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00:00I think rents could drop 25 percent in New York office rents very stern liked foresees a collapse in Manhattan real estate . I think a quarter third of hotels in New York City could go bankrupt. He says the Corona virus pandemic is just finishing what Amazon started. Retailers like the 911 . It's a hurricane and explains why billionaires like him are fleeing America's blue states. At some point you say that's enough. I don't have to be here. Very stern like this. One of the world's top property investors at the age of thirty one he's started buying up bad loans. And the SNL crisis now three decades later has Starwood Capital manages some 60 billion dollars in assets. Stern like doesn't hold back. And politics definitely play a role in his business decisions. I'm Erik Schatzker. Welcome to my front row interview with Starwood Capital CEO Barry Sterling . How does the pandemic reshape the real estate landscape. A little. A lot. Dramatically. It's very clear that most likely rates stay low for a while. So that has to inform your long term view of. Will you invest in property. And that's kind of what kind of property. So there are the major food groups that real estate like hotels hotels like airlines and cruise ships . The most impacted. We were asked to close our hotels in major cities. Then they shut down domestic and international travel . International and domestic was cut back . So cities like New York or Los Angeles Chicago New Orleans big meeting cities with big convention centers that business CAC a wild comeback. And until they tried international air travel you're not going to see a big resurgence in those hotel markets . On the other hand drive to markets that are mostly domestic and even weak in business where people can get to a hotel on the weekends. That business is coming back very quickly. And in the drive to markets in the low end hotels that are more like Cirque excuse me sir apartments . We're running 84 percent occupancy in a 200 room 200 hotel chain 24000 keys. And yet our hotel in Los Angeles has shuttered downtown. New York has no demand whatsoever. And in Miami where we reopened hotel recently for the July 4th weekend we'll run 70 percent occupancy and everyone is driving Vegas. Vegas was the hotels open to California drivers and other people who are driving the market. Most people aren't flying so it'll be a while. And that's hotels. They'll be better only when we probably have a vaccine. And air traffic returns to more normal levels and groups. Businesses are willing to book conventions . And what will be the long term impact of Zune video on group meetings. Well I don't know how how they certainly will impact the rate of growth and perhaps cut group travel for a while. So office I'm not worried about office tenants are paying. I don't think people enjoy working from home. We're talking off camera about this. I think people are ready to get back to work. Work is more than just coordinating or management by walking around through a leader or a social event. It's like going to the theater. You go out. You want to see your colleagues find out what they did. And I don't think there's anything makes up for a face to face contact. So I am person worried about office . Even though companies may take less space about 20 years ago we started deep deep to identify office. We were using almost 300 square feet per person in office and it got down to two twenty five. You probably to go right back the other way. So a company could take 25 percent less space but go back to the 300 square feet per person and you'd be in the exact same place . I'm not really worried about office to speak of. There are geographies like New York City. I'm worried about office but really for other reasons. And then retail. Retail is like the 9/11. It's a it's a hurricane. And it's everyone who didn't have a . An Amazon prime card now has one. My 86 year old mom figured out how to order a thermometer online and have it delivered in the next day for free . And even in China Ali Baba got the rest of China on their platform. So I think the convenience of of online shopping is Congress and some of the retailers. When you saw companies like Williams-Sonoma report earnings and they did really well they have really up their game online. And I'm an unfortunate customer. So I get bombarded I think five times a day with a different order from police to no more Pottery Barn or any of their companies. I think great physical retail will survive. Rents may not be what they were. Really difficult asset class today. And I'm not talking about a Wal-Mart store. I'm talking about the shopping centers and main streets of America that are really losing tenants left and right. You've seen the record bankruptcies this year of a retail tenant since going to get worse . The . Other asset classes like apartments and single family and single family rentals. Very very good very solid. And really the long term impact will be do. How do we recover from this pandemic . Do we. Do we get back to 9 percent unemployment in the new year and the sort of drifts down to five. So incomes are not hit . They may grow more slowly but incomes continue to rise for the general population. Then the housing market will be fine. If we get stagnant and we keep 20 million people on unemployment which I don't think will happen . You could see a decline in incomes. And when it was that housing prices and and also rents right now you're not seeing that. So I think different asset classes in different cities and different geographies are all impacted differently by the pandemic. Why do you say you're worried about New York. Is that the market that faces the toughest climb out of this crisis . Yes New York took a one two punch. It really obviously was the epicenter of the common experience for Americans. It was the worst hit region of the country. And I think when it when people in New York look around the country and they say they don't see what they're doing in Georgia or in Iowa or other cities that some states that barely shuttered they're looking at it from their experience in New York which was pretty bad . And I think also the riding after George Floyd scared a lot of New Yorkers. So I think people realize that the pandemic seems to have been spread perhaps