The year of normalization! Dr. Peter Linneman predicts the return to office, recovering labor markets, economic growth, and more


On the latest Walker Webcast, we were joined by renowned economist, Dr. Peter Linneman for another hour of insight. He and Willy discussed his views on pandemic recovery, predicting that 2022 will be the year of normalization in terms of health, the return to office, and labor markets. They also discussed inflation, cap rates, economic growth, and much more. 


Willy kicks off this quarterly discussion by bringing up Linneman’s insights and predictions from one year ago – some of which he got really right, and others close to the mark. They recount hot issues, including the Biden administration, unemployment, commercial real estate, construction caps, the flight of a butterfly, and riots. Dr. Linneman’s predictions proved to be incredibly insightful to the economic activity that has been seen. 

They transition to discuss some concrete predictions for next year. Linneman discusses his thoughts on the DOW, federal rates, house and senate majorities, and a number of economic indicators. Willy asks for insight on consumer confidence and why there seems to be such a focus on negativity. They discuss the important influence price controls have and why the signal they send in the economy is necessary. Ultimately though, he believes price controls could have devastating effects. 

Linneman mentions the workforce and what it will take to get the labor markets back in full effect. What will normalization look like? They also talk about how banks have been affected by the high levels of deposits. With unprecedented pricing, what can banks really lend given regulations and stress tests? 

Linneman discusses the pandemic effect on brick-and-mortar retail. He believes that the pandemic simply weeded out bad retailers that were likely to go out of business anyway, it just sped up the process. The great supply and demand imbalance of oil has driven prices up, but what is the projection moving forward? Linneman discusses the volatility of this asset, and why time and opportunity for innovation are absolutely crucial before forcing artificial decisions into place. 

Willy and Linneman then address the alpha-beta analysis of economic growth as tied to the broader economy. Our economy secured a new baseline as a result of the pandemic, which has proven to be a positive thing. Willy and Linneman discuss the shortfalls in the housing market and predictions surrounding retail and office. The Linneman Letter does not predict these rentals going down any time soon—despite the inconvenience that driving to work might be. 

As the conversation draws to a close, Willy asks where the smart money will be going now. Where are the investments, and what assets will the money be chasing? What will the year 2022 be marked by? Dr. Linneman leaves listeners with the hopeful idea that the year 2022 will be one of normalization.

Key Ideas: 

0:47 Willy welcomes guest Dr. Peter Linneman
1:59 Predictions and insights from one year ago
4:31 Concrete predictions for one year from now
11:24 The role of price controls
13:31 Labor markets and normalization
18:07 What will get people back to work?
23:50 Bank deposits
26:37 Real opportunity, unprecedented pricing, bank lending, and stress tests 
32:38 Brick-and-mortal retail compared to e-commerce retail
22:51 The supply and demand imbalance of oil
41:20 Alpha-beta analysis economic growth as tied to the broader economy
50:30 Surprising retail and office rental predictions
55:57 Where is the smart money going now, and what the year 2022 be marked by? 


Learn more about Dr. Peter Linneman
Check out Walter & Dunlop’s website

Webcast Transcript: 

Willy Walker: Welcome everyone to my quarterly discussion with Dr. Peter Linneman. We had over 7,000 people registered to listen to this discussion live today, and my last discussion with Peter was watched by over 110,000 people on YouTube and it is once again great to have Peter back, particularly with so many people interested in hearing his fantastic insights. As you'll hear in a moment, Peter's insights, and predictions since we started doing this together have been amazingly prescient. But before I dive into The Linneman Letter and Peter's thoughts, I want to thank the team at The Linneman Letter for all their work that goes into preparing the report. Deborah Moy is the Managing Editor, Mukund Krishnaswami is the Contributing Editor, and there is a team of contributors and researchers who make the data and analysis of The Linneman Letter so great. I also want to thank Peter's brother, Doug Linneman, for all his help in making our collaboration so powerful. And of course, I must thank the Walker & Dunlop team Susan Weber, Lindsay Redding, and the rest of the team for all they do to make the Walker Webcast what it is. 

So, Peter, let's back up to a year ago and run through a couple of things you've got really right and just sort of right. So, you said the Biden administration was new, and to quote, "If you like the policies of the Obama administration, you'll love the Biden administration because they're all the same people in this administration and don't expect much." I would say that's a check. You also said, "not to expect peace, love and understanding." And I would say check, check. You said unemployment was understated and that we'd reemploy eight million people during the year. You believe that unemployment is still understated by about 340 basis points. So, you're at about a 7.6% unemployment rate versus the Bureau of Labor Statistics that is sitting at 4.2%. But you are right on the re-employment levels as well as overall economic activity. So, we'll go check there.

You said commercial real estate cap rates would revert to pre-pandemic levels, definitely. Check on multi, check on industrial, check on retail, check sort of on hospitality and check minus on office. But I would think that you'll say, put them all together, and we're back to where we were before the pandemic. You said we’d see few constructions starting in 2021 other than industrial and multifamily, check. You said cap and model re implied pricing was 17% undervalued in December of 2020 and that today the recap in implied value is 19% overvalued. So, if listeners hadn't heard you last year on this call and bought the index at 17% undervalued, they'd be up 36% between then and now. 

