go. One series of shots should be taken at the bride’s residence, and this includes the bridesmaids. Many of these will be indoor shots, so do take your flash and bounce the light off the ceiling to soften the effect of the flash burst. White dresses should appear white, not grey.
Now you have to rush to the church or wherever the actual ceremony will be, so you can get the bride outside, ready to walk down the aisle with her father, or whomever is giving the bride away.
With those shots out of the way, now you can go and get the ceremony and I do not recommend that you use the flash for these photographs. For some religions, this is a solemn time and flash bursts are very intrusive.
Cross off the rest of the shots as you cover them - the signing of the register, emerging arm in arm, confetti or rice and then the formal shots of the wedding groups.
After all this, everyone is dying for a beer and head for the reception. However, Mr. or Mrs. Photographer, you must wait a little while yet. There is the ceremony of cutting the cake to be done yet, and photographs of the guests enjoying themselves (other than you).
Having crossed every shot off the list, make for the drinks department. You’ve earned it!
The final ‘P’ is presentation. Photograph albums are inexpensive, so put the best shots from each series into a couple of albums and present them to the couple as your gift. And as your final job, make the mental resolve to never photograph another wedding as long as you live!

Modern Medicine: by Dr. Iain Corness, Consultant

Important organs

Ask any man which is his most important organ and he will undoubtedly point to his bladder’s siphon hose. Perhaps it is the magic symbol of masculinity, but it is certainly not the be all and end all. (Though indiscriminate use can end all!)
The liver is one of the more important organs you possess. Without it you will die, whereas you can get by without a kidney, or a lung or a thyroid, or even the willy for example. Yes, I’d rate my liver above my thyroid any day.
Think of your liver as a filtering and de-toxifying device. Chemicals are taken up by the liver, to be broken down into non-toxic chemicals, all to protect your system. Clever organ your liver.
The most well known liver toxin is our old friend Ethanol, more usually referred to as booze. That alcohol affects the liver is very well known, with the end result being called Cirrhosis, a fibrous hardening of the liver which then becomes unable to carry out its job correctly. Toxins build up. You feel unwell and it’s all downhill from there. By the way, the liver only recognizes Ethanol, not the color or shape of the bottle it came in, or whether it was aged in wood for two decades. So all those people who will tell you that you shouldn’t drink beer, but spirits are OK and having both you, and themselves, on.
Some proprietary or prescription drugs can produce an inflammation of the liver tissues too. Or worse, produce a breakdown of the liver tissue itself. Amongst these is the headache medication paracetamol (the ubiquitous “Sara” tablets, for example), but before you throw them out of your bathroom cabinet, it requires some heavy and very frequent dosage of paracetamol to do this.
Other prescription items that may produce liver problems include Methyldopa, several penicillins, Simvastatin (the cholesterol lowering drug), Diclofenac (a non-steroidal anti-inflammatory) and Ketoconazole (anti-fungal).
Prescription drugs can be dangerous (even though you can get most of them over the counter in Thailand), that’s why they have a PI (patient information) leaflet inside the box (the bit you throw away and don’t read).
However, what about “Health” food preparations? The purveyors of these all cite the fact that the ingredients are “natural” so everyone assumes that this means “safe”. Not so, I’m afraid. Lead, for example, is a naturally occurring compound, and not much good for young kidneys. However, since we are talking about liver problems, hands up all those of you who have heard of Echinacea? Supposedly fixes everything from falling hair to fallen arches - but is it “safe”? Well, Echinacea, along with Kombucha Tea are two of the commonest compounds showing a well documented history of being toxic to the liver. So if you’re sipping Kombucha tea because you’ve drunk too much alcohol, I would suggest that you change to water!
Others for sale in the Health Food shops with known toxic effects on the liver include Evening primrose oil, Valerian, Chaparral, Japanese Daisaiko-to (for dyspepsia), Chinese Jin-bu-huan and several forms of herbal teas such as those from Heliotroprium, Senecio crotalaria and Symphytum. Makes you think that the shops that sell them may be incorrectly named, doesn’t it!
But while the column this week seems to be spreading doom, gloom and disaster, it’s not quite that bad. The liver is a very powerful organ and is capable of regenerating itself quite quickly, so in most cases of toxicity following ingestion of chemical compounds, by stopping taking it the liver recovers and the patient feels well again.
So remember that if you are taking anything regularly and you feel unwell, it may be the liver - but tell your doctor everything you have been taking! And no thanks, I’ll give the herbal tea a miss today.

