By Simon Chu, Broker, CCIM, MBA

Are we going to have a "double dip?" The answer is unclear, and a lot of it depends on whom you talk to and which part of the economy you are referring to. Federal Reserve Chairman, Ben Bernanke, said in a recent congressional testimony, "the economic outlook remains "unusually uncertain." This does not help in clearing up the muddiness, but it does sum up the reality of the general economic environment.

We are now sadly in the fourth year of this painful recession and still "unusually uncertain" about the future. While some opinions as to why we are still struggling to climb out of the hole we'd rather leave at the dinner table, here are some we’d like to share about the real estate market specifically:

Housing Market

We think there is very little doubt that the housing market is still in a lot of trouble. There seemed to be signs of stabilization in the later part of last year. But, we are again facing more head winds this year. Sales are slowing and prices are dropping again. A wave of foreclosure homes is expected to hit the market in the next two years, bringing additional negative pressure on home prices.

However, the trouble is no longer limited to the sub-prime borrowers. Many medium to higher-end homes are also in default due to the prolonged economic problems and as a side effect of government programs for loan modifications and short sales. It is estimated more than 70% of modified loans went back into default again within a year while more than 30% of the new defaults are so-called "strategic" defaults, meaning that the borrower purposely went into default in order to re-negotiate with lenders or just avoid making mortgage payments. In many cases, it could take 2-3 years for lenders to finally foreclose the homes and put them back on the market for sale. This has led to a glut of inventory, known in the industry as "shadow inventory" for it is hidden from the view of the public. We believe unless this inventory is cleared through the market and the financial system, the stability of the housing market will always be in question.

Commercial Real Estate

Many people anticipated a tidal wave of commercial foreclosures to flood the marketplace. So far, we haven’t seen it, especially in Southern California. But, there is obvious stress in the market and generally, price levels have dropped around 30-40% from the peak level in 2006. However, we have also seen demand and prices holding relatively well in some pockets of the market, especially for properties to be used by owners who have access to cash or whose financials are not impacted by the recession. The situation for investment properties, however, is quite different. Uncertainty in the economy and lack of available financing contribute to an unusually challenging investment market, especially for propertiesthat are vacant. Despite signs of stabilization in the rental market in recent months, it will still require time and a stronger economic recovery to absorb the high vacancy rates. Commercial banks, burdened with many troubled loans, are still unable or unwilling to fund otherwise acceptable loan applications.

We believe the prospect of a sustainable recovery of the commercial real estate market depends largely on market confidence in the economic recovery and job growth. At the moment we do not anticipate a double dip in the commercial real estate market, but we are concerned about the "unusually uncertain" economic outlook which casts doubts in the marketplace. If this uncertainty continues much longer, Mr. Bernanke's "green shoots" in the economic recovery would die out and "double dip" would be a reality.

What Should You Do?

The "unusually uncertain" outlook certainly makes real estate investment decisions "unusually challenging." In the most simplified sense, we have the following recommendations for your real estate strategies:

First, buyers who need to purchase a residential or commercial property for their own use should take advantage of the great prices and historically low interest rates. It is hard to go wrong when you have low prices combined with low interest rates, especially if you need a home to live in or need the property for your business. However, your priority should be finding a property matching your needs as oppose to just getting a bargain. A bargain can turn into a pain if it is not what you really need. This is especially true in today’s market where it is hard to recover from a mistake.

Second, investors thinking of taking advantage of the depressed market should be more cautious. With the economic recovery still uncertain and many vacant or distressed properties on the market, there is little pressure for prices to appreciate or rental incomes to improve. Thus, you must subject all investment opportunities to a set of more stringent criteria and be very conservative about the assumptions you apply to your analysis. Remember, there are many opportunities but there are also many dangers. You’d better know your worst case scenario well.