You finally said that the recovery would be like a butterfly. Butterfly isn't mentioned once in this quarterly report, which leads me to believe that you wish you'd called it the flight of an eagle rather than a butterfly. 

Finally, for those who were here a year ago with us, we held this call last year on January 6th, and you did not predict that during our call, a riot would break out on the steps of the U.S. Capitol. So that is a check minus. But other than that Peter, incredibly insightful to the economic activity we've seen over the last year. So here we are in January 2022, and after reading your quarterly report, I'm incredibly bullish about the economy, not just for 2022 but for the next three to five years. Before we dive into the specifics on that, I want to get a couple of concrete predictions from you about where we'll be a year from now. So, the Dow closed yesterday at 36,252, whereas the Dow on 12/31/22.  

Dr. Peter Linneman: 39-ish. Up 8-10%. 

Willy Walker: 10 year closed at 174 yesterday, has rallied a little bit today. Where is it at the end of the year?  

Dr. Peter Linneman: 2.5-2.6-ish. 

Willy Walker: The Fed will raise rates. How many times in 2022?

Dr. Peter Linneman: They'll probably raise about 75 basis points, and therefore probably three times, 25 bps per raise. 

Willy Walker: And come November or come this time next year, the House and Senate will be controlled by what parties? 

Dr. Peter Linneman: Well, the easy prediction is that it will be controlled by crazy parties, and that's a no-brainer, right? I think on a serious note, it'll both be controlled by Republicans a year from now. 

Willy Walker: OK. So, in your report, you state GDP growth for both ‘22 as well as ‘23 of 4.5%. This economy's got some legs. 

Dr. Peter Linneman: In real terms, yeah it has legs. And by the way, Willy, it's not like that comes out of some fancy econometric statistical model. The 4.5% is pretty simple. Think about a normal year we would do 2.5%. We're about 4% behind where we would have been if COVID had never happened. And we make up half of that gap this year, and we make up the other half next year. So, 2.5%, plus half a four percent is 4.5%. That's the spirit of what I'm saying.  

Willy Walker: So, in The Linneman Letter report, you put a number of economic indicators in there, such as industrial output, capacity utilization, corporate profits, percent of industries adding workers, which by the way, is incredible at over 70% of industries adding workers today. All of those are above trend, which is a great economic backdrop. But one of the ones that I was surprised with, Peter, is consumer confidence, and you have in there the conference board consumer confidence is only at 109.5 versus a pre-pandemic high of 132.6. What's the consumer missing that the economic data is telling you?  

Dr. Peter Linneman: So first, you have to understand, though, at 109, it's above average, so it is still above average at that number. The main thing the consumer is missing is the massive strength of the U.S. economy. And I was reflecting on this the other day. What lesson did I take away from the last 22 months? Let's say what lesson I took away, and it took some reflection, is don’t bet against the U.S. economy. I’ve always said that. I'm not the first to say it, but think of it this way, Willy, and then we'll end with consumer confidence. We had a horrible pandemic. We had a massive premature deaths. By the way, we had record drug deaths on top of that. We had political turmoil. We had social turmoil. We had the Jan. 6 phenomena that you described. I mean, you can just go on and on of all the challenges we had. And yet, 22 months later, from the beginning, for us, the pandemic, real GDP is 1.5% higher, which is essentially flat per capita. Industrial output is essentially 99% of what it was pre-pandemic. And you kind of go, oh my God, with all that, we were able to do that. And I think what the consumer misses is the sheer power of this economy that it overcomes. It doesn't overcome every minute, doesn't overcome it. We invented and mass distributed three vaccines. I mean, just think about that in 22 months from just sheer brute power. I'm not saying it's a perfect economy. I'm not saying everything it does is perfect. The psychologists talk about negativity bias, right? That we like seeing negatives, we're consumed by negatives; we're bombarded by negatives. And the psychologists believe it's because of evolution "the lions are coming, you better beware because if you're not, you're dead." Right. So, there was a sense of negativity with information we really had to absorb, and evolution has made us overly sensitive to negative. Consumers are overly negative because they see the shortcomings and not the sheer power. 

Willy Walker: I parroted as much of what you just said yesterday in a call with a bunch of my colleagues at Walker & Dunlop, and somebody said, "OK, what goes wrong? What's Peter think gets in the way of all this?" In your canary and a coal mine analysis, (those of you who get The Linneman Letter know what this is.) But Peter goes and puts five canaries next to a number of different things that are early indicators for a trip up in the economy, everything from mezzanine lending replacing equity, to empty space being worth more than whole space. And yet, Peter, in your quarterly letter, there are only four dead canaries on your chart. One is for record buyout deals, which would lead us to believe that some of the frothiness in the buyout market is getting to prices that are unsustainable, and then three are for COVID strangling the economy. So even with what's going on with Omicron right now, and the fact that the economy continues to move forward, the stock market is continuing to do well. You still fear with three to five canaries that COVID could set us backwards.  