Learn to Live to Learn: with Andrew Watson

More Talking Heads

In semi-structured interviews with five established regional Heads, I covered a variety of areas which digressed and diversified, answered some questions and generally provided many more. The following compiled responses relate to the subject of Leadership.
Whilst acknowledging that ‘transactional’ aspects of leadership existed and needed to be addressed, Head 1 intimated that these aspects of the job were the kind of things that could be delegated and that a Head of School role had to be much more ‘transformational’. As a leader, he had been able to influence the direction in which his school was going and is very happy with the direction in which they are going. He accepted the idea that people want to be led. Head 1 drew on the idea of a jigsaw puzzle, saying that it was important to have an idea of the finished picture, whilst you put the right pieces into the right places. In bringing people ‘on board’ he cited several principles; in particular Head 1 mentioned the ideas of Brian Caldwell and Jim Spinks, in “The Self-Managing School”.
Head 5 spoke of a number of principles on which he operates. One is that as a father he looks at everything, whether it is the quality of teaching or health and safety and asks himself whether he would be happy for his own children to be there. He stressed how important this was to him and expressed the hope that most Heads would share that belief. This is where his personal and professional belief systems met.
Head 1 drew on Stephen Covey quite heavily, especially regarding Principle-centred leadership. If the development plan, he says, provides the map, what Covey says about principles provides the compass. Both areas, says Head 1, need to be nurtured and developed. He is trying to get “everyone’s compass aligned and pointing in the same direction”. Head 1 made the point that if he is getting “bogged down in the detail” then he becomes conscious of the need to stop what he is doing or change the way that he is doing it. He distinguished between being proactive and situations where you have to be reactive and cited Covey’s approach to time management as a helpful way to deal with protecting the development of the mission statement and the development of a “higher order of things”. Head 1 pointed out the consequences of failing to protect it; suddenly, he maintains, you have to make philosophical and directional decisions under too much pressure, or at the last minute. He finds Covey’s approach a practical help in mixing the higher order mission type things and the need to deal with minutiae on a day-to-day basis.
Head 1 spoke of tension between the individual and the organisation whereby a situation might exist where individuals know the general direction in which they’re heading, but need to find a way of meeting agreed principles.
Head 4 indicated that her view of her job was that with the growth of the school, much of it was to do with facilitating change and moving forward. Her view was that to a large extent, her role is transformational, although there is a lot of what she referred to as “daily grind” which she inferred, allows transformation to occur. Head 1 maintained that it is very important that a leader has clear ideas about themselves as a person, as an educator and as a leader. He indicated that vision was an important quality; also the capacity to evaluate and the ability to judge. He made an analogy between leading and teaching, speaking about ‘pitching’ what you have to give at the appropriate level, in order to be able to move forward together.
Head 5 was philosophical about his work and engages in a process of critical reflection. He indicated that there was a delicate balance to be maintained between remaining true to his principles and seeking compromise. He was conscious of the need to model some of the principles to staff because, in his view, once you lose people’s trust then you are in “difficult territory”. Head 2 expressed the view that as a leader, it is important not to lose sight of your position or your beliefs. He considers how you go about doing your job and getting it done the pragmatic part, the real challenge.
Head 2 agreed that good business practice and good educational practice had good organisational practice in common, manifested by good organisational structure and good administrative procedures. However, he strongly suggested that aligning education too rigidly to a business model, for instance thinking of education as a product, was not consistent with good educational practice, citing what he referred to as “the downfall of American education” as an example.
In identifying that most schools in South East Asia run for profit and a few of them are foundations owned by parents, Head 3 pointed to various difficulties in starting up a school with the IB diploma programme. Other issues included the rules of the IBO, which requires a lead time of eighteen months to two years, and parents, staff and students to be consulted, before implementation can happen.
For Head 4, it is important that and your own school culture is understood and appreciated. Every school is very different and unlike the CIS accreditation process, which asks you state who you are first, the IBO states who they are first. Because there are so many different models of international school, it is important that a school is certain about what its model is and is able to defend some of the things that it feels it needs to do. Head 4 feels that this is increasingly pertinent to her school which has gained in confidence as a result. Head 4 expressed the opinion that implementing the mission statement is something that an international school should be working towards, irrespective of whether it is an IB school or a national school overseas. Difficulties can be encountered when considering the breadth of its [The IBO’s mission] meaning so that individual schools have to work out where and how it is going to make sense. It was Head 4’s view that the IBO mission statement was something of a “blanket statement” that is hard to understand until you first understand your own school culture.
Andrew Watson is a Management Consultant for Garden International Schools in Thailand. [email protected]
All proceeds from this column are donated to the Esther Benjamins Trust. www.ebtrust. org.uk email: [email protected]
Next week: More and More Talking Heads