The Manhattan office tower Blackstone had bought for $605 million in 2014 and abandoned 2 years ago finally changed hands for $200 million, which paves the way for a complex new beginning.
By Wolf Richter for WOLF STREET.
Two Years Ago, in March 2022, Blackstone indicated that it would no longer make the interest payments on the fixed-rate interest-only $308 million mortgage on a Manhattan office tower it had bought in 2014 for $605 million. The 26-story tower at 1740 Broadway was built in 1950 as the iconic headquarter of Mutual Life Insurance Co., which vacated the building in 2006. The building was then renovated and leased.
In 2015, Blackstone had obtained the $308 million mortgage from Deutsche Bank, which then securitized the mortgage into a single-asset commercial mortgage-backed security (BWAY 2015-1740) and then sold these CMBS to investors.
So after the $308 million in cash it had obtained from the mortgage in 2015, Blackstone had $297 million left in the tower.
By March 2022, the two largest tenants – L Brands, with 77% of the rentable space, and law firm Davis & Gilbert, with 15.8% – had moved out, and Blackstone had written off its investment. It stopped making payments on the loan, essentially returning the tower to the lenders (the special servicer of the CMBS). So this was part one of the saga, and we discussed it at the time.
Now there’s part two.
So now, two years later, after a number of complications, including a change in special servicer, the CMBS, backed by the $308 million mortgage, was purchased for “just under $200 million” by private equity firm Yellowstone Real Estate, according to the Commercial Observer, citing sources familiar with the trade. Yellowstone Real Estate was previously owned by, uhm, Blackstone, the Commercial Observer said.
The buyer of the mortgage gets the building, and so Yellowstone essentially acquired the tower for “just under $200 million,” that Blackstone had purchased for $605 million in 2014. So the price has collapsed by 67%.
Investors in the CMBS got what would be left of the “just under $200 million,” minus fees, on the $308 million investment, so a loss of at least 35%, with lower-rated tranches of the CMBS getting wiped out, and with the top-rated tranches taking a smaller capital loss.
Yellowstone is now considering a residential conversion of the 70-plus-year-old iconic building, according to the sources cited by the Commercial Observer. And that will be part three of the saga.
It takes years to clean up the office CRE mess.
So far, it took two years from Blackstone’s announcement that it would no longer service the loan to the loan getting sold, which is making way for a new beginning with a much lower cost base.
If plans for a residential conversion materialize, it will trigger a long complex process from planning and permitting through construction and completion of the project, after which Manhattan will have another fancy residential building. And that would be a good thing. But in addition to the two years that the tower already sat nearly vacant and in default purgatory, before it finally changed hands, it will take several more years before it returns to life.
When CRE hits investors, fine, they were paid to take those risks. But we’re a little more squeamish when it comes to banks: Banks’ Exposure to CRE Loans by Bank Size
Enjoy reading WOLF STREET and want to support it? You can donate. I appreciate it immensely. Click on the beer and iced-tea mug to find out how:
Would you like to be notified via email when WOLF STREET publishes a new article? Sign up here.
The demand curve shifted downward due to a Covid inspired WFH trend that has created a new equilibrium price at which the building can be repurposed to condos or apartments. This type of repurposing to condos or rentals will need to keep happening unless some owners want to sit on a half occupied building until demand for office space increases enough to provide a positive DSCR.
A lot of office buildings, including buildings with big square footprints, are difficult or impossible to convert economically into residential. They’ve been purchased at land value prices and will be torn down to be replaced with a new building. A building’s ultimate value = zero. But the land has value.
“The demand curve shifted downward due to a Covid inspired WFH trend”
Sure, but don’t underestimate the influence of artificially induced ZIRP distorting (poorly thought out) investment decisions.
An interest only loan at ZIRP (that is 0 interest) is an invitation to idiot speculation, driving up building “valuations” almost regardless of actual underlying building financial fundamentals.
Then, when reality reintroduces itself (positive interest rates) all the fantasy valuations evaporate.
Another great article about CRE. Thanks Wolf!
Question about office space:
Let’s say nationwide office CRE is 35% vacant on average. Which sounds like a total disaster at first.
I know this is vastly oversimplifying, but wouldn’t we only need to demolish/short sell/resi convert the worst 35% of office CRE, and we’d stem the rot and be left with a thriving, fully leased market?