by the density of New York and the need to take public transportation. And and it was it was a scary time for New York. I think executives are now also looking at all of the other factors that have kept him in New York including their tax rates. And I think in general for Starwood Capital my private firm really favored recently the investing in the red states not because it's a political commentary but the red states are growing whether it's Florida or Texas or Tennessee . The states with lower taxes are just adding people to states with higher taxes are actually losing people and they're voting with their feet and they're in their cars . The move outs from New York and New Jersey I think versus move ins are like 60 percent of people are leaving versus 40 percent coming. And that's just recent data that I saw. So even the Californians are being the leader. What is with regards as a high tax state for places like Wyoming and Nevada which are low tax states. So I think as this is a vicious cycle it gets worse as know if they raise taxes more people leave. And the social burden of the on of those that are less fortunate falls on ever smaller revenue base. And they can't cover it because you have unions you have to support too. So the services of the city get worse the city gets dirtier the police show up less often. Mean it's a negative cycle. I think Europe is close to the tipping point personally. You know I think it's I love New York. I grew up in the area. But things can change. And you know kicking kicking people out to bring jobs isn't a smart program for New York. Tell me more about this thesis on New York. Why is New York a tipping point . So you know New York taxes are probably going to go up in any administration on the wealthy. And I think New York is such incredible burden social burdens on its infrastructure its population that they really need to raise taxes. The city is running a budget deficit. And so I think between the pandemic and the writing that followed that George Floyd incident I think people have changed our attitude a little bit about New York . The last . Two or three years of growth in New York hasn't come from the old banking system and finance it's really been telecom and technology those companies that are dominating the stock market today that are 76 percent of the growth in S & P this year . Whether it's Amazon or Apple or or Facebook I mean they've been very active Google in the New York City office market. Google's gobbled up a couple million square feet. They bought the St. John's terminal. Amazon bought the Lord and Taylor building on Fifth Avenue just before the Kovac crisis. And then during the Kobe crisis Facebook stepped up and took over the Farley Building at Union Station at Penn Station. I guess it is. So I mean they've been taking a lot of space. I think they're the most likely tenants to slow down if they're if they're young people which is why they're coming to New York for talent. They came to the city because young people want to be in the city and they want to recruit them. If they don't want to stay in the city and we'll see it at last. But right now young people are saying maybe I should go to the countryside . I think that the growth of technology companies in New York may may slow down dramatically. And it really is about quality of life through these millennials. And I think at the moment my little survey of my own kids are not that excited about being back in New York . And that's echoed across our associates and analysts too that it's funny the adults are going back to the city that the kids don't want to go back. So what's that all gonna mean for four for valuations and what does that mean for not good and an investor like you. So let's like paint the picture next three to five. And I want to start with capital. Do I think I think rents could drop 25 percent in New York office rents. I think expenses could go up 25 percent. You can see office values dropped 40 percent because of that pressure on real estate taxes in particular that can't be passed on to tenants or rental apartment rents. Right now you can get a property at probably apartment for 25 percent less than you could peek of it . Landlords are desperate to retain and attract young people and they're saying I don't think I want to renew my lease. Maybe I should leave New York. So I think you know I do think that that the mayor of New York is playing with fire and I'm not sure it's going to work to his long term advantage. I don't think you can try to make New York miserable for the affluent and expected to be successful for everyone. So that was my political comment for this interview. So I think I think it's an incredible place as amazing energy. There are other credible places in the country or they will be incredible when all the New Yorkers pump . The former New Yorkers populate them. I've gotten tons of calls from friends in the northeast particularly in New York who want to move to Florida. And that that's really become quite the thing. It's more than they just don't wanna live in the city . And right now. And we'll see. I think I think the city is . It's probably gonna be the toughest office market in the country . It will be New York and San something. Well maybe not worse than Houston which hasn't had a good streak in 25 years . But yeah I wouldn't expect that New York will be one. The one thing going for New York is every foreign investor wants to own New York and it's kind of what they do. Like everyone has to have a building there. So they may not be attuned to nuances and patterns that are changing. So but whether it's apartment rents they're down. There's one other thing in New York right before cope with the legislature pass regulations to regulate more apartments and they do it in such a way that for owner of a rent controlled apartments if you actually invest in the property and fix it up you get no return on the capital. You're not allowed to charge anything for the money. So I and your child's I'm sure you've been there. I was in Mumbai formerly Bombay. And that's the actual impact of this kind of rent control. Owners don't invest in the properties and these four beautiful properties deteriorate and look like slums. And that was an ill thought. Legislation in New York that whole populist movement of not allowing people to