Hello, and welcome to another episode of the All Thoughts Podcast. I'm Tracy Alloway.
And I'm Joe Wisenthal.
Joe, have you ever been to the Highland Shopping Mall in Austin?
Absolutely, that's a debt. Is it still there? That's like the one that's not done well?
Right?
I think it has officially died.
Okay, I know exactly, Okay, I just I know there's a few, and I know exactly which one that is. I have spent time in it multiple times. I was there before it died because I lived there twenty years ago. But when I did, it was pretty quiet overall, like it was pretty grim.
Yeah, this was sort of a classic Texas mall from what I can gather, opened in nineteen seventy one and then closed for good in twenty fifteen. Here's another question. Have you ever been to the domain?
Yes? And that one is much more busy and I'm pretty and still exists.
Yes, So that one opened in two thousand and seven. It is still open. From what I can tell, it's very popular. It's sort of an upscale shopping destination. And these two shopping malls, the reason I bring them up is they kind of stick in my mind as the classic example of what happened to malls in the sort
of twenty tens. So you had this bifurcation in the market where some of the upscale ones, the ones that had some sort of i don't know, like specific offering in terms of entertainment things like that, did pretty well, while the old school ones, the ones that maybe had big anchor tenants that were no longer as popular, a lot of those went out of business totally.
I didn't first of all, I just want to say I appreciate and didn't realize that this is going to be an Austin, Texas episode, So thank you for that.
Yeah, just for you, Joe.
But that did you know that crystallizes it perfectly for me because I know those two malls and I know how different they are. And the High Island Mall was sort of you know, off a highway, not in a great location. Is the kind of place where it probably had some you know, fast food Chinese in the food court, probably a place that sold hats, maybe a candle store, something like that, you know, called like wis.
You are actually like vividly bringing to life for me, like the early two thousands American.
Mall, and then the domain has like, you know, probably a really nice apple store in it. I don't know for sure, a really nice apple store, and some really nice restaurants, probably like a cool like burrito restaurant and stuff like that. So yeah, I think that's it. That's the story of malls. You nail it.
Yes, And the reason I bring up malls in general is because obviously there's been a lot of discussion about the future of commercial real estate and malls fit squarely into that category, but also in the context of concerns about stress in the office market in particular. Yeah, I keep reaching back to malls as the analogy here, so like, clearly there is a structural issue happening in the market.
But that said, you know, you can have specific properties that do better, you can have specific properties that go out of business completely, like the Highland Wall, And so that bifurcation seems really important to me.
And I think, you know, we've never we've obviously done a handful of of office episodes, but it makes sense to think more about this bifurcation because one thing that we've learned, even from talking to various people in the office spaces, like oh, class A is fine now that I know A. Class A is definitely but they're like, okay, Class A the really nice new locations, they're fine. It's just that there's a lot of other space that is not what people think of as the modern office building.
That's right.
There's domains and there's highlands.
So I love it.
So on this episode, we're going to be digging more into the office sector and commercial real estate more broadly, and I am very pleased to say that we do indeed have the perfect guest. We're going to be speaking with Liza Crawford. She's a portfolio manager and co head of Global Securitized over at TCW and a long time investor in this space, someone who also covered malls for a while in the I think in the early twenty or twenty ten. So we're going to get into all
of that with her. Liza, thank you so much for coming on all thoughts, thank.
You so much for having me. I'm so excited to be chatting with y'all today.
Well we're very excited as well. Ooh, and you said y'all, so we're really like, we're bringing the Texas theme in this episode.
Love it?
Are you Texan?
I was born in Houston. I went to high school in Dallas, so I've moved around to fair Bit though. Awesome.
So did I get your career summary broadly correct? A longtime player in the securitized space, including in commercial real estate, so things like commercial mortgage back bond CMBs, stuff like that. And also you weren't looking at malls at one point, right, Yeah.
So I've always been in securitize for my career and I started in two thousand and nine, so a pretty exciting time. Interned in two thousand and eight particularly exciting as well, and I focused on various areas of securitize.
But when I joined TCW, the firm I work at now, I was a commercial mortgage backed securities trader, so I dedicated all of my time to commercial real estate research and trading and to your commentarycy, it involved a number of property tours and years ago malls were the focus and it was pretty grim out there for a number of tours, but you guys nailed it on the bifurcation. You can really see that when you're visiting these assets, and you can see it come through in cash flows
and sponsored decision making. And then currently at TCW. I'm cohead of Global Securities, so now I have the pleasure of looking across the broader almost thirteen trillion dollars securitized market.