Converting commercial to resi is difficult and expensive. In many cases, the buildings need to be completely refurbished at huge cost that might not be economical vs the value of the resulting apartments.
You could just as easily say why don’t we just build more housing to fix homelessness.
The reality is that the market has shifted. The people who bet on it not shifting need to take a loss. If it wasn’t for our deranged financial system that loads everything up with absurd levels of debt, this process would not be particularly difficult.
It’s crazy that the biggest strength of capitalism – its capacity for creative destruction – is massively curtailed by the financial system’s propensity to securitise anything that isn’t bolted down. Yet the ONLY purpose of the financial system is supposed to be to facilitate economic growth.
Neoliberalism has basically eaten itself at this point.
JonW – Wall street isnt about capitalism. It’s about cannibalism and to Wall Street, everyone and everything is their next meal.
Blackstone turns into Yellowstone.
… You ain’t black-stone, you’re yellow-stone…and the 400 million floats away.
Got stoned.
Home Toad, I was thinking the same thing. Central theme seems to be “stoned”..
Blackstone
Yellowstone
Brownstone
Brimstone
We’restoned
@John W. You are correct that it is very expensive to legally convert office space into residential, but as a guy that puts in time (and money) trying to help people get off the street I can tell you that “more housing” won’t help most homeless (who have serious mental and substance abuse issues) unless someone also pays for a 24/7 staff to provide security and maintenance at the “new housing for the homeless”.
“wouldn’t we only need to demolish/short sell/resi convert the worst 35% of office CRE, and we’d stem the rot and be left with a thriving, fully leased market?”
Who volunteers to be in the 35% that take 100% losses in order to make sure the other 65% take no losses?
The market will volunteer the 35% automatically, won’t it?
🤣❤️
Yes!
YES, but it won’t be just the CRE mess that slowly gets repriced. It will be everything that you actually need to do business and survive. ESPECIALLY if CONgress refuses to balance the damn budget.
Hedge accordingly.
No shortage of immigrants already in the City and plenty more on their way, this is the obvious place where they should be offered permanent residency after conversion? New York authorities would be very proud of an achievement like that? It would set an excellent precedent for all American cities.
The irony is that the majority of Canadian and American teacher pension funds are invested in commercial properties.
Yet, no matter how liberal they espouse to be, and how they promote inclusion and equality, they will be sternly against using vacant commercial properties as low income housing for undocumented migrants and refugees. Even if the metros fund the project.
Never heard of any pension funds “espousing to be liberal”. Let alone “espousing” any ideology that includes purposefully losing money.
Individual teachers? Yes. Teachers unions? Sure.
Is it possible you mixed up two different groups?
@grant here in CA public pension funds (along with most teachers and unions) are liberal. If you Google CalPERS with Green, Diversity, DEI, ESG) or any other liberal buzz word) you will find hundreds of articles to read.
Check the Ontario Teachers Pension Plan website. Lots of social corporate governance like pro-gender, diversity in gender quotas, anti-racism,etc.
But to give the unhoused a home in a vacant commercial property? They would be more feudal than the British nobility.
Another damned exercise in union bashing by right wing “winner take all” types. (As long as they are personally quite far from needing to unionize to get a decent life…as usual.)
Careful with nurses, firemen/first responders and cops, jailers, and similar others though…..one protects your jive ass EXPENSIVE geriatric/trauma selves and the other three your “hard earned” property from the less well off.
Bad attempt at foisting hypocrisy on someone else when you are THE experts at it…..
NBay,
There’s a large difference between public unions and private unions. In this case, it’s the public unions who have the “winner take all” attitude. The rest of us are stuck with a rising costs of living due to rising property taxes that the “educators” force on us.
Poor people have to absorb the rising property taxes in their rent. So much for your compassion.
Jon,
How can you even MAKE the comparison when private unions have been destroyed since Reagan?
Or do you think that you have ALL his same “great” (Heritage Foundation driven) insights?
If so, don’t bitch about the national debt, OK?
IDK. But it seems a poor “achievement” to massively subsidize housing. Perhaps you can quantify the economic upside with actual numbers. As a start enumerate the economic benefits New York is receiving for the billions in subsidies currently provided.
