In the real estate investment trust world, the motto right now is "Build, baby, build"-not skyscrapers. Not malls. Not green bungalows on Park Place.

No, right now REITs have to build capital. And fast.

Empty skyscrapers dotting the landscape have always offered the most piquant symbol of economic collapse. After it was finally finished in the early 1930s, the Empire State Building became a half-empty sentinel standing over Manhattan, a reminder of the hubris of the long-gone economic boom of the 1920s (a project redeemed at first only by its observation deck tours and its featured role in King Kong). Later, there was the "Intel Shell," a half-finished Intel building in Austin, Texas. When the tech bubble burst, the company halted production in 2001, but the five-story building continued to blight the city skyline until early 2007, its rebar tentacles waving in the air, until it was finally dynamited while crowds cheered on.

It wasn't supposed to happen this time. Putting aside for a moment the overheated housing market, the bull years of the mid-2000s were not so much characterized by the rampant overbuilding of new malls, hotels, office parks and skyscrapers, say portfolio managers. Because supply was in check, some believe REITs should have been in a better position to weather a downturn.

But then came 2008. Not only were REITs slaughtered like everything else, but they dipped even farther and faster than the S&P by some measures. The SPDR Dow Jones Wilshire REIT ETF fell 42% for the year. Those declines quickly wiped out much of the breathtaking 328% returns the sector experienced from Jan. 1, 2000, to the end of 2006. From that peak in February of 2007, the index had lost 60% of its value by the end of 2008.

As it turns out, the cheap debt that has undone other sectors of the economy has stained the hands of REIT owners as well, and the sector is awash in leverage these companies are now struggling to cover at the same time the economy sours and rents plummet.

A case in point is the stunning crash of General Growth Properties, one of the largest mall owners in the country with more than 200 shopping centers. The company declared bankruptcy in April after its stock price dived by a vertiginous 97% in 2008. The reason for its Chapter 11 filing was not that it lacked cash flows, say portfolio managers, but that it had so laden itself with debt it could no longer refinance it all.
Southern California office space owner Maguire Properties is another company facing enormous debt maturities in 2009, enough that Morningstar has given both it and GGP zero fair-value estimates.

"General Growth is basically one of the worst, if not the worst, in this space," says Morningstar equity analyst Joel Bloomer. "Their issue was
being overleveraged and having a lot of debt come due at the worst possible time. Maguire is very similar to General Growth. They just way over-levered kind of at the peak of the bubble, and they paid too high of a price with a huge amount of debt for properties they acquired."

Other REITs, using the lubrication of easy lending terms to pursue growth, are now going to have to spend time bulldozing the bad stuff off their books-at a time when banks have frozen lending and are not as liable to refinance.  

Meanwhile, the bad economy has crimped need for retail space, hotel space, and office space, making for scarcer occupants, pruned rental income and diminishing real estate value. Thus REITs have been whipsawed, finding themselves having to go out and find more loans when the value of their collateral has fallen. The regular method of rebuilding capital-dumping property-is hard to do when everyone's got buildings on the block.

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