By Martin Sinderman and Alfred Branch

New York City's Property Markets Move Forward

Even after all the rubble and debris were cleared away, the impact of the horrific terrorist attacks on September 11, 2001 lingered throughout the nation—and particularly in New York City. Ongoing threats, continued military actions and numerous tributes are just a few of the constant reminders of that tragic day. While the emotional scars still mend, the task of physically recovering from the estimated $83 billion in economic losses in New York began almost immediately.

Obviously, the commercial real estate industry was, and still is, one of the sectors most heavily impacted economically—both in New York City and across the nation. In some respects, the after-effects have been largely indirect. In other ways, the attacks changed the very way in which individual properties are operated on a day-to-day basis. But following in President Bush's well-known words, the city has sought a return to normalcy as the individual property sectors react to the changing challenges they face.

Building Momentum

When looking at property sectors impacted by the attacks, much of the focus centers on office buildings. The New York City office market, and particularly its downtown portion, has made an amazing recovery since September 11, according to Ken Krasnow, senior managing director of the New York Metropolitan Region for Cushman & Wakefield Inc.

"There is a tremendous amount of momentum underway downtown—the resiliency of the people and the business community here has been nothing short of remarkable," Krasnow says.

Dire predictions regarding the user affinity for the New York office market that were made immediately after the attacks did not pan out, notes Krasnow.

"We did not see an exodus of companies, even though a number of them chose to diversify their operations outside of downtown Manhattan," Krasnow says. And, he adds, "The majority of the major companies [that did this] have returned to downtown, including the likes of American Express and Merrill Lynch."

Like much of the country, the pace of office leasing in New York has slowed into 2002. "However, that is more due to the general economic malaise we are currently experiencing nationwide," Krasnow says. "The willingness of a large number of companies to consider moving to or staying downtown, considering that we are only nine months out from one of the most horrific events of our lifetimes, is pretty remarkable."

Window of Opportunity

		World Trade Center Plans to be Redesigned After having served for so many years as a cornerstone of the New York City

Many industry watchers see a "window of opportunity" opening for office space users to secure good space deals in New York. That window is being propped open by the Lower Manhattan Development Corporation (LMDC), the joint state-city organization formed to oversee the revitalization of lower Manhattan.

"A variety of business retention and attraction programs have been put in place. In addition, programs have been developed for imminent rollout that will focus on creating an exciting, vital, interconnected and diverse environment for working, living and recreating in lower Manhattan," says LMDC vice president for corporate development Patrice Derrington." In July, the LMDC and the Port Authority of New York and New Jersey released six initial proposals for rebuilding the 16-acre World Trade Center site that met with sharp criticism (see sidebar).

An LMDC program with particular impact on the rebuilding of the downtown New York office market involves subsidies for office space users. The program provides rates for downtown New York office space at a 50 percent discount to those in Midtown Manhattan, according to Derrington. The program constitutes what Krasnow calls "a tremendous economic incentive for companies that will locate or remain downtown."

Midtown Preference?

"The resiliency we've seen in the downtown market has been remarkable," says Michael Reid, chief operating officer of SL Green Realty Corporation (NYSE: SLG), an owner and operator of New York office buildings. Rent subsidies and other incentive programs are providing a strong basis upon which the downtown market can compete, he notes, and are definitely attracting the attention of office users. But at the same time, "It's hard to say that there has been any kind of a return to normalcy," he says.

"There seems to be a significant amount of resolve on the part of government and private enterprise to make sure downtown does recover—and signs of recovery have come sooner than perhaps a lot of people initially expected," Reid says. "We are confident that this coalition will eventually turn things around," he notes, "but over the short term, downtown will continue to struggle with issues of transportation, air quality and psychology—which will probably inhibit its growth over the next five years or so."

The struggles downtown have directly impacted the midtown market. "There has been a shift in the balance of the [office] market in favor of midtown," Reid says. "Our vacancy rate here has fallen to below 10 percent, and we are fortunate to have virtually no new supply coming online for the next four years."