The “achievement” is societal and cultural, rather than economical.
I have read about the “most livable city in the world” Vienna.
The premise is an abundance of quality built (like up to 100 years old and still in good condition), government funded housing.
Of course there has been a myriad of development over the last century plus. The healthy mix invites both the wealthy class and the working class.
I live in a dichotomy/ two tier economy town: Ski town USA.
I like the description of “those who have vs. those who do.” I DO.
Sadly, most of the working class are not asset owners (in any way, in some cases: No 401k with your bartending job). They rent.
The owner class just continues to accumulate.
Without government assistance to build or regulate housing: there would be virtually NONE for the “local” community.
I am an owner of a “deed restricted” home. Today, even the newly constructed, deed-restricted homes are becoming out of reach for the community.
So economic cost benefit is not of any concern? The money has to be taken from someone. Benefits must be realized.
You mention the “owner class”, of which you say you are a member, but fail to mention the “government administrator, NGO owner, and crony business class” which tends to suckup whatever money the government takes from the taxpayers to subsidize housing. Just look at the results in LA – $1.2B in 2016 for 1200 housing units so far and up to $837K per. And during that time the homeless increased. And now another $1.3B. And still the mayor is begging residents to take in the homeless and pay for housing. Quo bono?
Not a very successful metric results based approach historically. So what makes you think doing the same thing will work the 3rd time? The problem is actually that many are profiting from the homeless through ill-structured and poorly managed government programs. The hotel owners in New York are ecstatic. When people make money off something they want more of it.
Without grounding in the reality of human nature and fiscal reality, failure is guaranteed. When you can present a realistic earned value contract with a comprehensive PERT chart, I will listen to your theories.
There are immigrants in New York City? Who would ever have expected it. Maybe they will visit Ellis Island at some point.
Wolf: Is there historical precedence for this type of stress on the CRE market and, if so, what was the outcome? As others have noted, the finacialization of the debt would seem to indicate that the pain of default would somehow be both lessend AND more broad.
Retail CRE in terms of the classic indoor mall has been in worse shape since about 2017. Innumerable malls went back to their lenders, who eventually sold the property to developers for land value, who then bulldozed the thing and built housing or whatever. Malls are easy to bulldoze because most of it is just parking lots, and the walls of these old malls are just tilt-up concrete.
The reason why this hasn’t been a big font-page issue nationally is because the debt that backs that type of retail CRE is relatively small compared to office CRE debt.
There have been big CRE busts before. But what is unique with mall-retail CRE and office CRE that this bust is based on a structural change in the economy. So it’s not fixable, and there will be no bounce-back. You just have to clean it up.
Another thing they can do with old malls is to ” daylight” them. Near me a developer bought one of the those 70’s style small indoor malls that was failing. They demolished the front side stores and remolded the whole thing like a fancy strip mall. Then they put more retail spaces scattered around the parking lot. Now it is all full and so popular that the biggest problem is that they turned too much of the parking lot in to retail so parking is hard to get. I should mention a lot of the new tenants are food, juice, coffee etc.
Statue of Liberty-
Try The Trouble With Prosperity by James Grant. Deals with Boom/Bust cycle, emphasis on Fed’s role, and uses the life cycle of a 1920’s Manhattan “Sky -scraper” as one example.
Published in mid 1990’s. Review by David Merkel/Seeking Alpha give a good synopsis if you’re not into reading whole book, but why deprive yourself of Grant’s wry (some might describe differently) humor.
Best paired with a Grimbergen Trippel or a Point Ybel Attenuator Bock.
Cheers
“… securitized the mortgage into a single-asset commercial mortgage-backed security (BWAY 2015-1740) and then sold these CMBS to investors.”
Perhaps a more forthright symbol for this “security” would have been (BWARY 2015-2024), as in “buyer beware”.
Always true of any granular investment. But let’s be fair: The borrower is one of the most established in the world, the “market value” was 2x the mortgage amount, and there was no reason to expect a pandemic would instantly restructure commercial property demand the way it did.
The other 99% of the time, purchasing these securities would be boring and highly secure.
Wolf-
Thanks for including the link to Commercial Observer article.
What, if any, detriment or benefit does Deutcshe Bank face as “loan originator” of BWAR 2015-1740? I suspect the answer is very little, but just curious.