Dr. Peter Linneman: You had Mike Roizen on, and he was just fabulous. You did a fabulous job with him, and Mike would know much more than I. He addressed this. I think that a month or so from now, one of those canaries will come back to life. And I would think that in three months, two of those canaries are back to life, and we're really moving in that regard on the Covid side. Your question was, what could really derail us? I don't mention it in the last issue because it's something that's only arisen in the last couple of weeks, it's price controls. Four months ago, you didn't read anything about inflation, and all you read about today is inflation. Four months ago, no member of Congress or no one in the White House talked about inflation. It's all they talk about, and you're starting to see this language like business suddenly got greedy and gouging, and we got to restrain them, and we've got to control prices. I'm old enough to have been an adult during the 1970s when Richard Nixon and then Gerald Ford, who were Republicans, had wage and price controls, and it was an economic disaster. You can't control prices, and the listeners know that. Imagine rent controls. Rent controls are going to make less supply available for everything, it's going to misallocate resources, etc. When we talked a year ago, I didn't think there was any chance of regulatory price controls. As we sit here today, I hope there's not a high chance, but you see the same things I see, which is this increased rhetoric about we need price controls. The last thing we need are price controls. The inflation that is occurring Willy, these high prices that are occurring are resulting from shortfalls in capacity, and the high prices are sending up flares, saying, "Bring capacity here". What price controls would do is eliminate the signals of "bring capacity here," which would really harm the economy. That's what really could derail us this year. I hope it doesn't, but if it happens, it'll be a disaster. 

Willy Walker: So, as we talk about price controls and we talk about inflation, you dive into the labor markets in great detail inside The Linneman Letter, and there's a recurring theme, which is that lots of elder Americans...

Dr. Peter Linneman: Careful, they're my age. (laughs)

Willy Walker: They're getting darn close to my age, Peter. But given the book that you and Mike are writing, as it relates to the Great Age Reboot, you and I are both living 100 years old, so it's all good. So, in it, you say older workers who were a couple of years away from retiring lost their jobs and have now retired and are not coming back to the workforce. But you, interestingly, also go to the other end of the spectrum and look at teen workers, 16 to 19-year-olds who came into the workforce at unprecedented levels. The numbers show from 1948 until today that the average unemployment rate of 16 to 19-year-olds in the United States has been around 17 to 18%, which dropped down to 10 to 11% since the pandemic. So, a huge number of teenagers have joined the workforce because they could get jobs that they were relatively underqualified for because nobody else was there to get them. And the second is they didn't have the unemployment benefits those older workers were getting from the federal government. And then finally, they were less afraid of the virus than older workers. But one of the reasons I thought your analysis of that cohort was so interesting is that there's been a lot of talk about the fact that once wages go up you can't pull it back. So, if John or Susan has gotten a raise from 15 bucks an hour to 18 bucks an hour, you're not going to go in and say, Guess what? You're now making $16, or you're going to lose them. But you point out that that lower cohort of workers churns in their jobs a tremendous amount so that if John or Susan is working for you and leaves, you do actually have the opportunity to reset the salary wage for the new worker coming in. You want to talk about that for a moment?  

Dr. Peter Linneman: One of the things people miss Willy, in general, is dynamism in an economy. When people talk about income distribution, they talk about the rich and the poor. Well, I was really poor when I was 19. I put myself through college and so forth. I was in the poorest 10%. I didn't stay there all my life. In the same way, the person you just hired for a $15-$18 an hour job they're not going to stay there forever. They're going to leave and go to college. They're going to leave and get another job. They're going to get promoted. If they are a good worker you are going to promote them. When that gap occurs and labor markets are more normalized, you'll go from $18, and their replacement will get 16 and a half. And then, as it normalizes further and that person rotates out, you’ll go from 16 and a half to $15 now plus inflation. Right. And people don't understand how dynamic the labor market is, how dynamic the economy is. Things are not static. And that's how the adjustment will occur.

The older side is different. Those people are gone, right? They're not coming back. But the news, 66-year-olds are still going to work two or three more years, or the new 61-year-old will work five more years. So, there was one time you just cut him off. And in fact, one of the best things Willy that could have happened may have happened to the economy. I haven't talked about this in The Linneman Letter. All those teens you're talking about that got dragged into the labor force, they got skills earlier than they would have otherwise gotten that are going to serve them well the rest of their work life. And you don't see it so much. Well, maybe you do. You know you hire young people; they don't have basic job skills because a lot of them have never worked. So, the good news about my era is I started working when I was 12 years old, so at least I learned you had to be on time, and you had it to do. And I made all the stupid mistakes, and you learned it early. The bad news was you were working at 12 years old. I mean, what kind of world is that, right? So, kids today, the good news is they don't have to do so much work. The bad news is they come in at 18 to 22 without those skills. That's a whole bunch of teenagers that have got skills that will serve us and them well for years to come.  

Willy Walker: In the past letters and in this one, you reiterate the fact that the consumer pocketbook is in really good shape. We are at the lowest household debt service ratio in 40 years. To repeat that, we're at the lowest consumer household debt service level in 40 years, and we have real checking deposits sitting at $8.4 trillion, which is $6 trillion dollars over the trend over the last 70 years. So, there's a huge amount sitting in bank accounts, and there are very low debt levels. So, you talk a bunch about the three million people who still haven't gone back to work that you'd expected to have gone back to work by now once the federal stimulus in unemployment benefits came back. If they got all this money sitting in the bank account, Peter, what's going to get them back to work?  

