The saga of developer Harry Macklow defaulting on his own 432 Park Avenue condo highlights the use of "circular deals." He bought the unit with a loan from his partner, CIM Group, a non-arms-length transaction that can artificially inflate values and project market strength. The subsequent foreclosure reveals the inherent instability of such arrangements.
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Howard Marks warns that during a downturn, private credit managers may avoid recognizing defaults by simply extending loan terms for struggling companies. This 'extend and pretend' strategy can mask underlying problems, keeping assets marked artificially high and delaying a painful reckoning for investors.
The AI boom is fueled by 'club deals' where large companies invest in startups with the expectation that the funds will be spent on the investor's own products. This creates a circular, self-reinforcing valuation bubble that is highly vulnerable to collapse, as the failure of one company can trigger a cascading failure across the entire interconnected system.
The most imprudent lending decisions occur during economic booms. Widespread optimism, complacency, and fear of missing out cause investors to lower their standards and overlook risks, sowing the seeds for future failures that are only revealed in a downturn.
Instead of simple cash transactions, major AI deals are structured circularly. A chipmaker sells to a lab and effectively finances the purchase with stock warrants, betting that the deal announcement itself will inflate their market cap enough to cover the cost, creating a self-fulfilling financial loop.
Saks' downfall wasn't due to poor retail sales alone, but a failed, debt-fueled acquisition of rival Neiman Marcus, driven by the desire to own prime real estate. This reveals their core business model had shifted from selling clothes to controlling valuable property, and they failed on a real estate play.
High home prices should not be interpreted as a sign of a healthy market. Instead, they indicate a system that is malfunctioning as designed, where artificial scarcity created by policy and corporate buying drives prices up. This reflects a structural failure, not robust economic demand.
Policies intended to curb luxury development, such as a construction freeze, have a counterintuitive effect. They transform the existing luxury housing stock into a limited, finite resource. This artificial scarcity dramatically drives up prices for those assets, making them 'gold' and potentially worsening inequality.
Recent credit failures and frauds are not 'systemic' risks that threaten the entire financial system's structure. Instead, they are 'systematic'—a regularly recurring behavioral phenomenon. Good times predictably lead to imprudent lending, creating clusters of defaults. The problem is human behavior, not a fundamental flaw in the market itself.
After working out 22 distressed joint ventures during the GFC, the key lesson was that partner quality dictates outcomes more than the deal itself. When things go wrong, good partners collaborate to find solutions, while bad partners create conflict, making even a good deal untenable.
In mid-2007, months before the Lehman Brothers collapse, investment banks like Credit Suisse couldn't 'move the paper' on securitized loans. This choking of the financing markets was a clear, early warning sign that a major market downturn was imminent, long before it hit the mainstream.