Deutsche Bank pocketed the fees and that’s it.
This securitization was done in 2015, before the risk-retention requirements took effect in 2016, where originators must retain 5% of the security on their balance sheet for five years. But even if the securitization had been done in 2016, the originator could have kept the 5% on the balance sheet for five years, until 2021, and then sold it.
@Wolf: Looks like the 2016 regulation was on the right path. Perhaps the risk-retention should be bumped up to 20% and extended to a 10-year period.
But I’m sure that the banksters would fight it tooth-and-nail. LOL.
Converting office space to traditional apartments is very complex, yes. But what about dorm-style living like what we have at colleges? A bunch of private bedrooms/suites with a shared bathroom/kitchen/etc at the end of the hall.
That way there’s less plumbing to retrofit, and you just turn the breakroom into the kitchen.
^^^This. Especially with the shortage of rentals at the low end of the real estate market
This is a great idea, but I don’t know if the government will allow it since it has become just crazy expensive to remodel anything today since (especially in California) before you get permits they will want EVERY change to a property approved by an BOTH a licensed architect and licensed engineer). In CA I am also seeing an increase in the number of things in the state is forcing a property owner to pay a third party to inspect (a recent apartment stairway repair required me to pay thousands extra to hire an inspector watch (the super expensive highly skilled and licensed) stairway guy do his welding and then hire a different inspector to drive out and watch a few bolts on the stairway torqued to spec.
yeah! California has gone crazy! Codes and zoning are set up to suck up every last nickel. Theres no hope for affordable housing.
Sure, and how is that going to work with current level of intelligence and typical behavioral choices of the average, and more concerning, the below average, American?
Yeah, good luck managing those properties.
Whos turn is it to do the dishes this week?
Communal living spaces barely work with college students who have little floor dictators and the threat of expulsion keeping them in line. You think it would work in low income housing under the protection of all tenant laws?
Even commie block housing dared not stoop that low.
I believe they were trying this dorm style living in silicon valley. Not sure how it worked out. But overall probably better than living in your car.
As someone who lived in his car in Palo Alto during the 90’s (worked at a successful Biotech) I will call BS on that. Most silcon valley companies have nice showers and nice cafeterias so having a bed in your car with all your outdoor play toys was the bomb. Then again I was called “old fashion” because I actually saved for the property I purchased…
The city of Davis, CA had the great idea to build three building 100+ room “affordable housing” property with a shared kitchen on each floor ~25 years ago for poor non students. Two of the three buildings have been empty ~20 years and the third building has been mostly empty (with one death). Communal housing only works on a large scale with expensive 24/7 security and cleaning staff (Google the cost of a dorm bed at any college in America to see how expensive it is).
If there was money to be made in dorm-style residential, I would expect such projects to be common already, even in new builds.
Makes sense in colleges & care homes where you have a beefy staff on-site to maintain order.
If you throw everybody at random into dorm-style residential, you might need significant staff “to maintain order.”
But if the renters know one another, and are friends, the need for supervision diminishes accordingly.
It’s one of the many benefits of having friends to be close to.
McKenzie was advising corps on the ‘open office concept’ from at least 1999 onward. So good for dorms. It worked for Gomer Pyle.
Dorms? In a Manhattan office building? Attending which college? Paid for by who? Yes it is distressed CRE. Just not that distressed.
891 Amsterdam – HI- NYC. 670 beds – bathrooms down the hall. Not the most comfortable place, but cheap for nyc. Take your pick of rooms – single gender, all genders, couples. It’s not for everyone – you need a certain “mindset” to stay there. People visit from all over the planet. Usually really full. Apparently the “style” doesn’t bother a lot of folks.
Originally a home for widows – built in 1883. Nonprofit. Has been a hostel since 1990.
I’m not saying it would work here or there. I’m just saying . . . there’s this.
Also wonder if 10 years from now, we’ll look back on this as the cause of a future shortage in office space? As employers have regained some power in the job market there seems to a be a very slow progression towards hybrid/return to office.
If you listen to the earnings calls of Vornado, they are already talking about this.
I don’t think RTO has the steam behind it for that. The economics of remote work are just so good that anyone trying to force RTO is just going to be fighting an uphill losing battle, especially when the people who actually do the work have shown over and over that they would prefer the freedom to work anywhere.
