For New York, the trend is its friend in 2006-07

Real Estate Weekly, Feb 1, 2006 by Peter P. Kozel

New York City's office sector continued to improve throughout 2005, making it one of the best performing markets in the U.S. By the end of the year, the overall vacancy rate in the city had fallen to just about 10% from 12.7% at the beginning of the year. Rents had also started to firm.

So far, the strongest rent picture is seen in the Class A buildings at the prestige locations, where asking rents are again moving above $100 per sf. Given the picture that is emerging for strong growth in both the national and regional economies, the prospects for further declines in the vacancy rate and higher rents in 2006 and beyond are positive.

This overall average vacancy rate for the city, however, does slightly misstate and understate the extent of the improvement in the leasing environment and the demand for office space. The absorption of space has been particularly active in the city's mMidtown and midtown South submarkets.

In the midtown market, the total availability rate ended 2005 at just below 9%, which is down from nearly 12% at the beginning of 2005. In terms of the amount of space being offered, the midtown south market has done even better. The availability rate at the end of the year was 8.5%, which was down from 11.5% at the beginning of 2005. The combined inventory of investment grade office space in these two sub-markets is close to 325 million sf, making this market the largest and one of the very best performing in the U.S. over the last year, with the combined absorption of over 8 million sf of office space in these two submarkets during 2005 and nearly 10 million sf for the entire city.

These solid demand numbers have been generated in a City that is succeeding in adapting to the challenges and seizing the opportunities of the global economy. During 2005, the measure of total employment used to compute the unemployment rate reported an employment gain of 65 thousand or just over 1.8% from the previous year. This survey includes people who work as independent contractors, an increasingly popular method of staffing in the U.S. These employment gains in the City result in an unemployment rate that is hovering around 5.5%. While this rate is slightly higher than the U.S. average, it is one the lowest among the large cities in the nation.

The current forecast for the U.S. economy looks for constant dollar GDP to increase by close to 3.5% in 2006 and near that rate in 2007. Growth at that pace means total employment in the U.S. economy will increase by at least 2 million jobs each year and that corporate profits will expand by 8% to 10%. The expansion in the global economy continues also. With that backdrop, New York City's economy and office sector will prosper. The contours of what drives its expansion are already pretty well defined.

In the financial sector, corporate merger and acquisition activity will continue to intensify. Stock and bond issuance will grow; connected with the financing of capital spending and initial public offerings. Public sector financing will pick-up as major reconstruction and infrastructure projects move ahead. The sophisticated corporate finance and investment banking activities for which New York is so famous will continue to flourish. The law firms naturally feed off of this activity.

The jump in incomes and wealth that has occurred during this expansion is engendering a recommitment to retail banking in the City. The banks have already started looking for space for their new branch locations.

The sustained expansion in national and international capital spending supports the expansion of the engineering, architectural, and consulting firms that populate New York office space.

With these trends in place, the absorption of office space should run close to the pace in 2005. In the Midtown market, for example, the availability rate will drop to 6% by the end of 2007 from the 8.9% level at the end of 2005. This rivals the availability rate in 2000 when it averaged 5%. In reality, it may be that some of the remaining space does not satisfy the needs of prospective tenants, meaning that the recorded availability rate doesn't fall to 6%. However, it is clear from the general demand trends that rental rates will move up over the next two years, exceeding the 2000 peak by the end of 2007.

New York is fully integrated into the global economy. Therefore, the threats to New York's economic health are similar to those that might jeopardize the global expansion. In addition, though, the City's leadership recognizes that it has to remain a competitive place in which to do business. Progressive development policies, attention to the infrastructure, and vigilance on expense control continue to hold the attention of the City.

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PETER P. KOZEL PH.D., EXECUTIVE MANAGING DIRECTOR, RESEARCH AND RE STRATEGIES, NEWMARK KNIGHT FRANK