Joe, Can I just say when analysts go on the real life tours of shopping malls or stores in general, that is my all time favorite research. Like, I love the idea of everyone just like hopping in a car and we're going to look at football at this mall.
Well.
Same, And actually that was going to be my question because you know, I remember the Highland Mall that Tracy brought up. I know the domain, and I do remember you know, the Highland Mall is pretty quiet. But I have to imagine that as a professional you walk through the mall. I walked through the mall. I just sort of noticed vaguely like this is quiet, this is busy.
What does a professional look at when you're on one of these site tours for a mall and you're like looking at them from a sort of due diligence investment standpoint? What are the things that the pro really notices beyond just this is kind of quiet.
Yeah, So with respect to the malls, you're looking to see if the atmosphere is inviting, so have sponsors meent any effort to try to add natural light, to try to add seasonal decor, so that's just the natural ambiance. Then you're also looking at the density, so is it populated, are people walking around, what are people holding? Are they holding bags that they're shopping or are they just kind of hanging out and they're taking advantage of air conditioning.
You're checking out the parking lot to see if they are a number of cars there. And then you're looking at the tenant mix, and this is you know, you can see the real bibercation. So I remember just Burlington coat factories would always be crushing it. There'd be so
many people in there. And then there'd be areas where you've got your fourth sneaker store and nobody's in any of these properties, or you'd have another hat store or eyebrow a shop that you realize they're probably not paying any rent, they're not really even economic, but they are
at least kind of filling space. And then one of the most kind of egregious things you'll see on these property tours for weak er assets is whole areas that are effectively close off or there are very explicitly tenant
temporary tenants, so army recruiting, for example, polling stations. So there you can see a landlord perhaps exploring alternative uses, but as a debt investor, some of it looks like a little bit of a smoke screen to use occupancy numbers that frankly don't drive value for the asset.
Tracy. The last time this is a fact. The last time I was in the Highland Mall.
I know this.
I happened to be with my mother in law. She was voting. It was a polling location at the mall, So there you go. That was her local place too. And I don't know why we why we're tell you along. Yes, that is my last memory of the Highland Mall.
I'm so pleased with this anecdote that it's like worked out so perfectly because we didn't actually talk about this before the podcast, but this is great. So just going back to that analogy of the Highland and the domain and its sort of application to the broader commercial real estate market and office properties in particular. I mean, I mentioned that's the mall is the sort of prism that
I'm looking at the office space through. But tell us how you're viewing it, Like, how useful is the shopping mall sector as an analogy to stress in the office market right now?
It's very helpful as an analogy with respect to bifurcation. I think one of the mistakes folks can make is paint everything with a broadbrush. And I'm sure you y'all remember plenty of headlines of malls are all dead, and there were plenty of malls that were on their way to dying, zombie, ugly irrelevant. There are too many of them, et cetera. So, of course, but there are some malls that continue to drive consumer demand, serve a purpose, be
well managed. So that bifurcation trend is very real in the office space now. And would love to get into kind of compare contrast of what as a debt investor we look for in the different spaces and the different kind of workouts and evolution of these two property types.
But importantly in office we're really seeing that bifurcation now. Joe, you mentioned Class A earlier, and even Class A is being reviewed and now we have trophy or premiere, and you know what differentiates Class A from you know, the
actual trophy premiere. Well, Everything that was a newer build maybe fifteen twenty years ago, was Class A. Anything that maybe had a good view or it would be Class A. And now Trophy Premiere means it's either a more recent build, best in class or a more recent renovation, and it has more than just a good view or location. It has actual amenities to attract tenants, whether that's conference space or an excellent food court or gym, et cetera.
I want to obviously talk more about office and start getting into this, but I just have one deep tale going back to the mall question. What stood out to you about the existence of a bustling Burlington coke factory. What was it specifically that that told you, because that was the one brand that you identified as a thing. What was that saying to you?
Yeah, I think when you're when you're touring malls and it gets really sad, you really get excited about the bright spots, and Burlington co Factory was really that bright spot. And it also signals that there is demand to be identified and you know, leaned into as a landlord or sponsor. So a lot of these properties needed to be right sized from a square footage for the actual you know, retail demand, but there's consumer demand in the area and you need to retenant your space to meet that demand.