Good story on the Atlanta office market, which is at 32.8% vacancy:
Amazing that they are still building office buildings here. That has to stop. The name of the game has become cannibalization. Negative absorption means the press only covers stories where a tenant is found, and never talks about all the ones leaving or going bankrupt. Giving a false picture of the health of the CRE market.
While its fair to describe the CRE as a multi-year mess, this problem is not going to become a major issue like the residential housing debacle of 2008-2014.
The Fed is going to backstop the regional banks which is really all that matters. Multifamily is going to be fine as well. Even in a recession, people have to have a place to live. Will there be some pain? Yes. The worst part to come will be a rise in layoffs by companies that must cut expenses or go bankrupt.
And many of these commercial loans are interest only which means there’s not a big collateral loss to the borrower. Just like Blackrock has done & others, these owners are going to stop paying, so the property goes back to the loan holder.
And the upside is some of these properties will be converted into residential housing which is a boom for the housing market & the labor needed to do the conceversions.
IMHO, CRE has nowhere near the downside risk to the economy as we saw from the GR. Gurus keep yammering about it, and in some cases but not here on WS, it’s being used as a wedge to help convince the Fed that they MUST lower the FFR.
Hogwash. The Fed has made all sorts of unprecedented interventions in the markets since Sept. 2008. Sure, some of it was needed, but the Fed needs to get out of the business of intervening in residential housing, and it should not materially get involved with the CRE mess. We’ve still got $2.4T in MBS that’s going to take a LONG time to go to zero and probably won’t if the Fed keeps buying them during recessions.
The question is: What does the Fed & Congress do to intervene when the next recession hits? The Fed & Congress can’t keep intervening more than is absolutely necessary. Their overreactions are setting up a large collapse, likely 7-10 years. And the Fed needs to lead by example by pulling back and letting the market hand out more haircuts for bad investments.
Why does the Fed need to intervene? The FDIC will step in if any of these banks fail.
I’m speaking about the system as a whole, and the Fed’s purchasing of MBS over 13 years was the biggest, un-necessary intervention they’ve done in housing. And, the question is will they keep doing it?
My guess is YES which will continue the march towards a very big asset crash across all sorts of categories.
“The Fed is going to backstop the regional banks ”
They didn’t backstop failed banks in 2023, why do you assume 2024 or 2025 would be different?
I’m speaking about the system as a whole with the Fed sitting at the foundation as the lender of last resort. The FDIC wouldn’t have had the money to make sure none of the deposit holders with monies well past the $250K limit without the Fed. And the BTFP and the whole thing is connected. It’s intervention by the Fed no matter how you look at it.
There is a saying, “You have what you tolerate!”
With all of the fallout that is occurring, one has to wonder if lease and financing terms will change in the future. In lieu of taking the total $405M loss ($605M – $200M Yellowstone price), Blackstone was able to mitigate it down to $297M (less the net tenant income they collected over the years).
Until investors or their trustees require more stringent lending requirements, this will continue to happen.
If I am reading it correctly, the only winner was Deutsche Bank.
Let me see if I get this right. We convert the now vacant CRE buildings to residential ( assuming it is economic) so the people living there can work in the nearby empty office buildings? Or work from home in administrative and managerial jobs quickly being taken over by AI?, or perhaps they will work in the many nearby brick and mortar retail business’s being replaced by E commerce? Or will they have to commute to the suburbs to work in the e commerce warehouses that have replaced all the brick and mortar near their new high rise homes?
Howdy Hubberts Curve I think you are on to something. Office / Residential. Walk out your door and start working. No transit needed. Will the Youngins go for it?????? I think they will……..
I believe you missed his point by a country mile or 10.
In a sane world there is nothing price won’t fix.
Let’s hope Fed doesn’t open up the Maden lane gates again where those bad loans go to die.
As those losses start to add up, expect some financial “event” that will be blown out of proportion by wall st media as the “end of civilization” and Powell will open the floodgates gates of money.
Good to see another old one on here!
According to the best analyses, so far, another’s intelligence is measured by how much they agree with one’s own, so you must be very smart, eh
Sooner AND later, depending where one fits on the various and sundry ”curves” following the ”statistics”,,, THE chickens will come home to roost, as they always do, at least in my 70+ years of keeping them.
