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David R. Jones, Esq. Headshot

Predatory Equity

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I know it's not nice to gloat -- to say "I told you so" -- but the recent news reports on the financial turmoil at Stuyvesant Town and Peter Cooper Village -- involving over 11,000 apartments in 110 buildings -- is just too good a story of greed and stupidity to let it pass.

The project was purchased in 2008 by Tishman Speyer for over five billion dollars. There was a near universal sentiment in the housing advocacy community, including my organization, the Community Service Society, that given the large number of rent regulated units in the complex, there was no way the rent rolls could come close to meeting the nearly four billion dollars in mortgage-backed debt, far less to provide a return to Tishman Speyer for the $800 million it invested in the deal -- unless -- it was the new owners' intention to push moderate income tenants out and replace them with well-heeled renters willing to pay rents at a much higher price.

This is a classic example of "predatory equity," an advocate's term for the incredibly harmful practice of investing equity and securing bank loans to buy rental apartments at inflated prices. Why would investors and banks do this? Basically because at the height of the housing boom, and even at the beginning of the downturn, there was almost a religious belief that rental housing prices would never fall in the New York real estate market, and there were an unlimited number of affluent people waiting for apartments as soon as you could get rid of low and moderate income tenants.

Hindsight, of course, is 20/20, but literally everything that could go wrong did, not only for high profile projects like Stuyvesant Town, but for hundreds if not thousands of other projects throughout the city and the country. The problem is going to be with us for a long time, lasting well after the recession is declared officially over, as Fed Chairman Ben Bernanke came close to doing.

Naming the full list of people and businesses that are in line for trouble would take a blog in itself, but obviously first in line have to be poor and moderate income tenants, basically minding their own business and paying rent on time, who suddenly find that their nice apartments were bought by real estate developers and investors who thought this was a way to mint money and now are going into default -- losing their overleveraged stake -- but putting people at risk of being thrown out on the street.

The banks of course are at risk here, too. One of the problems facing the Obama administration is figuring out what are on many banks' (think Citibank) balance sheets and what the actual value of properties they hold as security for the mortgage they've given to large residential rental properties. The Stuyvesant Town meltdown wasn't isolated and almost certainly more problems are in the offing for New York banks which hold paper on rental real estate.

Of course, the general public is in line for pain, too. Taxpayers and government regulators will be called upon once again to get the banks out of the situation they've gotten themselves into. Significant disinvestment in the maintenance of rental property is already being discussed as part of the Stuyvesant Town development and, with the unemployment rate almost certainly to exceed 10 percent in New York City, the housing disaster is almost certain to drag the city's recession on well past the rest of the country.

The individual real estate firms and banks that set up these deals can't be allowed to walk away, particularly when even cursory due diligence on many if not most of these deals indicate they weren't sustainable even in good times. They have to be examined legally, by investors, regulators, and legislators, to make sure that tenants are protected, prosecutions are brought if necessary, and taxpayers aren't left holding the bag for the excessive greed of speculators.