And what you see in office as well as you saw in retail is that bifurcation translates into sponsors making a decision this asset is not core to my portfolio and I'm planning on walking away from it or you know, rolling off of it in the coming years. So what is the point of investing any energy in leasing it up, in making sure our tenants are happy with the location that we are investing in demand drivers that ultimately help
the broader kind of ecosystem of tenants. So instead you just see the under investment so present from waldoff areas or these you know, day to day tenants or month to month tenants likely not paying any rent, and then the successful you know, consumer demand moving into some of these some of these retailers that are actually relevant to the local population.
Just going back to what you were saying about trophy properties and some signs of stress even creeping into trophy office buildings. So you know, we heard a lot about how important quality is in the office space and that some of the older offices are probably going to encounter significant troubles in the current cycle. But maybe the Class A would do okay, and certainly the trophy properties should be doing relatively well. But it is interesting if we're
seeing even those start to come under pressure. So I guess I'm curious, like why that's happening. And then secondly, how much of it is rents versus interest rates going up?
They're great question. So with respect, so why we're seeing that Class A cut under pressure? There are two main reasons. One, time you know, something that is Class A doesn't just remain Class A. You can't set it and forget it. You know, you need to continuously invest in that asset and make sure it is designed to meet tenant demands of today. And then two, you had COVID. COVID all of a sudden introduced every CEO you know, into the conversation of what do we want our employees to benefit
from in shared office space. I think we all took it for granted before COVID happened. We just showed up to the office and if we had a terrible cubicle, we just went with it. I work on a trade floor, so personal space is lacking. I don't you know. I don't use an office. I don't have a cubicle, but if I explore other floors of our company, there's just you know, cubicle on cubicle, and there's a lot left to the imagination. It's not as engaging and you don't
always benefit from that shared space communication, et cetera. So TCW is actually a great example. We've upgraded our space. We're moving in a couple of weeks to Class A property. We're in what perhaps was once considered Class A now but it's arguably Class B in dropping quickly. But we're moving into a clas where you have more natural light, you have brighter colors, you have upgraded amenities, you have
technological improvements, and more shared space. So it really is an evolution of meeting tenant demand, and tenant demand is the number one priority. As we're in a tough market for office landlords. They are seeing a net reduction in demand and they need to be proactive to get the best tenants in their space and build out the amenities
and whatnot that they need. And that really is fundamentally the definition between what is trophy and what is a Class A. That just keeps falling further down the quality spectrum.
So at the same time that they're needing to invest in the properties. I mean, rental income is presumably flat or going down because demand is weakening, but costs are going up in the form of financing.
Yes, so excellent point. With the rate move in the last kind of eighteen months, the capital markets have created acute stress for landlords that use financing to own and operate their real estate portfolios. And it's very common. Commercial real estate is a levered asset class. It is sensitive to interest rates. The sponsors that have locked in lower fixed rate debt in twenty twenty, twenty twenty one, they're sitting tight, right. They might have a ten year fix strate,
they've got plenty of time. But other sponsors took out shorter floating rate debt, so they are acutely vulnerable to their rates resetting five and a half points higher. And it is acting as a catalyst for them to accelerate their decision making of what assets belong in their portfolio, what assets will make sense long term, what assets are
economic to own, and what assets just don't make sense anymore. So. After ten years of low rates and low growth, the debt markets got very sanguine in both the appraisals they'd accept for office, in the lack of differentiation they demanded from these valuations and sponsor quality, et cetera. In office and borrowers or the sponsors the owner operators that borrow in the capital markets got aggressive with the amount of
leverage they felt comfortable with their assets. So to your point, Tracy, that's where we're seeing very quick pivots for some very large sponsors to exit the entire office properties. You know, Blackstone and Brookfield are great examples there.
By the way, just going back to what you were saying about, like, there was actually a great New York Times article three days ago November twenty six, the Envy office can instagrammable design lore young workers back by Emma Goldberg and and a code. But it sort of speak to exactly what you're saying, light and everything, and they have, you know, these offices that are featured at all, you know, like Millennial Pink and all that stuff. What else goes into Joe.
I don't know why you don't like millennial Pink. You always mention it as like a negative example. I like it.
I'm just so tired of it. It's cool twenty thirteen is like, oh cool new color. It's everybody's like, oh my god. Twenty twenty three are still around. What else looks like? A true when you if you know, you walk into an obvious like okay, this is a trophy asset. What does that look like? What are some other things that you would expect to see.
