MARKET HIGHLIGHT, DECEMBER 2006

NEW YORK CITY MARKET HIGHLIGHT

Retail Market

The retail market continues to thrive in prime areas in New York City. Areas such as Madison Avenue, 5th Avenue in the 50’s, 57th Street and SoHo are some of the hottest markets right now. Rents are high, but have been stabilizing much to the relief of retail tenants. However, in areas such as Fifth Avenue in the 50’s, tenants are still seeing rents that are more than $1,000 per square foot.

Major lease transactions at 505 Fifth Avenue and 1880 Broadway mark substantial changes to the retail market. In a recent deal, brokered by CB Richard Ellis, the Swedish retailer H&M leased 25,000 square feet in a high-tech, Class A office building at 505 Fifth Avenue on the northeast corner of 42nd Street.  On 1880 Broadway, in a deal brokered by Cushman & Wakefield, Best Buy leased a substantial amount of space in this prime retail market.

The bank trend that was sweeping New York City has finally slowed down, as banks are no longer in high demand. This slow down has allowed international, super-luxury retailers to start looking for more space in New York City. Retailers such as Spain’s Mango, Britain’s Top Shop and Japan’s Uniqlo are all beginning to take space in New York City. These retailers offer what the city is looking for — moderate to low priced, high-fashion goods similar to H&M. Additionally, trendier, less expensive companies have a larger market to go after, while some of the more traditional retailers have slowed down because they cannot afford current rents.

On the flip side, the most underserved retail niche seems to be supermarkets and food stores. As the market strengthened, supermarkets, while not paying high rents, lost a good portion of the market share and viable real estate. 

As more and more of the retail market is being maxed out in New York City, brokers and tenants are all looking for the next up and coming area. A section on Fifth Avenue, between 42nd and 48th streets, is currently undergoing a transformation from a weak retail corridor to a prominent shopping district. With the recently completed deals by Best Buy on 45th Street and H&M on 42nd Street, this area is seeing a flurry of activity from national retailers looking to take advantage of the heavy pedestrian traffic, the New York tourist and the relatively low rents as compared to available spaces above 48th Street.

— Susan Kurland, executive vice president; Alison Lewis, senior managing director; and Robert Gibson, executive vice president for CB Richard Ellis.

Multifamily Market
Rentals in Demand, as Condominium Market Slows

As the for-sale ownership and luxury condominium market cools, the multifamily rental market in the tri-state area is strengthening. Rental properties in Manhattan, the five boroughs and even in the suburbs as far as 50 miles from New York City are in constant demand by investors of all types. Rental rates continue to rise with the greatest growth seen in Lower Manhattan and the Upper West Side.

In both new construction and substantial rehab projects, several trends have been firmly taking hold in this market. High-quality construction build-outs and varied amenities are now becoming the norm. Developers are willing to spend an increasing amount of money per unit to provide this quality because they believe this investment will translate into higher rents. In Manhattan, one of the nation’s most upscale rental markets, a standard studio apartment could average as much as $2,400 per month, and a one-bedroom apartment could average as much as $2,800 per month. To compete in this ever-growing market, newer units now offer unique amenities such as marble countertops in the kitchen, first-class appliances and washers and dryers.

Furthermore, new standards in the rental market are pushing developers to provide attractive building amenities for the tenants. Swimming pools in newly constructed buildings are back in demand, as are high-tech workout spaces. Multi-media rooms that can be used by renters in the building for business or social events are also a hot amenity now being offered in many rental buildings.

New and varied services are being offered to tenants in order to generate interest in older rental properties, as well as to create new revenue sources. For example, more and more technological upgrades are being installed in individual units, which is making building operations more sophisticated and customized for tenants. Computer terminals in lobby’s, and Internet email-based systems are now common in both newly built rentals and older buildings that wish to compete for tenants.

The sales activity in the New York City multifamily market continues to remain active. Just during the months of September, October and November, our firm sold almost $500 million worth of this product alone. The capitalization rates for these transactions were generally between 3 percent and 4 percent, and show the tremendous demand for this asset class.