Dr. Peter Linneman: Ambition, wanting more, actually less ambition than wanting more. Right? Years ago, you do understand that all developed economies are “I’ll buy a bunch of shit I don't really need from you and pay you for it." And then you're going to turn around and buy a bunch of shit you don't really need from me and pay me for it. And that's how we do it, right? And do I really need WhatsApp? I mean, yes, it's good, but I don't need it. So, what's going to drive them back to work is they want nicer clothes. They want a nicer car. They want a nicer home. They want a better vacation. They want their kids to have a little better pair of shoes. And everybody in the economy fits that. Everybody. And that's what brings people back. I mean, it's that simple.  

Willy Walker: The other thing that you point out, Peter, that I think is so important is the fact that we are yield starved. There's a stat in The Linneman Letter that you brought up numerous times, which I have to repeat for everyone because until you hear it and think about its two implications of it, you forget why commercial real estate is such a great place to be. So, you put forth that 2021 personal annual interest income. So, what we were getting off of bonds, both corporate as well as government, was $198 billion, or 11.3% lower than it was in 2007, even though between 2007 and today, there is $15 trillion of additional corporate and government debt outstanding. And so, there are two things that I think are so important that I'd love to hear your comment on. One is, that the Fed cannot afford to let interest rates go up too much, or it can't afford to pay the debt service coverage on all of that government debt that has been issued. The second thing, though, is that the consumer is starved for yield, and they're not getting it on their checking account. They're not getting it from the bonds that they own. And therefore, a huge amount of capital is looking for a home in commercial real estate, where they are getting a current yield on their investment.  

Dr. Peter Linneman: And I finished your sentence by saying -- And if you go around the world, it's true pretty much everywhere, and in fact, in many places in the world, they are negative returns out of the box, negative nominal returns. So, your yield-starved is true. Think of it this way, Willy. Well, when I go back 15 years ago, the Treasury was at 4.5. Inflation was 2.5. I could get a 2% real return out of the box by buying a government bond. Now it may end up worse or better, depending on how inflation plays out. Right. But at least I thought I had it. Today, it's 1.7% and inflation, even if you believe, as I do, that it normalizes back down to 2 - 2.5%. It's a negative real return. I don't have a fighting chance of making money. And in fact, if inflation is 7% this year and I'm getting 1.7%, what is that? That's five years, five years of income just gone in terms of trying to keep up with inflation. Right? Just gone. My only chance of making a return is the last three years on the bond, if you will. So, what is real estate given that world and by the way, stocks have given that world, a fighting chance? At least I have a fighting chance. The investment I make in real estate may go wrong. I may lose money. I may not do great. I may do great. I at least have a fighting chance. You don’t have a fighting chance in the bond market. You just don’t have a fighting chance. So, if there are most people, one at least a fighting chance, so it's more dramatic than I think even you were implying. It's not only the relative return is higher. It's not only the relative returns higher, it's the only place I got a fighting chance to get a return.  

Willy Walker: So, all those deposits sitting at banks have made banks way over deposited, and you state in The Linneman Letter, banks are awash with liquidity, which we believe will ultimately come out chasing assets. This will cause stock multiples to expand and cap rates and bond yields to fall over the next three to seven years. 

Dr. Peter Linneman: Yeah, and the only thing is I can't be much more precise in timing because what I don't know is how fast the Fed from a regulatory point of view, stress tests in particular. I don't know how fast they let them have some of that money come out. And as you know, there's record amounts of money in the system, and I just believe a fair amount of it comes out over that time period that you said. And when it comes out, it will chase assets more than goods and services because the modern banking system is set up to lend to the businesses that are listening. It's set up to make large loans. Yes, they make credit card loans, but they make loans on houses. That's assets, they make loans on cars. They make loans to asset buyers and asset buyers buy assets from asset owners to turn around and buy more assets, right? And so, we saw this from 2014 to the pandemic beginning, cap rates went down, multiples went up, by and large went up. Cap rates by and large went down. Why? It wasn't random. It was not random. My research would show, my research would indicate, I don't want to make it sound like it's definitive of all time. My research would indicate that statistically, as well as intuitively, the weight of money determines cap rates and multiples and the intellectual experiment I do. And I think we republished it in the current Linneman Letter. The intellectual experiment is really simple. If I told you a year from now, twice as much money will be invested in commercial real estate as is currently invested. What will cap rates look like a year from now? And the answer is massively lower. We could argue about how much lower, but massively. Now I'm not saying we'll have twice as much money. My point is it drives home the intellectual point. It's not about what the interest rate is. It's not even about what inflation is. if you've got twice as much money chasing it, it's going to bid up prices, which is lower cap rates. 

Willy Walker: I want to read something from The Linneman Letter that I think is really important for listeners to hear where you state, "We continue to believe that the real opportunity today is to underwrite cap rates falling over time due to the eventual weight of QE infinity lending. Unprecedented money in the system leads to unprecedented pricing. You go on to say, we expect a repeat of the asset price inflation we witnessed from 2013 to 2019. And finally, to try and send that message home to your readers, you write, despite the historical precedent to the contrary, we also expect the second decade of buyers thinking, "surely cap rates will go up”, even as they compress.”

