The Other Shoe

rudin new shot The Other ShoeAlmost from the moment that the financial industry entered its tailspin a year ago, landlords and developers began to sound the warnings that commercial real estate would be the other shoe to drop in the economy. Then early in the Obama administration, regulators threw the real estate industry a bone, expanding a financial rescue program, the term asset-backed securities loan facility (TALF), to commercial-mortgage-backed securities, thereby muffling calls for a broader industry rescue.

But since, there has been a gradual crescendo of calls for greater intervention by Washington, with property owners and industry groups insisting that a destructive crisis still very much awaits—that is, unless the arms of government come in to cushion the impending blow.

It seems they’re being heard. Top economic officials in the Obama administration have begun to publicly suggest that further action will be needed for the commercial real estate industry.

The push on the subject comes mainly in the form of two separate—but not unrelated—efforts: to mitigate the pain on lenders when the loans for buildings that were traded at absurdly inflated prices come due; and to prevent the plethora of overleveraged apartment buildings from tumbling into disrepair as owners fall behind on debt payments or enter foreclosure.

By the numbers, both issues stand to be highly problematic without—and probably even with—government intervention, particularly for New York City, given that many of the lenders are based here, as are many of the overleveraged buildings. A Deutsche Bank report estimates that at least two-thirds of mortgages in CMBS that mature by 2018—accounting for $410 billion—are unlikely to qualify for a refinancing, risking default. The riskiest are those for buildings traded at the market’s peak, in 2007: Deutsche Bank estimates “well in excess” of 80 percent of the loans from that year are unlikely to qualify. 

And a recent report by the Citizens Housing & Planning Council, a think tank for housing issues, estimated that close to 100,000 apartments in New York City are in multifamily buildings bought with loans that have values greater than the buildings are now worth. This is the case with buildings across the city, from Stuyvesant Town to complexes in the South Bronx, where buyers paid prices far greater than the money from current rents justified, banking on hopes that rents would continue to shoot upward. There is concern that once these loans mature—or sometimes before—building owners will stop spending on maintenance, particularly if there is a lengthy foreclosure process, opening the door for a contagious downward spiral of housing disinvestment that was last seen in 1970s New York.


TO THIS END, VARIOUS business and housing groups are trying to craft palatable responses by the federal government, and are supporting existing legislation that would put federal money toward stabilizing some multifamily properties.

“We saw it coming down the pike as yet, potentially, another emerging problem that Congress was going to end up feeling a lot of pressure from,” said Kathryn Wylde, president of the Partnership for New York City, a group working on the issue that represents banks and large businesses.

“We saw the toxic assets were being treated as if they were pieces of paper or financial obligations,” she added, recognizing that a different response was needed for buildings where people live.

Working with a group of housing advocacy organizations including the Citizens Housing and Planning Council, the Partnership has enlisted the city’s former president of the Housing Development Corporation, Emily Youssouf, to propose some fixes that Washington could apply to address the issue.

Ms. Youssouf, who has been discussing the issue with the New York congressional delegation and federal and state agencies, said her focus has been on offering ways to get toxic apartment building loans refinanced at realistic values. By using and expanding existing programs so more loans on multifamily buildings can qualify for government backing of some sort, she said, banks would have an incentive to write down their holdings to the actual values, rather than keeping the old loans—with their unrealistic values—on their books.

Similarly, those pushing for more government assistance in the broader commercial real estate industry, of which multifamily buildings are a part, are looking to expand TALF and other programs, as without more action, all the forthcoming debt expirations could topple more banks and other lenders.

“This problem is going to keep getting worse,” said Bill Rudin, chairman of the Association for a Better New York and a major New York landlord.

There already seems to be a broader fatigue with putting additional government money at risk to cover private-sector losses, a clear obstacle to anyone pushing for starting new rescue programs.

So why should financial institutions get another round of government intervention—why not let the banks eat the losses? The argument by Mr. Rudin and others who want federal help is that lenders still cannot afford to take such losses, and the economy will be further destabilized as loans default and foreclosures mount over the next three or four years.

“TALF isn’t enough,” he said. “There needs to be other mechanisms to bring back liquidity. There needs to be some broader guarantee, backstop facility.

“If you don’t do this, you’ll waste the hundreds of billions of dollars,” Mr. Rudin said, referring to existing government money that’s been used to try to stabilize the economy.


WITHIN WASHINGTON, THE REAL Estate Roundtable, a trade group, has been pushing to extend TALF to the end of 2010—it recently was extended to March—along with other measures, including tax relief.

Of course, it’s not as though the Obama administration has ignored the issue. TALF was just extended in August, and on Sept. 15, the Internal Revenue Service changed a tax rule involving real estate mortgage investment conduits (REMICs) that makes it easier for some landlords to renegotiate and extend troubled loans.

But in recent weeks, it seems that federal officials have been preparing for more action on commercial real estate. Several top Obama officials publicly sounded alarms about the commercial real estate sector in various public appearances in September, noting that the problem is one that particularly affects smaller and regional lenders, which hold a good amount of the debt.

“It appears to be a problem whose locus is less towards the major, most systemically important financial institutions, and more toward regional and smaller banks,” Larry Summers, a top White House economic adviser, said of commercial real estate problems at a speech at Georgetown in mid-September.

“It is obviously something that is going to require—that has required and is going to … receive attention,” he said.

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