Raymond Trotz, Director, at HypoVereinsbank AG, and a representative from Germany on the International Valuation Standards Committee (IVSC) Management Board, spoke on the significance of real estate valuation to the financial sector with emphasis on calculating the mortgage lending value (MLV) or a value at risk approach. He estimated that 1,000 billion Euro in global direct and indirect real estate volume to be valued each year in the financial sector. If only 10% of these valuations were incorrect due to poor valuation standards, lack of market knowledge, or poor training in real estate valuation, the ‘damage’ to the global economy would be in about 100 billion euro year on year. Clearly, there is a need for the utmost in professional competence for the international valuation of real estate, which is the reason why some European lenders are requiring an estimate of mortgage lending value versus market value.

 

Mortgage lending value is based on the fact that the value of real estate does not always go up, as assumed in most computer software used to value income producing real estate.  The lenders in Germany acknowledge that real estate value moves in cycles and want protection for the decline in value that has always occurred after real estate booms.

 

An example of these changes in value was provided in a roundtable discussion in the June 20, 2006 issue of the California Real Estate Journal.  Schnell noted that high-rise office buildings in downtown Los Angels sold for $100 per sq. ft. ten years ago and that prices are now approaching $400 per sq. ft., but that there has not been a commensurate rise in rental rates.  As a case in point, an example was given of a building built in the mid '80s in downtown that cost $50 million to build. They then sold it for $86 million. The next buyer paid $20 million. The next buyer paid $43 million. It is now for sale for $75 million.

 

The lender requiring an estimate of MLV would want to know that this property previously sold for $20 million and, in all likelihood, would want to know the prospects that its value will return to that level.  This lender would provide financing at a percentage of this lower limit of value, not at the value 400% higher at what may well be the top of the cycle.  The regression to the mean interest rates could have devastating effects on real estate market.