A couple days ago we discussed the decision by a New York City judge regarding Donald Trump in his civil trial. The results sent Kevin O'Leary off the deep end. He took to the media pointing out that not only does every developer in the country do this, so do all real estate agents.
The fact that Trump was targeted with civil action is looking like a political move. Whatever the motivation, it caused O'Leary to claim he will never invest in New York again. Since that time, others have followed suit.
Here is the problem: optics means a great deal. When it comes to finance, trust is at the core of everything. This is why contract law is crucial. For New York, it seems connection law is what reigns.
That said, New York City is going to be in hot water.
Decisions Have Consequences Especially When In Debt
People often talk about debt levels. The reality is that debt is not a problem as long as there are willing buyers. Once the music stops and buy demand disappears, then trouble ensues.
For a municipality, this means the selling of bonds. Like most, the City has to offer out an interest rate appealing to buyers. If people lose trust, the coupon rate is going to have to increase.
The advantage to "munis" is they are tax exempt. It is a fantastic way to earn yield without having to pay Uncle Sam.
For New York, there is one problem: a $7 billion deficit. This is what the city was running before the migrant crisis. Nowthat it is offering them housing and other essentials, this is sure to increase.
The city was already enticing investors with higher yields. The financial outlook for the city, however, is dire.
To start, Wall Street profits are down. The city collects a ton of tax revenue from investment banks. Layoffs are on the horizon meaning the city income tax money is going to decline Then we have the outward migration as many entities are fleeing the city. We cannot overlook the commercial real estate crisis which is being driven, in part, by the remote work evolution.
All of this is making the city bonds look unappealing.
For reference of how this could look, Detroit might be the poster child. A decade ago, it was forced to declare bankruptcy, with a deficit of a little over $300 million.
Certainly, there is a stark difference between Detroit and NYC in size. However, the degree of numbers does not change the situation.
Pension Ponzi Scheme
There is another issue looming for many major United States cities: the upcoming pension crisis.
New York is in for another hit as it starts to face the reality of having to pay people their pension. Where is this money going to come from?
The pension funds are vastly underfunded. This means there is not enough money to cover the costs. Even if that were the case, part of the package is free healthcare for life, something that carries a great cost to the city.
Where this becomes a problem is that, by 2032, there will be more retirees being paid by to the 70% of US cities than those employed. What this means is taxes in those areas are going to increase.
By the way, on a larger scale, this is the same issue the EU faces with its aging population. This is a ticking time bomb and it is already evident that New York investment banks are not buying ECB debt. What happens when the music stops?
Of course, this has been seen throughout history. The most recent example was the Soviet Union. Many in the West feared this entity as it has such a large military. There is a problem: when you do not pay the military, they refuse to fight. With the Soviet soldiers, armed with an AK-47 and a bottle of vodka, as the checks stopped, one was put down while the other was picked up.
It doesn't take agenius to figure out which one fit into each category.
New York City might be able to sell its bonds. To do so, it is going to have to pay an ever increasing rate to attract investors. This, naturally, pushes up the cost of servicing, further hampering the budget.
To alleviate this, higher taxes are required, something that will not sit well. Here is where it all starts to unravel.
This is a chart of the population of Detroit over the last 40 years:
New York City might not follow suit but this is not uncharted waters. Something similar happened in the 1970s. It took two decades for the city to recover, mostly driven by the explosion of Wall Street.
We are getting close to the population level of 2000. If it drops into the range it saw in the early 1980s, there might be no rebound. This is compounded if the theory laid out in The Layout For The Globalization Of Real Estate comes to fruition and we are seeing the popping of the artificial urban real estate bubble.
Investors are going to have to look hard at this situation. The financial move of the next decade could be to short bonds of this nature.