You'd expect to see very high quality entryways, lobbies, lofty ceilings. You know, ideally, like atrios, you would have separate elevator banks for either different floors or different tenants. A luxury feel, right. You want both your employees to feel really excited and proud and productive when they come to work. But you also want your clients to feel like they're special and that they are working with a really high quality company. And then I mentioned kind of those amenity these floors.
Other examples include just having outdoor space, just giving your employees the opportunity to step outside and get some fresh air, see some greenery. And then I think everyone and you know, Bloomberg, you guys are leading the charge on it, but everyone wants to snacks. The coffee upgrade, So we've seen, you know, beyond just maybe shared amenities that multiple tenants can enjoy.
You've also got more amenity focus on tenants dedicated floor space because people want to be able to take a break and get a nice coffee.
We don't have any Instagram walls here at Bloomberg as far as I know, although actually in the basement there's a pretty cool art installation that is pretty grammable. But by and large, I do feel like we work in a trophy office here in New York, just sitting aside the sort of more qualitative differences, Like can you speak to the quantitative differences that you see right now in this sort of trophy, whether it's vacancy rates or cap rates or anything else versus everything else.
Yes, And then I think it's important we also talk about geography and specific city stories, so as it relates to the quantitative differentiation we're seeing for trophy assets. It's not uncommon to see post COVID stress translate into a ten percent vacancy. There are some assets that only have a three percent vacancy, whereas a BC or even a weaker class A had ten percent going into COVID currently
has a twenty twenty five percent. And then some assets are effectively vacant and those are that's where you see these distress sales come through. Want to lean into a couple items here, So how do trophy offices how are they best able to maintain higher occupancy? It's because they attract high quality tenants and they demand high quality leases from those tenants. They have to pay for it in today's market. So what is a high quality lease? A high quality lease is a ten year term with no
contraction options, no termination options. You're trying to avoid volatility in your tenant role. You're trying to avoid your tenants having too much optionality to walk, and then you're also adding high quality tenants, so you're mitigating the risk that they go bankrupt, right, So high quality sponsors are very focused on that. I think eessel Green is a public read and they're the largest Manhattan office landlord. They're always highlighting that they do an excellent job with that one.
Vanderbilt is their trophy asset, and it's very evident in that property. What happens in weaker kind of BC offices is the sponsors are on their back feet. They have to accept what tenants are willing to give them, so that typically translates into shorter lease terms. So kind of a two to five year and that creates even more vulnerability to the economic cycle, to tenants downsizing or rotating
into another asset. And it also means that you have a weaker tenant base, you are more exposed to bankruptcies and the need to renegotiate rent lower. We work. It's a great example of the tenant that nobody really wanted. They were expanding massively for years, but sophisticated landlords made sure they were two percent or less of their revenues
to mitigate that risk. Yeah, we work is from a debt investor perspective, they've been you know, it's a curious story and I don't know how open I can be, but it's very frustrating to see some of their behavior. So on the quantitative side, we should see that bifurcation to continue to play out. And perhaps one of the most stark ways to evidence this is when we see
some of these distressed sales. It's still early in distress sales, but from a dollar per square foot valuation perspective, you would usually pre COVID see one thousand per square foot for a trophy class A off a trophy asset in New York City in San fran with the rate move, with the stress in the capital markets, we as set investors quickly reset to closer to a five hundred per
square foot implied mark to market valuation. Now, if you're a sponsor with a ten year fixed rate mortgage and you have your tenants in there for ten years, you're insulated from this period of time, so you don't need to monetize that implied mark to market valuation. You can hide it, you know, with various even with a JV interest sale, you can nagle away to really preserve that kind of topic valuation. But for weaker assets, they cannot hide.
The sponsors walk away from them, They hand over the keys to the lender, and the lender gets an updated appraisal that's closer to market, and or the lender sells the asset into the market, and that's where you're seeing valuation declines beyond seventy percent. I mentioned Blackstone walking away from an asset in New York City that's seventeen forty Broadway. It's basically empty, and the valuation was closer to one
thousand per square foot. In twenty fifteen, they committed over three hundred million with that acquisition and they locked once the largest tenant rolled, and the valuation came in around three hundred per square foot, just under the updated appraisal. So it is dire out there. But yeah, so if you are insulated, owning and operating a business using prudent leverage,
you can navigate economic cycles. If you are overlevered or overextended, or going through your portfolio and exiting the losers, that's where we see kind of these real prints come through, and it adds that quantitative data to really ink, you know, how far some of these assets can fall.