raise rents or turn on the money that's necessary to fix up a property . That's not a good long term strategy for any community. And you're seeing it replicated in California and other other cities of the country. And again that's not really they don't do that in the red states. They're more capitalist and they sort of let it go where it goes. And people the biggest mistake people make in the blue states is the is how expensive they are because of the union. The unions lock on labor. And you know we we've constructed a building in New York a couple of years ago and we bid out a contract to renovate this building union non-union and bid for the union contract with ninety one million. And the non-union contract was 54. So we took the non-union contract . But in most cases you have to go union. And that's why housing is so expensive and everything so expensive in New York. It's not because developers are making a fortune. It's because the unions are charging a lot. And and it just makes everything more expensive. And you don't have that situation that red state. So housing is cheaper. Things get done faster. And I think that's benefiting. The Texas is in the Floridas and the Tennessee's and the Seattle's the Washington state. I should say Seattle is not a state. And and it's it's accelerating. It's not it's not turning. The other corner is accelerating . Barry every CEO I talked to says that he or she sees a future with less corporate real estate . My people are going to work from home. I don't. I can have hot desks. We can swap them in and out. Doesn't sound to me like you're a big buyer. That thesis. Not really. Again. Well again they may take 75 percent of the space but they're taking 25 percent more space for the people who come to the office. So the other thing you mention about New York we should mention that we work. I mean we work. Is your call where we work . What's the word for that. Well we work with New York's largest tenant right. So they're the largest in New York and they won't be growing anytime soon. So they'll probably be giving up space . So you know I actually think that shared office space makes sense. I think it's a real asset category. I think it's a real company. I think the valuation was all wrong. And I think they do too since they wrote it down 95 percent. But I do think it's a real business. They do make money in New York and they make money in other major capitals real estate capitals of the world London Tokyo Paris Singapore. They make good money. They didn't make money in tertiary cities where the real estate was cheap and nobody really needed or we were to get into an office and say it was really quickly or in Bangladesh. But their clients ask them to go to all these places and they were going to a global firm and they were told to grow. So they they grew and they grew at a pace that was really hard to do. Aren't they asking for forbearance right now . Not everywhere. We have them as clients in seven or eight buildings around the world. And they paid us in seven of the eight. The one they don't want to be in. They actually want them out of. So because if they're paying a rent it's below market said everything. So we're OK taking the space back . You know in a way I mean if we were could have bankrupted itself . It have gotten rid of all the money losing locations and simply focus on the ones that were doing great. They're in a building in London that we own and they charge tenancy equivalent about one hundred and sixty pounds a foot and they probably need one hundred and thirty after they make it. And we work they pay us like sixty five. So there are pretty good margins in that business but there'll be a big shake out in the shared office space. Most of the smaller guys die. They'll consolidate and it'll always be a profit a niche product in the office space given what you do. You have to have a view on the future of retail. What is it. What's the next question . Yes I would have been a professional tennis player if I'd been good enough . Retail . I think physical retail will stay around. I think you know when you're when you're looking at a retail location if you're an investor you know a tenant you may not know the rent today. The tenants have a few tenants. There are have all the leverage . And so if you'd like to ask a hundred dollars a foot and they say we'll take it once 50 and you're buying that at 10 times cash flow that if you went 10 times one hundred or ten times 50 and our debt was 50 you're now bankrupt. So your assets worth half of what you thought it was worth is very hard to underwrite retail today. The best retail assets is what you call the best . Let's say it was on Fifth Avenue in New York City or on Bleecker Street in the village. If you've been on Bleecker Street or Fifth Avenue there are a lot empty stores because they were bought for rents of 10000 a foot. And today the tenants like three thousand a foot. He pays three thousand a foot. The property is going back to the lender so it stays vacant until he hopes somebody shows up at ten thousand a foot. And rents didn't move like that on Fifth Avenue. You have a sword through the ceiling and same in the village and in Soho. So I think the the Internet brands the strong brands of the Internet they find and I know it's true because I'm on the board of Estee LAUDER for 15 years or sixteen years. The that the physical helps the digital. And they work together to keep the commerce platform in the physical location. They reinforce each other and your sales. The digital only companies often don't get to scale at retail . There is bonobos or B Parker offers. Warby Parker now has 120 stores and their stores are very successful. So there are certain tenants. They'll be super picky where they go. And the nation probably has you know a mall is kind of an outdated concept to some extent. I mean we we own some. It's been really hard . Our tenants keep going bankrupt even if we have a good pure one or good forever 21 or good so we have a great like J.C. Penney just announced a round of store closings as Macy's. None. None in our malls. Our malls are safe. They're all so they're not the worst of the malls. Right. But it's really hard. You know Apple has decided that they are the biggest draw in the mall which they are. And so they say you should pay us to be in your