Meanwhile, the EGGS will keep coming, in this case, as in better % of returns for treasuries, etc.,
And WE, in this case the old WE part of the savers, thrifty ones, etc., can continue to hope for ”higher forever,” as it was for our grandparents and should always have been.
MW: ‘Irrational excitement’ over AI will wipe out tech stocks, says contrarian investor who has nailed prior selloffs
Howdy Folks. Are these tall buildings really that difficult to turn into residential? Residential rehabbers can turn the shell of a simple starter home into something spectacular and profit from it. Having the roof and shell already built is all some of US needed to prosper…..
Here is just one example of why conversions can get too expensive to be economically feasible: Residential needs openable windows in each unit. So that’s the first handicap. A big square footprint means that the inside units don’t have windows at all, and that’s a no-go. So you can carve out the core of the building and build a big air shaft so that the inside units have windows too, and that has been done, but it’s very expensive, and you lose part of the square footage. And that’s just one issue. There are lots of issues like that. And they’re cumulative, and with enough of those issues coming together in one building, it just gets too expensive to convert, and no one will buy the building, until it goes through an auction at land value or less, and the buyer will tear it down and build something new.
Add in all the retrofits (pronounced “expensive”) for plumbing and wiring for each unit with 2 full baths and a kitchen.
Hey, maybe that internal -no window- square footage could be changed into a vertical Walmart store?
Howdy Lone Wolf. Foreclosures, Short Sales, Auctions, Court House Steps, were a great way to profit on single family homes. There seemed to be plenty of them during my years with a very competitive market for purchase / rehabbing them. Lofts became popular in some large old buildings back in my day. YEP, things change quite a bit……… On a personal note, I will be checking off a bucket list of mine soon, a motorcycle ride over the Golden Gate.
I will be looking toward San Fran and will imagine I just saw the Lone Wolfs Lair. Thanks for all you do……..
Do you own a green rebuilt jeep?
“a motorcycle ride over the Golden Gate.”
This will be a gorgeous ride, especially if you come from the north toward San Francisco. Make sure you got your leather jacket on. Default temperature on the GG Bridge even on a hot day is 59°F, according to us. My wife and I have this “what’s the temperature on the GG Bridge” guessing game going as we approach the bridge by car: and 59°F often nails it.
“Yellowstone Real Estate was previously owned by, uhm, Blackstone, the Commercial Observer said.”
Reminds me of a big developer client we had here in Hawaii that was from LA/OC back in the liar loan bubble. Every development was a separate LLC. When the bust came he just walked way from it all. Didn’t even hesitate. Two years later the same banks he shafted were calling him back and he literally bought back his subdivision projects for 10¢ on the dollar.
Howdy Waiono. Listing each property as its own LLC is a very smart move. Did you know? You could purchase a home, no money down and just sign your name and walk out with a check? All legal. Crazy times. Pretty sure the USDA still has no money down programs……
“Residential needs openable windows in each unit.”
Why?
Howdy MM. Because Govern ment says so.
This article gives some details on the complications of conversion. In general terms, older and smaller buildings are more viable. https://www.nytimes.com/interactive/2023/03/11/upshot/office-conversions.html?unlocked_article_code=1.m00.50WY.9PnmaoGB9rJM&smid=url-share
1. A no-windows home? OK, enjoy.
2. Code. Residential must have windows. Warehouses and doghouses don’t.
Howdy Lone Wolf Sorry, about the Govern ment comment. I was just remembering my sons having very nice remodeled bedrooms with windows and both decided to live in the basements of our houses. Only had to paint their bedrooms once. What a world…
I work on a property with 3-4 windowless units.
They were slated as storage during construction.
My aforementioned deed-restricted housing requirements were in place, meaning that they had to provide “affordable” housing units to offset the rest of the project.
No idea how they got past inspection: roughly 700sf. Concrete boxes with one way in and out.
Not very safe for fire, not very palatable to live in. Also a price tag of about $275-300k.
Wow.
You know, I just realized the obvious solution.
Gamers.
-Already live in basements.
-Rarely shower.
-Eat mostly delivered pizza.
-Buildings already have high speed network infrastructure.
I am a freaking genius.
drg – Hilarious comment!!
CRE will make a comeback