So I definitely want to ask you more about the specific things that go into a decision by a sponsor to walk away from a property or try a workout. But since you mentioned geographies, and since a lot of what we're talking about is bifurcation in the market, tell us what you're seeing in different areas.
Yeah. So we work in downtown La here at TCW, and the vacancy is thirty percent and that seems like a number on a good day, but that's the official reported number. So there is just too much supply for limited demand and there are no real, tangible, massive demand drivers to soak up that incremental supply, So it is a central business district that suffer from competitors around it. West Hollywood or sorry, West LA offers more attractive properties
for some office users. Then you've got Century City, which has the trophy assets in the market. So Downtown LA really almost fits more of that super regional mall traditional story of the area. That demand in the area just cannot support three competitive assets, so you're going to have that bifurcation. One's going to win and one to two are going to lose. So that's the story in Downtown LA. For example, if we move to San Francisco, that area has so many headwinds, but you know, one of the
major issues is the amount of tenant concentration. It's healthy to do a compare contrast of San Francisco and New York City. San Francisco and New York City both had full valuations. They had a lot of international investors that really supported high persquare foot valuations for office real estate. San Francisco before twenty nineteen had before COVID had a sub five percent vacancy and now it's closer to you know, thirty percent. It still has headwinds to remote work. I
was just reading that around. You know, I think around thirty plus percent of job postings are remote in San Francisco. Compare that to Manhattan, where you're attracting talent that wants to be there, wants to live there, and there's a large financial presence that is going to demand their tenants
are in the office. In the technology space, you have some larger employers like a Google that have indicated they want some type of office presence, but you also have many smaller firms that would love to continue to save money on office expense, and their business models work fully remote, and they're going to continue to benefit from that until you know, their venture capital investor demands that they get
an office space and go about things that way. So San Francisco, you know, unfortunately it has way too much ten and concentration. There's a decline in office space demand in that sector. And then adding insult to injury, the valuations were so frothy that these owner operators are inevitably particularly over levered with their debt. So this idea that the catalyst of making a faster decision on what assets you keep what assets you leave is your debt maturity.
I think there's around four billion of Sandfran office in this commercial mortgabacked securities market that's coming due in twenty twenty four, so we'll see, you know, how more of this plays out. And then unfortunately San Francisco also has declined in its level of attractiveness for employees. There are plenty of reports everyone sees them of blights, crime, et cetera. So it really, it really continues to suffer and it it doesn't take too much to try to improve things.
But if we think about the tech bubble, I think that took around six years for San frian to come back, so it's gonna take some time and concerted effort.
You know, you mentioned Century City and that happens to be where Bloomberg has its Los Angeles office, which I've visited, and it is indeed trophy property exactly like how you I think imagine, you know, the ground floor there's like Sweet Greens and Poke restaurants, et cetera. You know, we've done We did an episode once on the challenge of converting office to residential, which is very tricky and limited.
How much effort is there or how possible is it to upgrade A I don't know Class B to something that resembles Class A or Class A is something that resembles trophy. Is that a thing that some of these owners of underperforming assets are attempting to do.
It is a thing, but it's not super easy and it's expensive, especially when everyone's cost of financing has shot through the roof. But it just takes everyone should have upgraded their lobby and their elevators over the last kind of five to ten years, and what a fantastic time to do it, you know, with respect to COVID and having no tenants in not everyone did that, but that's a great example of a class B effort to maintain relevance.
And then also if you're looking at some of these smaller office spaces that are a lot of your kind of Class B and C, the focus is less to make them all of a sudden a trophy and more to design around what the tenant demand is. So hopefully you still have you know, doctors, dentists, or lawyers or somebody that is comfortable with a smaller office footprint. There's
a geo geographic attraction. They want a lower per square foot valuation, but they're also going to need better natural light they're also going to need likely a better floor plan, and that that costs money from the sponsor. So I'd say we're likely to see the b's and the A minuses make upgrades to make themselves more attractive to tenants and make economic decisions that way, rather than see too many assets go from an A minus B to we're going to just go for broke with trophy. There are
some assets that are that we're having fun watching. I'll give you an example, but two forty five Park is in New York City. It's a large you know, I think it's fair to call it a trophy office. It was owned by H and A back in twenty seventeen with some very aggressive financing up to eighty percent loan to cost and the mezzanine lenders.
Well, sorry, you just reminded me. H and A have like a really weird portfolio of properties from what I remember.