Another interesting aspect of the market for multifamily real estate is the willingness of large financial institutions and pension fund investors to acquire Class B assets and even walk-up apartment properties in the boroughs.  Only a few years ago, these types of investors would only consider A+ type properties in well-located areas, but the significant profits to be made in the Tri-state area and non-traditional areas of Manhattan, have awakened these large institutions to the great opportunities in all types of multifamily properties.

— Eric M. Anton is a senior managing director for Eastern Consolidated.

New York City Investment Market
Germans Selling In Manhattan

The office market in Manhattan has continually improved over the past several years. Since the office market bottomed out in 2003 with an availability rate of 14.1 percent a and rental rate of $39.97 per square foot, rents are once again climbing, nearing the record set in 2000. Rental rates are currently at $51.26 per square foot, while availability rates have dropped to 8.7 percent. Office property values, which have increased 8 out of the last 10 years, this year, have surged to a record of $585 per square foot.

The sales volume in 2006 is on pace to reach more than 70 transactions by years end with a total value of more than $12 billion. Capitalization rates have fallen below 5 percent for prime properties as investors anticipate further rental appreciation. History has shown that after availability rates drop below 10 percent, rents aggressively increase.

During the past decade, German investors, who had been some of the largest foreign buyers of commercial real estate in Manhattan, now make up the largest contingent of foreign sellers. At Germany’s 9th annual International Commercial Property Exposition, Expo Real, which recently took place in Munich, Germany, the factors affecting this trend were examined. The combination of improving office rental rates and stable interest rates have motivated many German office property investors to sell their office properties in Manhattan. 

In the current investment environment, German funds and syndicators have been priced out of the market. Instead, German investors have been actively selling, taking gains in time frames well short of their initial underwriting horizons and making distributions to their investors in the 5.5 percent to 6.5 percent range. Approximately $10 billion in sales closed or were under contract through the third quarter 2006. German investors accounted for more than half of that volume, selling more than 6.4 million square feet valued at $5.4 billion.

The German investment fund, Jamestown, has been involved in two of the largest transactions this year, selling 1211 Avenue of the Americas to Beacon Capital Partners for $1.5 billion or $779 per square foot and 1290 Avenue of the Americas to Hudson Waterfront Associates for $1.2 billion or $632 per square foot. Other German investors that have sold or are selling properties in Manhattan this year include TMW, SEB Asset Management, Paramount Group, KanAm and HausInvest Global. 

—  James Murphy of GVA Williams.

New York City Office Market

Aside from the new World Trade Center site, most Manhattan office properties need to have an anchor tenant in order for developers to move forward with a project. Also, security issues and energy conservation are important topics for new office development.

Development

Two significant office developments in Manhattan are 7 World Trade Center and the Bank of America Tower. At 7 World Trade Center, the 1.7 million-square-foot office tower, owned by Silverstein Properties, was completed in the second quarter of 2006. Although the tower was delivered vacant without any anchor tenants, Silverstein has successfully completed six transactions in the building over the last 9 months and has leased half of the building. The most notable transaction was the Moody’s’ Investors lease of 600,000 square feet. Those in the Manhattan marketplace have seen that prices for the Downtown market are being impacted by 7 World Trade Center. Asking rents are ranging from $55 per square foot to $70 per square foot. Class A asking rents have jumped 20 percent in the past year to $45.58 per square foot, with most of the increase attributed to 7 World Trade Center.

At 1 Bryant Park, the Bank of America Tower, 2.6 million square feet is under construction in Midtown Manhattan and is scheduled for a 2008 delivery. The Bank of America has pre-leased 1.6 million square feet in the building, and other transactions have been completed this year, culminating in 78 percent of the space being pre-leased. The shortage of new supply coming onto the Midtown market over the next 3 years will continue to keep the Midtown office market in a supply/demand imbalance. 

The majority of the office development is taking place in Lower Manhattan. The Class A space lost following the events of 9/11, is finally scheduled to be built by 2012, which will create more than 8 million square feet of office product. The city and state governments have put its commitment to the redevelopment of Lower Manhattan and after 5 years the project is underway. Approximately 1.2 million square feet has already been leased in two of the four proposed office buildings, 600,000 square feet of which has been leased by both the GSA and the New York and New Jersey Port Authority.

