Lehman's Amazing Lack Of Real Estate Sophistication

The collapse of Wall Street has often been attributed to complexity, mind-boggling financial instruments whose own inventors and investors couldn’t possibly know how they’d behave.

It’s a nice story that has a nice na na-na na na na quality to it. Us normals get to make fun of the geeks that burned their hand doing a chemistry experiment for extra credit

But frequently it seems the story is the precise opposite. Rather than complexity, it’s simplicity that kills.

This weekend, the NYT ran a great story on the demise of Lehman Brothers, and how in the years leading up to its collapse, the bank just got more and more and more invested in real estate.

It’s not very difficult to understand: The bank just kept taking on bigger and riskier and bigger and riskier loans.

That’s it.

Whenever a buyer or developer needed fast access to cash for a huge deal, they knew they could go to Lehman. And as long as real estate values kept going up, and hedge funds maintained their voracious appetite for the riskiest tranches of these loans, then everything was fine.

But there was no depth or sophistication to the strategy. There was no fantastic complexity or science experiment that went awry. As long as real estate values keep going up, you can’t not make money. You can lend money to the biggest idiot on the planet, but if the underlying value of the property goes up, it’ll all work out.

The architect of the plan was Mark Walsh, the head of Lehman’s Global Real Estate group, whom friends described as a “wizard,” though the article doesn’t describe that much wizardry. Just a bunch of big loans.

In 1997, he hastily arranged a $7 billion loan for Starwood Hotels to buy ITT. Next he bankrolled the acquisition of the Chrysler building. Other big skyscraper deals followed. Then, near the end of the boom they lent billions to a company in California that was buying real estate that wasn’t even zoned for residential use, but which they hoped would get rezoning to put homes later. Then in May 2007 Lehman put up over $17 billion to buy the Archstone-Smith Trust, a deal they could’ve walked away from for a mere $1.5 billion breakup fee. But of course, they had no desire to do anything but go big and long and real estate.

Then it all came to an end.

When the market finally collapse, and you’re left holding billions upon billions in loans that can’t possibly be marked properly you’re toast. That’s Lehman in a nutshell.

It’s not really that complicated.

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