Yeah, so there was a there was an influx of inn international buying, but particularly some of these Chinese conglomerates that had insurance but also pharmaceutical companies and H and A and and Bang our examples, and their portfolios included things like air airlines and then they really leaned into New York City Office and New York City Office, you know, as well as in Sandfray in office. The benefit of those kind of investments is you're putting a slug of
money to work at once. Right, these are expensive, they're large, we have excellent property rights here. You do have kind of an established tenant role and can feel good about underwriting the cash flow. And at the time, financing was really cheap, so you could buy. You could go on
a buying spree with pretty attractive financing. So for this two forty five Park property, ultimately Esselgreen moved from being the most subordinate lender to the owner and operator, so using their lender rights when H and A defaulted and two forty five Park, I was able to visit by leveraging the fact that I'm a client to one of their tenants, and it was really fun to see. That's a space where you're not going to compete. You're in an area with GP Morgan's new build and you're in
an area with Eslo, Greens One Vanderbilt. You're not going to suddenly become them. But what you can do is upgrade what you have and benefit from your excellent location. Right by Grand Central, so I got to see their executive floor, So you lean into things like that, your tenants want a really fancy floor to bring their clients in. The entryway was grade. Everything had. Everything that I saw
had more of a luxury feeling. So I think that's probably a great example of an older asset that's making strategic upgrades to really hold its own even though it can't suddenly become a twenty twenty delivered new build.
So setting upgrades aside, can you talk a little bit more about the options that sponsor actually have. So let's say I'm sitting on a property that no longer makes economic sense, Like, what are the options that I have? I guess they span like a range from trying to raise additional capital to maybe just handing back the keys or something like that.
Yeah, and that's key, you know, part of our investment analysis on the debat side. So it is very easy in the commercial mortage backed securities market to just hand back your keys. CNBS isn't a relationship lender like base or insurance companies. So and what do I mean by relationship lender that there's no recourse in a CMBs loan? It just asks for adverse selection for sponsors, and you
see that translate into their financing. The sponsors, at the end of the day, they're obligated to pay their debt on an asset. If they don't, they're in default and
lender writes kick in. They can either negotiate with the lender to get a modific A modification can include some type of relief for a temporary period of time forbearance is what it's called, on their cost of financing, sorry on their loan, or it can include more structured solutions like an extension for two to three years at some sort of adjusted rate within a lower rate, within an incremental kind of equity investment, good faith investment from the sponsor.
And we're seeing that play out. If you took out a fixed rate loan five years ago, you're incentivized to extend that fixed rate maturity rather than go into today's market and accept lower valuations on your asset, lower leverage on your asset, higher cost of financing, and come out of pocket. So we'll continue to see those maturity defaults and modification extension solutions, and that's actually encouraging to see in a number of circumstances because it at least signals
that the sponsor care about this asset. You know, we're always going to look for evidence of them continuing to invest in the asset and ensure it's relevant and generating income and whatnot. But the fact that they're not immediately walking away is encouraging. Whereas on the other side, give you some examples of tenants walking away or sorry, of sponsors walking away. We talked about seventeen forty Broadway for
Blackstone in New York City. You also have Gas Company Tower as an example in downtown LA and the Ey Building where Brookfield walked away, and that is it is as simple as no longer paying your debt and basically not answering the call when servicers are looking to find you and not being available for a solution, and what happens.
There are there repercussions for doing that, Like, you know, does Brookfield's reputation take a knock when it just walks away from a property like that or is.
It just business?
Unfortunately, there aren't enough repercussions. That's kind of part of the fun with CMBs. I suppose we do focus on sponsors and their capitalization. So it's a great example Brickfield is well capitalized, but you have to also check on the assets performance and the assets relevance in their portfolio to really determine if this is going to be something
they focus on and they keep. And I mentioned earlier that CNBS in particular is a non recourse lender and it's not really a relationship lender, so it lends itself to adverse selection. And you saw that, you know, both on the retail side as well as in today's office market. To give you examples, Simon Property Group, an excellent owner operator of malls, would strategically finance their non core malls
in CNBS. They would get pretty creative. You could see there was zero incremental investment in the assets, but somehow, you know, the valuation has increased off of you know, no incremental cash flow growth, really just a capital markets arbitrage benefiting from lower rates lower cap rates. You'd also see them take three properties and combine them with one that's pretty good and then two that are weaker and juice the overall metrics to see if the debt investors
would feel more comfortable with owning that security. On the office side, you also see some strategic adverse financing. I use the example of gas company Tower for Brookfield, and they use shorter floating rate debt, and that's where it's tough to underwrite the asset for ten years. You really can't afford to support a ten year fixed rate because your tenant role is heavy, your current occupancy is weak.