Dr. Peter Linneman: Yeah. And by the way, I was one of those people a decade ago, right, who was saying, it can't last, it can't last. And it kept lasting, cap rates kept coming down, cap rates coming up, and I started going, what's going on? And I really started looking at the data. I really started thinking about it, and I realized, just take for example, in 2007, cap rates were essentially the same as in 2019, right? Just roughly right. And yet, in 2007, interest rates were above 5%, both on the long and the short, and in 2019 they were both basically below 3%. Right? Well, if interest rates are determining cap rates, how did that occur? Right. Well, what did they have in common, it wasn't interest rates? What they had in common was a lot of money chasing, a lot of money. I don't mean that in a bad sense. If money is put in the system, it chases. And I am a Milton Friedman student, and so when you put in a lot of money, whatever it chases will go up a lot in price. And what it chased in the 70s tended to be goods and services and assets. What it chased in 2013 to 2019, and I think it will chase again, is assets, and goods and services.  

Willy Walker: So, you calculate that the banking system today can lend $39.9 trillion dollars as of October 2021, and that's up from a previous record of $25.8 trillion. So, you got $14 trillion of additional lending capacity sitting in the banking system today. Does anything get in between that money being in the banks and getting out to businesses and assets entering the economy? 

Dr. Peter Linneman: From a true regulatory point of view. They could lend what I say. What keeps them from lending it and what kept them from lending all of it back in the 2013 to 2019 window was stress tests, which are not statutory, but they are regulatory, and they kept banks from doing it because you had to pass a stress test. Now, did you literally have to pass a stress test as a bank? No, it's that if you didn't pass the stress test right after the news and the newspaper was, you failed your stress test, you would have to go out and raise more capital. Well, that's unappetizing as a scenario, right? So, they never stopped the banks from lending it. What they did was say, but if you fail the stress test, we're going to make you raise capital right after telling the world, we think you aren't safe. So, the banks kind of tiptoed around and avoided and tip toed around and pushed the envelope, and they kept lending more and more as long as they could pass the stress test. So, what's keeping it in is the stress test, and what will keep it in a bit longer? A stress test. And remember, the Fed changes the stress test parameters all the time. And as a bank, you don't know what those parameters are. You simply know if you fail or don't fail, and the punishment is big if you fail. It's a little like saying, "Willy, I'm not going to tell you what the tax laws are, and I'm not going to tell you what the tax rates are. But on April 14th, you've got to pay your tax bill, and if you underpay, there's going to be a big penalty." That's what it amounts to. And it's not the greatest regulatory model, truthfully, and it probably reflects the fact that Congress could never come up with a real regulatory program to make that happen. So that's where we are. 

Willy Walker: So, in a rising interest rate environment and with the banks fully overfunded, if you will, owning bank stocks, a good place to be? Just a quick question. We don't need to go into that in great detail, but it sounds like bank stocks are a good place to be. 

Dr. Peter Linneman: They'll get more business. They'll get it at higher rates. They can offset their overhead better. I don't think rates go up huge. Their spreads will narrow a little. Right? Normally, when interest rates go up 100 bps, what? You're the expert. If I told you, the base rate went up 100 bps, and the economy is good. Spreads will absorb what, 20 bps of that probably lending spreads. Historically, the other 10 bps of it, so it doesn't fully translate. So, yeah, I think banks are a good place to be. They got free money, for God's sake. Wouldn't you have liked to have been given what the Fed gave to the banks? Now they gave a tool with a lot of restrictions. Right? But my God, they gave them a stunning amount of money for free.  

Willy Walker: So, talking about getting a lot of money for free, we also have the American consumer who is sitting on a ton of money. As we said, there are almost $9 trillion sitting in banking accounts across the country that consumers have access to. One of the things that you were very prescient on was the fact that brick retail was not dead and that even though all of us thought that Amazon and UPS and FedEx delivery trucks were the only retail we were going to see for the rest of our lives during the lockdown, in the depths of the pandemic, you continued to say brick and mortar retail is not only not dead, it is thriving. And if you look at the brick retail numbers for the month of November 2021, brick was $525 billion, 14% above the pre-COVID peak of $460 billion. And to add to that picture of historically high brick retail numbers, e-commerce in Q3 of ‘21 dropped down to being only 13% of retail sales. And so, it had gone almost up to 20. And then now that came back down to only 13% in Q3. What's your outlook for e-commerce and brick retail going forward, Peter?

Dr. Peter Linneman: So, I think e-commerce, if you look at as a percent of non-auto-related retail, I think the trend continues at least another five years, and it is an increasing trend. I did the math. I think it's something like 40% of incremental real retail sales growth goes online. Think about it, they have 15% of overall sales and they're getting 40% of incremental sales. So, I think that continues. But basically, six and a half out of every seven and a half dollars of retail goes through brick. And the fact that online is growing faster than brick doesn't mean brick isn't grown. And the best thing that happened during the shutdown and during the pandemic to good retail is it pushed a whole bunch of bad retailers out of business, and it pushed a bunch of bad retail centers out of business. Now, why is that good for good centers? Because it means those sales are going to go through them rather than some poor retailer who stumbles and stays alive. The capture is better. That's competition at work. So, in an odd way, obviously, it was painful to go through for everybody. But very few of the major bankruptcies or the major go out of business that you saw in retail during the pandemic, most of those retailers were going to go out of business anyway in the next two or three years. It's not unlike those retirees, the baby boomers; they were going to retire in a few years. Most of those retailers were on watch lists and were on death's door, and all the pandemic did was speed up the death for those businesses. If you have strong retail, that meant you got your space back, and as the economy picks up, you'll rent it out to a more viable retailer. A lot of work, a lot of brain damage, a lot of risks, but you'll end up with a stronger center if it's a good center. The bad centers are struggling. That's what competition should have happened, right? Which is a bad center should struggle and die. Unfortunate but true.  Milton Friedman had a wonderful statement once; I remember sitting in his class and Milton made this statement. "Any system, any economic system can create winners, communism, cronyism, any system can create winners. Only capitalism can fairly create losers and we need losers".  

