Milwaukee's economic recovery will continue to gain ground,supported by a moderate and sustainable pace of hiring. Based onrecent trends, job creation will reach 3,800 new positions in 2010,an increase of 0.5% from 2009, matching the forecasted nationalgrowth rate. Though gains have been relatively modest, theresumption of employment growth this year remains a welcome changeafter losing a combined 65,000 jobs between 2008 and 2009. Themajority of employment sectors in the metro area have eitherstabilized or resumed growth as of the third quarter. Year-to-datein 2010, expansion has been most robust in the leisure andhospitality segments, and a recent decision by Harley-Davidson toremain in Milwaukee should preserve jobs over the extended outlook.Additionally, the impact of the housing market downturn on thelocal economy has been moderate when compared to other marketsaround the country. As of Q3, the median existing home price in themetro area was within 10% of peak levels, compared to a drop-off ofroughly 25% nationwide.

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Commercial real estate fundamentals softened across propertysectors in recent years but appear close to stabilization. So farin this cycle, the volume of properties falling into distress hasbeen limited in the Milwaukee marketplace, a trend that shouldcontinue as capital markets ease further in 2011 and strengtheningjob growth ultimately gives way to recovery in operations. As oflate September, known distress in the local commercial real estatemarket totaled $354 million, ranking at the bottom when compared toother Midwest markets. For perspective, known distressed dollarvolume in the city falls behind Kansas City by more than 25%, St.Louis and Minneapolis by approximately 50% and 70%, respectively,and is 95% short of levels reported in Chicago.

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A relatively small correction in home prices through thedownturn has kept homeownership out of reach of many localfamilies. This has limited the loss of renters to the for-salemarket and helped to keep apartment vacancy within a relativelytight band throughout the recession, which in turn has minimizeddistress. As of third-quarter 2010, apartment vacancy in theMilwaukee metro area stood at 4.8%. This figure is well below thenational vacancy rate of 7.2% and just 110 basis points above themost recent low point, the US vacancy rate remains 170 bps higherthan its last cyclical trough.

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Some softening in occupancy may occur in the final monthsof2010, particularly in the class A sector, as a significant amountof new supply comes online, however, growing employment rosters anda thinning construction pipeline next year will ultimately give wayto vacancy reductions and rent growth. Transaction velocity inMilwaukee will receive only a modest boost from distressedapartment sales, with REO listings likely to remain low in thecoming months. While apartments account for the most significantshare of distress reported in the marketplace through the downcycle, few troubled loans remain unresolved and CMBS apartmentdelinquency currently rests at zero.

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Market wide, relatively low vacancy rates, steady rents and theresumption of job growth will bolster apartment investments overthe next several months. In-state buyers will likely continue totarget operationally sound properties in the near-in City Eastsubmarket and affluent areas in suburban Waukesha County. A handfulof

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distressed properties will trade, though these assets typicallycontain 30 units or fewer and are priced between $35,000 and$45,000 per unit, compared to the overall median of almost $50,000per unit.

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Through the most recent economic downturn, the local officesector experienced the sharpest increase in vacancy of the corecommercial property types, and it now accounts for thesecond-largest share of distressed dollar volume in themarketplace. Since late 2007, office vacancy has spiked 660 bps to19.7%. While asking rents declined by only 2% over the same period,concessions have skyrocketed, resulting in an 11 % drop ineffective rates.

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Despite this weakening, overall distressed office dollar volume,in absolute terms, remains somewhat limited in Milwaukee whencompared to other major markets across the nation. Furthermore, thelocal CMBS office delinquency rate currently stands at less than3.5%, well below the national rate of 6.6%, suggesting REO activitywill remain minimal over the near term. There have been owners whoran into challenges in recent years due to softening fundamentals,but only a few have resulted in reported distressed property sales.It also remains unlikely that distressed office sales will claim asignificant share of velocity over the next year, though a fewmedium-sized deals could emerge based on the roster of troubledassets. As of the third quarter, most of the properties considereddistressed ranged in size from 100,000 to 300,000 square feet,while those already reclaimed by banks were much smaller, at around50,000 square feet or less.

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After climbing in 2008 and early 2009, retail vacancy has heldrelatively stable over the past 18 months, hovering around 15%.Rents have continued to decline, however, and effective rates inthe market currently fall 7% below their most recent cyclical peakof a few years ago. Nonetheless, distress remains minimal in theMilwaukee retail market, and the majority of trouble can beassociated with maturing debt as opposed to operational issues.

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Within the CMBS sector, just one loan is in foreclosure, andonly one Milwaukee property has been reclaimed by its lender.Another two loans have fallen behind by 90-plus days, while threeloans have encountered problems due to balloon payments that becamedue upon maturity. While distressed retail property sales remainfew and far between, multi-tenant sales velocity has surged in 2010after stalling for much of last year. More buyers have emerged toacquire well-located shopping centers anchored by grocers or diningestablishments with guaranteed leases, both at cap rates above 8%.Meanwhile, the lack of REO properties has encouraged moreaggressive multi-tenant investors to take on high-vacancy listings,where buyers with management and leasing capabilities can achievedouble-digit first-year yields. Single-tenant investors are seekingproperties with slightly elevated risk and cap rates, targetingassets occupied by top-notch, national-level tenants in secondaryand tertiary submarkets, as initial yields in these areas currentlyaverage around 7.75%,50 bps to 60 points higher than those forsimilar infill product.


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