And then they levered it with additional debt beneath the mortgage, so mezzanine debt, and so really that can be viewed not to be too cynical, but debt investors, we have to be cynical as trying to reduce your basis in the asset as much as possible and set yourself up to even more conveniently walk away. And that's exactly what happened. You just hold the asset while you're still collecting cash
flow from it. As soon as rates reset and you're happy, you have to come out of pocket to cover cash flow, you're walking. Yeah, as simple as that.
I have just two questions, and then one is very short. The next time you're in New York for work, could you take me and Tracy on a like an office the field trip. Just just bring us along. Okay, great, we'll make that happen. So I guess the other question going back to the malls, like as you mentioned, I remember, you know, the zombie mall discourse, the end of the mall, and as you pointed out, it was just way too simplistic because not all malls were the same. What happened
to those zombies, the ones that really were dead. Did they become top golf locations? Did they get totally torn down? Is there any lessons to be learned about what ultimately happened to physical spaces that like just were nowhere close to being economical in the new era.
Yeah, it's still playing out, so you are seeing a transfer of ownership. We talked earlier about the Signmon example. Simon has excellent malls Class A malls now or you can find Class A plus malls that are over a thousand per square foot sales versus you know, six hundred years ago that seemed more attractive six fifty. So they exited non core assets in their portfolio. There are some
owner operators where that's their niche. They're going to find the unloved mall that has been held by a really big player and there's been no leasing activity or focus on tenant composition for the last ten years and try to rehabilitate it, and there's probably some you know, reduction overall of square footage, and then there's also that kind of upgrade into whatever the demand looks like for the local population. Top golf you mentioned jokes, that's fantastic. I
love top golf. So that's a great example. You know that there's be more top golfs everywhere. Yeah, but you actually have these David busters to see that is actively, actively happening and continues to And then there's some where it's just going to be an empty parking lot and a dilapidated building that's just going to be you know, blight. Effectively for years there was frankly overbuilding. There are areas
where you really don't need it. There are some efforts to redevelop into multifamily, for example, and that takes time and good developers and owner operators and coordination with you know, local governments. And you'll probably remember when there was so much buzz about all these spaces becoming industrial facilities. And that's maybe a great example to talk about bifurcation as well. In theory. Uh, if you have a mall that's typically
located at a highway intersection. It could be a good location for some type of warehouse distribution, but in practice you build is relatively efficient and is what tenants like an Amazon typically want, And you can also find cheaper to access or easier to own an operate space away from just absorbing a two million square foot you know, structure.
So it was kind of theory versus practice that that is also, you know, we're not going to save all malls through industrial the same way we're not going to save all office properties through multi family conversion.
So I am conscious of the time and I realized we could probably ours. Yeah, we could go on for hours with you, but.
Just listing addresses.
I'm talking about individual properties. But since we are on the theme of bifurcation, I feel like I have to ask you about differences in the capital stack as well. So like junior versus senior loans for commercial properties, are we seeing that bifurcation story there as well?
We are, Yeah, you guys are where there's plenty of stress in the SIERI market, but under the hood there's also a risk transfer in you know, subordinate notes. So mezzanine, for example, you've got some players that are going to take advantage of that as an access point to to take over assets. You've got other players that bought a five percent fixed rate mez thinking it was an attractive return three years ago in a relatively safe asset that
no longer want to have that exposure. It's defaulted. They don't know what to do. They weren't trying to access a property through that. So from our perspective, we have as set investors where we're trying to make thoughtful investments where we're not having to take over an asset that would mean that it defaulted. There's some examples where you know, maybe maybe that's a play we could consider. So we're typically reviewing or we're always reviewing the quality of the asset.
