If the economy is firming up, can a comeback in the depressed Manhattan office market be far behind?
The answer, according to Insignia/ESG Vice Chairman John F. Powers, is yes, later and maybe. Yes, if you’re talking about prime midtown space. Not before 2003, if you’re talking about midtown south, the area where rents soared during the dot-com boom. And only maybe in the Wall Street area, where the devastation of the World Trade Center attack has made recovery far more difficult for a market that has too much obsolete office space and too few amenities.
Powers’ prescription for a long-term downtown recovery: Create a vibrant, mixed-use environment on the WTC site that will attract new residential, cultural, retail and entertainment development. His boldest idea: Convince Hunter College to leave its cramped midtown location for better space on the WTC site.
Powers gave this assessment at Insignia/ESG’s 16th annual market forecast breakfast Tuesday, where keynote speaker Rudy Giuliani endorsed the idea of a mixed-use development, along with a Sept. 11 memorial at the World Trade Center parcel. "It has to be a perfect combination of memorial and commercial development," said the former mayor. "One hundred years from now, we will be judged by how we do that."
Powers pointed out that long before any rebuilding project gets under way, leasing decisions by some major office tenants could indicate how quickly the downtown market recovers. "There are many large tenants who will be making 15- and 20-year decisions and there are many attractive blocks of space for them," he said. However, those tenants could follow the lead of others to New Jersey, where large-format, modern spaces are plentiful and economic incentives add up to an estimated $7 per sq. ft. in rent reduction — or of the displaced tenants of the WTC disaster, most of whom have gone to midtown.
Before any submarket fully recovers, however, several things have to occur, Powers says. First, there is all that unleased office space — availability rose to 9.8% across Manhattan at year-end 2001, up from 4.4% at the start of the year. Downtown availability stands at more than 13%, despite the need for space by tenants displaced by the WTC attack. Insignia ESG estimates that 22 million sq. ft. of space were lost, but there was only demand for 13 million sq. ft. of replacement space.
The biggest immediate issue, says Powers, is the huge amount of subleased office space. A "whopping" 44% of office space in Manhattan is now occupied by subtenants, he estimates. Normally, that figure stands at 15% and the high level of subleasing has a direct impact on pricing, which Powers figures will drop another 5%, except for in the largest spaces.
As the economy recovers — Powers predicts 3% GDP growth next year —and demand picks up, a return to more traditional pricing patterns should follow. Midtown south, where New Economy businesses flocked in the late 1990s, saw asking rents rise to more than $50 a foot. That’s only a 20% discount to midtown prices. Powers says that pricing in midtown south must return to the normal 35% discount from midtown. Asking rents already have dropped 19% from January 2001.
In the downtown market, Powers says rents will settle at a 40% discount to midtown, producing historically low rents. "We will see bargains that will never again be seen in my lifetime," he said.
The best news: This down cycle is not accompanied by a flood of new office space that has to be filled, unlike at the end of the 1990s boom. Only 12 office towers were built during the boom, including only one (3 Times Square) completed in 2001. The new buildings are 85% leased, Powers says. That, he concludes, should provide the foundation for a recovery in office properties when the economy strengthens.