Operating in a New World

Any new office building coming online downtown over the next several years or later will, like the existing facilities, operate in a different fashion than pre-September 11, according to Richard Clark, president and chief executive officer, Brookfield Properties Corporation (NYSE: BPO). Brookfield was one of the real estate companies most immediately impacted by the attacks as the owner of several properties near Ground Zero including Liberty Plaza and the One, Two and Four World Financial Center buildings.

All of these office properties have been back up and running for some time, "but we are doing a whole host of things differently (when it comes to operating them)," Clark says.

"Obviously, security has changed (since September 11). We are all much more alert to the threats that are out there," Clark says. At Brookfield's properties, "We've gone from a largely open-building' philosophy, where tenants and visitors can just walk in, hop on an elevator and go to any floor, to a closed' concept, incorporating high-tech security and other elements." Brookfield has also beefed up security in other areas of building operations, such as parking garages, Clark says.

And, like hosts of other property owners across the nation, Brookfield has had to deal with an insurance marketplace that has changed dramatically since the terrorist attacks of last year, a situation that Congress was still addressing at press time.

"Prior to September 11, terrorism insurance was effectively a freebie that came along with our property/casualty policy," Clark says. "Now, though, (terrorism) is excluded. You have to go out and find the coverage—and if you can find it, it is very expensive."

Office Outlook

While the terrorist attacks have directly affected the bottom lines of office building owners and changed some of the nuts-and-bolts of operating these properties in New York City, their impact on the overall future of this marketplace is more indirect.

Like the U.S. economy as a whole, the New York City office market was already softening at the time of the attacks. According to a recent research report from Merrill Lynch Global Securities Research & Economic Group, the New York City office market appeared to be bottoming out as of the end of May 2002.

"However, we want it to be clear that this prognosis is predicated on the stock market not substantially deteriorating from current levels over the next 12 months," according to the report. The report projects market vacancy to begin to decline in the second half of 2003, from an 11 percent to 11.5 percent peak this fall—while noting that asking rents for direct-lease space have declined 12 percent to 18 percent since year-end 2000. That performance ranks better than that of many other markets around the country, according to Merrill Lynch.

Indirect Retail Impact

Although the impact to the office market may have been the most immediate, the retail, lodging and residential real estate sectors were also affected both directly and indirectly.

The New York/Northern New Jersey portion of Simon Property Group's (NYSE: SPG) portfolio, comprised largely of enclosed regional mall properties, took an immediate financial hit as a result of the attacks, according to Michael P. McCarty, senior vice president of research and communications.

"The important thing to note, though, is that traffic and sales at those properties recovered to their pre-September 11 levels within six to eight weeks," McCarty says. "Where the impact of the attacks has been most sustained—probably in all portfolios, not just our own—is in markets that are heavily tourist oriented, such as those in Florida. It may take the better part of a year before these markets return to where they were."

Del Kendall, a principal with the Real Estate Research Corporation (RERC), agrees that an improving tourism industry will help drive New York's retail recovery. "Retail, especially in New York City, is so dependent on consumer confidence. As we have seen a drop in tourists visiting the city, that has hurt the retail market because the tourists are a major part of the retailers' market," Kendall says. "There have been signs that the summer tourism season has improved and a strong summer will be what puts the retail market back on its feet."

Any lingering impact of the terrorist attacks on the retail real estate marketplace has been more indirect than direct, according to Joel Murphy, president of the retail division of Cousins Properties, Inc. (NYSE: CUZ), a developer, lessor and manager of retail properties.

"What is now happening in the retail market, as far as new development, is the result of retailers being much more tentative in how they deploy their capital—something that was starting to take place well before September 11," explains Murphy. Once the initial shock of the attacks passed, "[Retailers] realized that as horrific as the events were, they had to move on and rationally deploy capital, open stores and do business," Murphy says, adding "they are now doing so in a conservative manner."

