From Building Boom to Bust to Boom

Why real estate is going to get ugly – and why it won’t end there

Ric Edelman: It's Tuesday, December 5th. We talked yesterday about how developers are responding to climate change by building floating cities and floating buildings. As cool as that is, I'm not sure that's going to do as much good for the current real estate situation as we need. That's being damaged not by rising tides but rising interest rates.

WeWork, as I'm sure you've heard, is the latest real estate company to go bankrupt. Lots of real estate landlords and developers and builders, they're all going broke. But WeWork is different. I'm not sure you understand how big a deal this one is. The company is an office leasing company. If you're a startup working alone or a sole proprietor, like running your own accounting firm or a consulting practice, you can't afford to lease a big office and you don't need to. You just need a single office. But you want amenities.

That's what WeWork does for you. They have a receptionist and a lobby, a lunchroom, conference rooms, and you get to hang around with other people who are in the same situation. So you have a built in community. WeWork has nearly 800 locations in nearly 40 countries, 47 offices just in New York alone were at least 7,000,000ft² of office space. But WeWork vastly overestimated the number of people who would want to rent space like theirs. New York already has a 20% vacancy rate for its office buildings, and now we're piling. WeWork on top of it.

The result of all this glut of space, the value of these buildings is expected to fall 50 to 60% next year. The owners of those buildings aren't going to get the rent money that we work owes them, and they've got their own loans to pay. They've got to refinance their loans just as interest rates have skyrocketed. So their loan payments are up at the exact moment their rental income is down. Bad combination. One building in New York City was appraised five years ago for $127 million. It's now valued at $42 million.

This is going to play out all over New York and all over the country and all over the world. It'll take several years for this all to shake out. The big losers here are not just the real estate landlords. The banks that lent them money are losers, too, because the landlords are going to default on their loans. Most of those banks are small, local and regional banks. Some of them might go out of business. And the big investors of those office buildings and those banks will be losers too. Guess who they are? Insurance companies, pension funds and college endowment funds.

Compare this when you look at your brokerage account online, the prices of your investments are shown in real time. You see the actual current value of your holdings. That's not how pensions and endowments do it. They don't mark-to-market. They only update their prices once or twice a year. So they're mostly still showing their investments in real estate at old prices - the old values before rising interest rates took effect, before companies began defaulting on their rent obligations and on their loans. Pension funds and endowments are showing prices on their books that are 50% higher than the real prices. And soon they're going to have to update. And when they do, watch out. They will report investment losses for 2023, not gains. Like I said, all this will get shaken out over the coming years.

Today's losers will be replaced by future winners, the investors who buy these buildings and these loans today for pennies on the dollar, urban areas will be redeveloped to meet the needs of residents for decades to come. Lots of exciting investment opportunities here for good investment advisors and for good investors smart enough to hire them.

And since I brought it up, let me give one such idea about an investment opportunity that's available today, thanks to the very thing that's bothering you stock market volatility. Normally when people get scared about volatility, they sell. But there's another approach you might want to consider; buy investments that capitalize on volatility. And one of them known as covered calls.

Covered call writing is an options trading strategy. Here's how it works: You own a stock. Let's say it's worth $10 a share. You give somebody the right to buy it from you for $12. They've got three months to do this, and they pay you $1 for the privilege. Since the stock is worth $10, you just made 10%. That dollar is 10% of the value of your stock. If the stock rises to $12 within three months, that guy is going to exercise his option. He'll buy the shares from you. That means you just made another $2 a share. That's another 20% gain for you. If the stock doesn't rise to $12 during the next three months, the guy won't buy your shares. And that means you can repeat the process earning another dollar. And you just keep repeating this until the stock does rise above $12, and the buyer exercises his option and buys the shares from you. Either way, you win. You collect those dollar payments, and you collect the $2 profit when you finally sell. And if you never sell, you keep earning those dollar payments.

Now, there are two downsides to this. First, the stock could fall in value. You'd suffer a loss if that happened, but at least you've got those dollar fees you've been collecting to offset the loss. And by the way, those fees you're collecting are taxable.

There's another downside. If the stock rises to, say, $20, you're still going to sell it for 12. You collect $2, but the other guy collects eight. That's why he's willing to do this deal with you. He thinks the stock is going to rise a lot more than just $12. So the downside of this strategy is that you're limiting your upside, but you're collecting that fee, which helps, and you're guaranteed to get it no matter what happens to the price of the stock.

If you're worried these days that the stock market might fall, or if you just want to generate more income from your portfolio than you can get from dividends, covered call writing is a really good idea. For one thing, engaging in options trading is complicated and time consuming. For most people, it's a hassle.

So here's a better idea instead of buying stocks and trading options contracts on them, just buy an ETF that does all this for you. Global X has an entire suite of covered call ETFs with more than $10 billion in assets, proving that investors really like this idea. Their three most popular covered call ETFs are the tickers QYLD, XYLD and DJIA. They write covered calls against the Nasdaq 100, the S&P 500 and the Dow Jones Industrial Average. Last time I looked, the yield for QYLD was 11.9%. The yield for XYLD was 13.4 and the yield for DJIA was 9.8. Remind me, how much are you getting in stock dividends. Not that much.

The Global X Nasdaq 100 Covered Call ETF, the Global X S&P 500 Covered Call ETF and the Global X Dow 30 Covered Call ETF, symbols QYLD, XYLD, and DJIA. Check them out at Global X ETFs.com. Or if you're an investor, ask your financial advisor about them.

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