Most investors are going to focus on things that avoid default, and then where you play in the capital structure is going to be determined by you know, relative value and kind of sourcing. So we we're more commonly in the mortgage portion, in the CMBs portion that gets kind of tranched out, so you can play in seniors, you can play across the cab stack as you'd expect if you like the mortgage. So let's say it's a one billion
dollar mortgage. You typically like the billion dollar CMBs deal that's turning out that mortgage, that's reframing it into more marketable securities. And then your decision making really comes down to relative value. With respect to reviewing the capital structure, you always want to be mindful of how much leverage is on the asset and the reason the sponsor took out so much leverage. It typically is a negative signal
if there's too much complexity in the capital structure. If you've got three mes notes, that's an easy red flag. That means you couldn't find one slug of mes, You couldn't find a buyer for one slug of mes. Instead, you're kind of just trying to slice and dice and find the best the best buyer for specific portions and their levels where they you know the return they need
to see to take that risk. And then also you always want to see who those buyers are because they are first in line to navigate distress in the asset. We talked earlier about two forty five Park. When we see H and A as a non traditional owner operator of New York City Office acquire that asset at an uneconomic capitalization rate, that's a head scratcher, and eighty percent load to cost is a head scratcher. But when you see sl Green position themselves in that mez see, you
know how that's going to work out. You know they are strategically investing in that most subordinate mes to be in position to step in and ultimately take control of that asset. So those are all things we're always analyzing who the players are looking at relative value across the
capital structure. And then for our you know, most of our client portfolios really focused on the debt side, and I don't want to surprise you all, but plenty of people that are focused on the dead side that underwright to find credits that should avoid defaults are probably scratching their heads at the amount of loans that have default risk in their portfolios. And you know, I think that fits into some of the regional banks and we'll see that kind of play out over time as well.
Oh man, I feel bad ending the interview right there, because I would love to talk about bank exposure to see are we although I think we did do an episode earlier in the year. Okay, so we are sort of covered, but our producers are giving us the time signal. But Liza, that was so good. Thank you so much for joining odd lots really appreciate it.
This was so much fun. I appreciate y'all letting me join, and I'm completely happy to take you all on property tour, right.
Yeah, we are serious. We are for real going to take you up on that next time or next time we're in LA.
We should at all.
We'll do, We'll do.
Excellent.
Sounds great, Joe. Just to bring it full circle, one of the loans financing Highland did actually end up in a CMBs deal. It was put together by JP Morgan.
And.
I think that the only reason I remember it is because I wrote about it back in twenty thirteen. The reason I wrote about it was because that particular CMBs deal had a reported loss of one hundred and twenty percent, which was the highest ever recorded for a CMBs deal at the time. According to Moody's I'm not even sure how you can get a loss above one hundred percent.
But yeah, I just that's crazy.
Yeah, I'd have to go back and look at it, but yeah, crazy stats. So there was so much to pull out of that conversation. One thing that kind of surprised me but it makes intuitive sense. Is this idea that you know, if you have a property, you kind of have to keep putting money into it. And like Isa was talking about how with regional malls, if you're walking around and you see seasonal decoration, like Christmas decorations, that's a good sign. It means someone cares about the property.
So I guess B class office building should be putting up decorations.
At least put up a wreath. By the way, thanks it. I said that our office here didn't have any Instagram walls, and then our producer Dash immediately messaged me, and we do have a very grammable office. I've grahmmed from here fish tanks esque, the curve escalator, so we do have
plenty of visual delights in our office. But to the conversation, I thought that was amazing, and I obviously I really liked the I mean, I loved that Liza was able to mention so many specific addresses and I could hear both once again, both of us type against the same time looking up those addresses seventeen forty Broadway, the Money building.
I didn't it's a interesting Wikipedia page. And then also I liked some of the things especially at the end the clues you can get from looking at who's who in the capitals that in response to your question, just like, Okay, you have this sort of untraditional main sponsor, then the sort of savvy player at the mes level, they might be positioning themselves to take it over at some point.
That is a I really enjoyed the way she was able to bridge both like this sort of the highly technical financial stuff as well as just you know, good light.
Yeah, exactly.
Yeah.
We'll have to have Liza on again next year and talk some more because there are so many more questions that I want to ask her. But for now, shall we leave it there?
Let's leave it there.
This has been another episode of the Odd Thoughts podcast. I'm Tracy Alloway. You can follow me at Tracy Alloway.
And I'm Joe Wisenthal. You can follow me at the Stalwart. Follow our producers Carmen Rodriguez at Carmen Ermann, Dash, Ol Bennett at Dashbod and Kilbrooks at Kelbrooks. Thank you to our producer Moses Ondam. For more Odd Lots content, go to Bloomberg dot com slash odd Lots, where we have transcripts a blog and a newsletter. And if you want to talk about dead malls or trophy office buildings or anything else real estate, go to our discord Discord, do
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