Willy Walker: So, as people are spending money at the malls, they are also spending increasing amounts of money on oil and gas. So, let's talk for a moment about oil and the price of oil. You make a comment at the beginning of this quarterly letter that Western economies are, "sabotaging their recovering economies at the global warming altar." And I was in New York last month with JP Morgan's chief economist, Michael Cembalest, and he made a similar comment, saying that government regulation was pulling back exploration and extraction of fossil fuels long before our economies need for fossil fuels is reduced sufficiently, which is setting up a classic supply-demand imbalance, which is going to drive oil prices up precipitously. And we've got right now oil sitting at around $65-$67 a barrel. Given what you said at the beginning of The Linneman Letter and where oil is today, Peter, what's your projection for the cost of crude over the next two to three years as we have this supply and demand imbalance coming into our economy? 

Dr. Peter Linneman: So, oil? Well, my number one projection is it will be volatile. And if you look at the history of oil, it's a very volatile phenomenon, and that will continue. Going back to 1960 and calculating the real price of oil today is just slightly above the real average, with tremendous volatility around that average. So, by historical standards, it's not that high. You add to it that for the United States, we're roughly oil neutral. We import some. We export some, where roughly. So different parts of the country are not neutral, and Houston benefits from high levels and, in other places lose. So, I think we'll see a lot of volatility, and that volatility will be between about $60 and $80 a barrel. And you say, well, that's a big range, not compared to the historic volatility. That's not a big range. That's the nature of that asset because it's political. It is aspirational. It's not going to derail the economy. In fact, it'll help parts of the economy and hurt other parts. My comment about sacrificing at the altar of climate change actually is really true in Western Europe. They're doing crazy stuff. They've been doing it now for five years, and their energy prices are showing it. And it's not that something shouldn't be done. You don't need to do it at all now. This is a long-term problem. It is moving very slowly. We can deal with it very slowly. We're going to innovate and so forth. It would be as if you were, by the way, in all likelihood, you're going to have cataract surgery at some point in your life, right? In all likelihood. But don't go get it done now. Right? That would be stupid. It is going to be a problem. Take care of your eyes in the meantime. And yes, you will get a vision reboot from cataract surgery. But there's the risk of surgery, right? You don't want to do needless things sooner than you have to. By the way, you certainly aren't going to take a 20-year-old and go get cataract surgery and put in artificial lenses. That would be stupid. You'll deal with it as the time comes. And you know, all of what you talked about with Mike, time is on your side. Medically, that was one of Mike's points, right? Time is on your side. Let the advances occur. Let the innovations occur. Don't do them prematurely. Let the innovations occur and take advantage of the innovations. That's why you wouldn’t do cataract surgery today, right? Because they're going to get better, and maybe it won’t be surgery. Maybe it’ll be genetic, right? Maybe it’ll just be a pill. Wait and see when you’re 68 or 70 and have it done. So, it's not that you won't have it done or that it's not a real problem. There's a time to react to things, and you want to have innovation, have as much time and opportunity as it can before you force an artificial decision.  

Willy Walker: So, you reintroduced in this quarterly letter your MSA Alpha Beta analysis, which you haven't done in quite some time. And it's a fantastic view of varying markets in the United States and where we are seeing economic growth and where economic growth is tied to the broader growth of the economy and where economic growth is not that directly correlated. And the beauty of the analysis, at least from my perspective, Peter, is that you go through and look at those cities that have alpha, where if the economy is flatlining as it relates to job growth, they are creating jobs on their own. And then there are those cities that have what you look for in a low beta so that when we go recessionary, they lose the least number of jobs. The easy way to look at that is Washington, D.C., because it's got the government establishment. It's not going to lose that much employment during a downturn. And your analysis of the alpha and the beta, I think is so interesting because you go through and look at the high alpha markets, the low beta markets, and then you find that crossing point where you can sit there and say that's got kind of the perfect mix of uncorrelated job growth. And yet at the same time, when the economy stops, it doesn't stop like Las Vegas did during the pandemic, where the only reason that Vegas grows so fast is because of entertainment and the moment entertainment goes away -- Vegas falls really hard. Talk for a moment about what that analysis told you as it relates to the best places to invest in America today. 

Dr. Peter Linneman: It's on page 59 of this issue are these alpha betas 60 shows the break point that you are talking about. What it really says is that if you're bullish on the economy for the next six or seven years, which I am, I think by the way, if we'd have held this session literally two years ago before the pandemic was known, all of our conversations would be: When are we going to go down? When are we going to go down? When are we going to go down? Right?  

Willy Walker: So, buy low beta markets, right?  