While rents have remained relatively flat, Kendall says retail vacancy rates in New York City have dropped slightly—although not at the dramatic level initially anticipated last September. "Vacancy rates are right around the 7 percent mark now, which is up from the 5.5 percent range prior to Sept. 11, 2001," he says.

Lodging Lull Remains

Much like the retail sector, the impact of September 11 lingers in at least some sectors of the lodging industry, primarily in the way in which it has prolonged the national economic downturn that was already underway at the time.

"Many in the investment community surmised, or were hoping, that the events of September 11 would accelerate the economic downturn, allowing us to get out of it earlier," notes Christopher Haley, managing director for Wachovia Securities, Inc. "But given the concerns about the consumer at this point in time, along with business activity that is slowly turning positive, expectations of a recovery for the second half of this year are increasingly being pushed out. This means a lengthier period of economic doldrums, which is impacting the lodging companies at this time."

Because the New York City lodging market is so dependent on group and corporate travel, the sector is highly susceptible to the lingering national economic problems, RERC's Kendall says. While occupancy rates for higher-end hotels in New York City were in the high-80 percent range prior to the attacks, Kendall says those rates slipped 5 percent to 10 percent.

"While the improvement in occupancy rates was better than expected in the first quarter of 2002, the ongoing economic troubles have tapered the rate of improvement in the second quarter," Kendall says.

No Residential Exodus

Perhaps the least impacted real estate sector in New York City has been residential, which remains one of the most expensive, heavily competitive markets in the U.S. The limited direct impact debunked fears that—like corporations—there would be a mass exodus fueled by safety concerns.

While there were scores of New Yorkers in Lower Manhattan who were temporarily displaced by the events of September 11, primarily due to environmental concerns and limited street and public transportation access, most have moved back into the area. In addition, REITs such as Archstone-Smith Trust (NYSE: ASN) have acquired properties in New York City for the first time (101 West End Avenue in the Upper West Side), not deterred by any residual anxiety from the attacks.

"The multifamily sector has recovered as well as any in New York," Kendall says. "We have seen two sales of high-priced assets that are signs of confidence in the market and indications that companies and investors are banking on the market remaining strong."

Residents will continue to live in the city as long as it remains the financial capital of the world and home to so many jobs. But just in case there were lingering fears, the government offered incentives, as much as $12,000 credits, to individuals who sign two-year leases in apartments in the Lower Manhattan area, also helping to stabilize the market.

Steve Solomon, executive vice president in charge of the real estate group at New York-based public relations firm Howard Rubenstein Associates, says the residential market in the city is not only stable but also showing signs of growth. Solomon cited one New York-based client that just opened a new complex and leased more than 15 percent of its more than 450 units within the first month. "Some people stayed and some people left, but that's New York," Solomon says. "In recent months, however, there have definitely been signs that people are coming back and new people are coming in."

Continuing to Move Forward

While great strides have already been made, there is still more work to be done. As discussed in the accompanying sidebar, much of the public attention centers on the redevelopment of the World Trade Center site. But there is much more already underway in an attempt to continue to revitalize the city.

"Coming to broad-based agreement on redevelopment of the (World Trade Center) site is only part of the revitalization efforts now underway for all of lower Manhattan," Derrington says. "These include a variety of programs designed to encourage businesses and residents to either stay or relocate here, as well as programs intended to stimulate the development of tourist, retail and cultural centers."

While the process of determining exactly what the future holds for downtown may take significant time, good things are happening here already, adds Krasnow.

"There are signs of progress everywhere," Krasnow says. "Is everything back to normal? Absolutely not. But I don't think anyone could anticipate that, within one year of the atrocity that took place, we would be feeling as positive as we do now."

An unprecedented level of cooperation among federal, state and city governments, along with the support of the private sector, has already produced remarkable results, Krasnow says. "And we are increasingly optimistic that the downtown market's return to its prominence as capital of the world' will be happening much sooner than anyone would have expected."