mall. Well that's not what your models. Right. You didn't model that. So it's very hard to value these assets. And it's going to be a long time until that landscape is reached equilibrium. But how much of that is how much of that is pandemic and how much of that is Amazon . If the pandemic isn't Amazon was a pandemic to retail. They practiced what to me amounts to predatory pricing. They were selling product below the cost of its total cost of goods. And in industrial chemicals or in steel you can't do that. It's called predatory pricing. Amazon built their whole company on predatory pricing so supported by their cloud business. So I'm not a fan. I'm not a fan of this kind of technology. I am a fan of convenience . I think Americans should understand that when their main streets go dark they did that. For me it's a trillion dollar company. It's like enough is enough. Maybe we should have some capitalism should have some regulation behind it . You hit a hot spot. So that's a hot spot. I like that . I like charming in there. A guy like mom and pop shops . You started Starwood Capital back in the SNL crisis buying up bad loans. Is there going to be another wave of distressed assets coming out of the pandemic crisis. Yes there will be . When nothing started to trade yet . Well the Fed encouraged the banks to work with their borrowers through the pandemic. And you know at first I was kind of upset because they were saying we'll work with you and they're saying just pay back . So they were saying because they didn't relax the regulations on the banks they just told they encouraged them to be creative and work with their borrowers. It was no fault of ours. When the Miami city government called us up and told us to shut our hotel down and we had to kick 100 people out of the hotel and booked it through the pandemic. We couldn't keep them . So then we have a loan on the hotel. And what do you tell the lender. It's like I'm sorry. We were forced to close our hotel . Who's going to pay the debt service. Not the city of Miami . So I think hotels comeback is going to be slower than I thought . I mean we've we thought we'd have our hotel open in L.A. in June. It still isn't open. They won't let us open the hotel . So we had reserves. We have the ability to cover them. We're a large borrower. But the average mom and dad owner is going to run out of ammo to support their property. So I think a quarter third of hotels in York City could go bankrupt . It's going to be a show. I was going to say one kind of show the famous kind of show. But it's like I can't say that on live TV. So it's going to be ugly. And in big hotels like in Orlando. The hotels the meeting space hotels the big meeting houses. You tell me when big businesses are going to force their their clients or customers are there for their employees to go to a group meeting in Vegas or in New Orleans or in Orlando. There are big hotels built around that business and they won't do well just as a side. High end resorts are fine . I mean like I was talking to the owner of the Oman resorts which are you know a thousand dollars a night and more. They're all booked. So people are out. They want to get away. And if they have the access and ability to get there they're getting away . So they're very high end will be immune. It'll actually might even be better. So . You're one of the wealthy financiers who left the Northeast to move to Miami. If I'm not mistaken largely for tax reasons. Berry I know the Connecticut Governor Ned Lamont has asked you what it would take back. What would it take . I know I need to change. I grew up in New England. And it wasn't just tax reasons actually. I had a business down there . I have 300 people in Miami. So I moved down and that was where I chose to go because I know what you think. Other people are gonna go there for tax reasons. Most people go there for tax reasons. Now you know I think I think I think it's an easier is easier life you know. And if you don't have small children you're not dealing with the school systems or anything like that. So it's more that the retiring baby I'm on the edge of the baby boomers. So I'm the last to go because I'm at the end of the baby boomer generation Connecticut. I think the blue states have to change their attitudes . You know the facts are the wealthy pay half the taxes and it's usually New York City and 70 people pay 50 percent of all the taxes or something like that. They should be hugging these people not taking them out and then yelling at them . The average person doesn't pay taxes. So it's really in Connecticut. The ultimate was of course David Tepper in New Jersey when he left. He created one hundred and seventy six million dollar hole in the New Jersey in the budget . And they had to cut teacher salaries. So maybe they shouldn't negotiate with David Tepper to stay in the state because that would be like just like he'd make a company there . And David's a wonderful guy. And he gives back a lot of philanthropy in New Jersey and doesn't missing work with the homeless and other areas of need. But I think I think Connecticut you know it had a tax advantage over New York. That's why a lot of it used to have no state income tax. And then Governor Weicker put a small one . It just kept going up. And the state has children long in the wrong direction . And Governor Malloy was the predecessor to Governor Lamont who I went to high school with. He was like I'm going to I'm going to balance the books. Well he was a Democrat . He came to all the demands of different groups and the budget deficit never got fixing got wider and he kept raising taxes . At some point you say that's enough. I don't have to be here .

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Bloomberg Front Row: Starwood Capital CEO Barry Sternlicht

Starwood Capital Founder and Chief Executive Officer Barry Sternlicht explains how the coronavirus pandemic is affecting real estate rents and values and why New York's property market is on the brink of collapse. Sternlicht, who left Greenwich, Connecticut, to take up residence in Miami, also shared his thoughts on politics and the 2020 election. He spoke exclusively with Bloomberg's Erik Schatzker on "Front Row." (Video edited to remove incorrect graphic.) (Source: Bloomberg)

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