The Far West Side (Hudson Yards) is set to be the next big development market in Manhattan. The area, bordered by 43rd Street to the north, 30th Street to the South, Eighth Avenue to the east and the West Side highway to the west, will be essential to the growth of the Midtown office market due to the fact that only two new office projects are proposed in Midtown and there are no other opportunities for new office construction in Midtown because of the lack of buildable land. The West side of Manhattan offers an opportunity for new development, and the new buildings will offer generously sized floor plates for Midtown users.

Leasing Activity

On average, leasing activity from 1997 to 2000 totaled 33.5 million square feet per year. That total dropped down to 22 million square feet on average from 2001 to 2003. During the past 2 years, leasing velocity was back up to the average activity experienced in the last rising real estate cycle  in which 32.5 million square feet was transacted. In 2006, expect leasing activity to surpass 33.5 million square feet, with already more than 23.5 million square feet leased through August of this year.

During the past 5 years, Midtown has typically accounted for 60 percent to 70 percent of overall market leasing activity and has continued to do so this year. Downtown leasing activity between 1997 and 2000, averaged approximately 7.6 million square feet of space leased each year.  Between 2000 and 2005, that annual average fell to approximately 3.8 million square feet per year.  This year, through August, 4.0 million square feet has been leased and activity levels will end the year at pre- 9/11 activity levels.

The financial industry has accounted for 41 percent of the leasing activity in Manhattan this year. The next closest industry is legal services with 10 percent, followed by government with 9 percent. Expect similar trends in the coming year with the financial industry leading the way. There is also a potential for growth in the technology sector during the next 18 months.  

As available supply shrank and asking rents rose during the last 12 to 15 months, the term landlord’s market was being used to describe the Midtown office market. Now, with a rapidly recovering Downtown market, leverage has begun to shift in the landlord’s favor throughout Manhattan. Although asking rents are steadily on the rise Downtown, the spread between Downtown and Midtown Class A asking rents remains wide enough, at 41 percent, to attract tenants to Lower Manhattan.

Recently, the rising rents in Midtown have priced some tenants out of their existing space. In 1997, the average asking rent was $38.50 per square foot for Midtown space. With average Midtown asking rents currently at $59.32 per square foot, a tenant that signed a lease 10 years ago is conceivably looking at a 54 percent rental spike when renewing. In an attempt to mitigate their real estate expenses, more and more tenants north of Canal Street are migrating to Lower Manhattan, more than 80 companies in the last 18 months, as they are increasingly faced with drastic rental increases in Midtown. 

Vacancy Rates

In the third quarter, Manhattan office vacancy dropped to 7.3 percent compared to 8.9 percent one year ago. Midtown vacancy is the lowest it has been in recorded history at 5.3 percent, a 2.1 percentage point decline since the third quarter of 2005. Midtown South vacancy is down 1 percentage point from one year ago, but has remained flat over the past 9 quarters. Despite a 12.3 percent vacancy rate in Lower Manhattan, demand is high in the Downtown office market and asking rents have increased steadily for the first time in more than 5 years.

After reaching a high of more than 19 million square feet of available sublease space during the fourth quarter of 2002, sublease space has diminished considerably. Through the third quarter of 2006, only 8.2 million square feet of available sublease space remains on the market.  

Investment Sales Activity

Through September of 2006, more than $9 billion in investment sales volume has closed. In 2005, a total of $13 billion in investment transactions was completed. The market is on pace to equal or best the investment activity experienced in 2005. Although fewer products exchanged hands through this time last year, the price per square foot for properties has increased close to 20 percent throughout Manhattan.

Interest Rates

Raising interest rates have not impacted the Manhattan office investment market and the Federal Funds Rate is still at 4.64, just a little more than the 4.549 average 10-year treasury. It has been a very healthy and active market throughout the year. Buildings changed hands at record prices, vacancy rates shrunk and asking rents rose. Real Estate Investment Trusts have been on a shopping spree and conversions from office to residential buildings helped to further push prices up.

Job Growth

Recent low unemployment, which as of August 2006 was at 5.1 percent, and a growing economy for the past 3 years has been a big boost to the Manhattan office market. Dense concentration of financial and legal service firms with high paying jobs have positively affected the market as well. Also, companies that left Manhattan in 2001 are coming back, creating more office jobs. This likely will lead to continued high leasing activity through 2007.

— Richard Persichetti is a research services manager at Grubb & Ellis.

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