Dr. Peter Linneman: Did you buy low beta? Right. So, what happened was the shutdowns of COVID. We got a reset, right? We wiped out lots of the weak players. We got a new baseline for another seven to 10 years of growth. We have a runway, and we have capacity to build back. We have labor that's not fully employed. Our manufacturing is not back to its previous peak, et cetera. OK. My view then says the U.S. economy is in for a real good next two years and probably a good next seven. That would suggest to me I'd like to have a high alpha because I'd like to have growth if I'm wrong. But I'd also like high alpha, and I'll take on the high beta, at least for a few years, because I really get turbocharged by that. So, the Orlando's, the Atlanta’s, I'm going off to my head, the high, the high betas, Vegas, high beta. I would take those on as long as I'm going to invest five, six, seven years because I think you're in that growth window. That's where I think you get a lot of growth. Now you're also getting a lot of supply there. So just because you get growth, you get a lot of absorption, but it doesn't mean you don't also get a lot of construction. But that's the way I use it is the alpha. When I'm feeling defensive, I want high alpha and low beta, which is Washington, D.C., for example. When I think I've got a lot of runway looking out for growth, I'd always like to have good alpha. But it's beta, beta beta.  

Willy Walker: One of the other things you state in the letter is that a good single-family housing market and a good multifamily housing market are not mutually exclusive. And you give some really interesting examples about things that work together to create more supply and a bigger market. But one of the big issues you also focus on is housing affordability. And if you look at the price appreciation that has occurred in the single-family market, you point out that the median home price of existing stock is now at $353,000 almost $354,000 in November of 2021, up 14% from the previous year. And that new construction home prices are even higher, with new construction homes hitting a median price of $416,900 in November. I read a data point outside of your letter, Peter, that was talking about the fact that a year ago today, 30% of the housing stock being developed was at a price point of below $300,000, and today that's dropped down to 13% of homes being developed today or below $300,000. And so, it's very evident that in the single-family housing world, entry-level single-family housing, either existing or to be built, does not exist. And so, anyone hoping to jump from rental to the housing market can't do it. At the same time, you also talk about the fact that right now on the multi-side, we are just slightly above trend as it relates to new deliveries of multifamily, which says to me, it's sort of a perfect world for home builders and for owners of multifamily in the sense that the home builders are building to a higher price point and probably making higher margin on a per unit basis on selling those homes at $450,000 rather than $350,000. And because there is such a delta between rental and single and people can't get into single, and there's a limited supply on the multi-side that owners of multi can continue to push rents. Is that a proper summary?

Dr. Peter Linneman: There's a fundamental shortfall of production of housing in the United States, particularly in some micro markets. Really fundamental shortfalls. Prices go up. I mean, economics isn't that hard. If supply lags demand by a good amount, prices will go up. And that's what's happened. And it happened broadly. Not every market, not every submarket, but broadly. And it's happened for some time. It's not just been the last year. Yes, the last year been a big surge. But home prices have been outstripping, and rents have been outstripping inflation now for the better part of a decade, other than during the down blip of COVID. And that's because of the fundamental under production and the fundamental under production of single-family helps multifamily. How? It helps because yes, the monthly is higher, but that monthly is going to be higher in multifamily as well. But it makes the down payment harder. You know, think of the down payment on a $300,000 home versus a $400,000 home. Or a $200,000 home versus a $400,000. You just eliminated a lot of people who don't have enough savings. 

By the way, Harrison LeFrak sent me something yesterday that I was unaware of. (If you're listening, I apologize if I don't give the data right.) But a recent survey says something like 20% of all first-time homebuyers are using cashing out crypto. And you think about these are young people and they're into crypto as what they're using to get ready to buy their home is a little nuts but put that aside. But it just shows that they're wagering, if you will, hoping to get a down payment. So, the down payment is the real issue. And in fact, I know you and I have spoken about Zelman, and I have a lot of respect for the work she and her team do. I mean, they're very thoughtful people. And I think on one of your shows, she argued that we're heading into a period, not that we're in a period, but that we're heading to a period where we'll have overproduction and someday we might, but not now. And when people say, well, how do you square? You're under production with Ivy Zelman's statement that we've got overproduction? They're saying we will have at some point, and that's a big difference. My proof of underproduction, Willy, is that for the decade, single-family home prices have outstripped inflation by a good margin, and multifamily rents have outstripped inflation by a good margin. That doesn't happen if you have too much supply.  

Willy Walker: Let's shift in our limited time left to office and retail because I was very surprised with something you wrote in a letter Peter, which was: "retail and office rents will show improvement in the first half of 2022 and really pick up steam in the second half". And you predict that "35 of your 46 tracked office markets will be back in balance by the end of 2023." What do you see in the office market that I am not?  

Dr. Peter Linneman: Well, it all depends on do people come back to the office? It's that simple. If I told you by June, 80% of the people are back in the office.  

Willy Walker: Yeah, but I don't think 80% of the people are going to be back in the office by June, but that's why I think that your 2023 numbers are wildly optimistic.  

Dr. Peter Linneman: That's what I'm seeing. So, I mean, the simple answer to your question is, I think people come back, and I think in an odd way, Omicron is going to speed that up because so many people have gotten it. So many people have gotten it mildly. I had it. My wife had it. Mine was like the flu for four days. My wife has had a cold for four or five days. Not fun. I'm not trying to say, go get it as a result, but now you have natural immunity in addition to boosters. And we got the antibody infusions. I'm just swimming in the antibodies at this point. I think the fact that so many people have gotten it, and they've known people who've gotten it have said, OK, what's my excuse for not going back to the office? Well, I've been working remotely almost the entire time because I didn't want to be around people. Now from all the epidemiological, the chances that boostered and just over a bout of COVID, the chances that I would get COVID in the next five to seven months are really remote. Why am I working remotely? Because it's convenient.

Willy Walker: That's my big issue; it's convenient. From my standpoint, I was pushing really hard to get back to the office by September and Labor Day and then Delta hit, and we pushed it back. And I think, I mean look. I'm going to visit the new office space on Monday, and I'm not sitting there saying we don't need a new office in Denver, Colorado. OK, so I'm committed to having office space, but I am also right now very much in a wait and see mode as it relates to how much office space people need and how they want to use it. Because I think exactly what you were just talking about, Peter. Is it the crux of the matter, which is just that you're not, not in the office because you're fearful of the virus? You're not in the office because it's more convenient to work from home. And so, I think that this hybrid model that we're seeing just puts a big question mark, not whether people are going to continue to use offices, but how much and how much space they need. 

Dr. Peter Linneman: OK, so let me give you my anecdotal argument for people coming back to the office. One of the most popular TV comedy both in the United Kingdom and the United States was The Office, the two variants by Ricky Gervais. Dunder Mifflin was the U.S., I can’t remember what the UK was. One of the reasons they were so resonant is that everybody knows what it's like to work in an office where all the people do is figure out ways to screw off, including upper mid-level management, right? That was the whole premise of the show, and we all looked at it and went, Oh yeah, that's Tim. Oh yeah, that's Barbara. And that was part of the joke. That was Ricky Gervais’s great insight. Now, imagine Ricky Gervais writing The Home Office comedy. If it looked like that when they were there, and some sense of discipline and said, what do you think Ricky Gervais’s comedy series, Home Office, looks like and don't you think a whole lot of people recognize it when he writes that show? That’s my argument. My argument is simply a productivity and convenience.  It was never convenient to go to work. It was productive to go to work. So, what I would do is, say to every listener who thinks they won't go back to the office, go watch a few episodes of The Office and ask yourself, what is Ricky Gervais's version of The Home Office? And I think you're going to get your people back. All right. 

Willy Walker: So, I will say just one quick thing, which is that I had never gone on a cruise before but had watched the Love Boat my whole life and still figured out how to find love in my life. So, I would only say that you don't have to have worked in an office and have some humor, both at home and in the office. But before we completely run out of time on this one and I love this debate, you interact with a huge number of extremely well-capitalized, extremely smart real estate investors on a very consistent basis. Where's the smart money going right now?  

Dr. Peter Linneman: I would say it's starting to come off the sidelines. It was still largely on the sidelines a year ago, figuring I don't have to hit a home run. I'm happy to hit doubles and triples. I think it's starting to come off the sidelines. It's going industrial because there's a lot of growth potential there. We've talked before about the three to one factor, and I describe that again in The Linneman Letter, multifamily because of the fundamental underproduction, single-family rental, because of the fundamental underproduction, still not back to office, because exactly our debate. I think coming back to really good quality retail coming back, and good hospitality it's coming back too. I think it's still questionable about weaker hospitality. But if I have the better stuff, at least in the major food groups, development is pretty much still industrial, multifamily. You know, it's occurring there with smart money.

If you were to ask me what is the year 2022 going to be known for by the end of the year, it's going to be the year of normalization -- of jobs, of health, of going back to the office. It's going to be the year of normalization and many things. Not 100% normalization, but normalization. So that's what I think people are betting on. I think the smart money is now starting to bet on normalization.

Willy Walker: U.S. versus foreign thought that the U.S. is going to have herd immunity quicker and better. Do you stay home right now and don't go abroad?

Dr. Peter Linneman: Well, you don't go to Mexico, you come from Mexico because that's not looking good. I don't think you want to go to eastern Ukraine. I don't think you want to go to Russia. I don't think you want to go to Afghanistan, China. I don't think so. I think the U.S., with all its problems, is the most attractive place. And you say, well, what about other places in Western Europe? We touched briefly that they've got a disaster on their hands with the energy stuff, and they just try to do too much too soon. They're not going to collapse, but it's a problem. So, by the way, I would include Canada (I know Canadians get upset when we say it's like the U.S.), but I would include Canada as an attractive place. The U.S. is an attractive place, event with all our problems. I go back to what I said to start with; Willy, if the U.S. could weather all it's just done, and be where it is at, I want to be there when it's not facing all that crazy stuff. 

Willy Walker: With that as the last word, Peter, once again, thank you, fantastic. Thank you, everyone. We had a huge audience today. Greatly appreciate everyone tuning in. I'm back next week with tennis legend Jim Courier live from the Australia Open, talking about everything from professional tennis to what's going to happen to Novak Djokovic and whether he's going to stay in Australia or come home. 

Peter, thanks. I hope everyone has a great day and takes care. We'll see you next quarter.  

Dr. Peter Linneman: My pleasure, Thank you Willy as always.

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