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Weekly Market Report - January 23, 2024

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New York's commercial market is facing a challenge due to the availability of 20 million square feet of office subleases, which are generally 25% lower than the cost of leasing directly from the building owner. This makes it difficult for owners to compete with the subleases, as many can't or won't compete with them. Subleases can be offered by both large and small companies, as they can be used to shrink their footprint or to relocate quickly. The pandemic has also affected occupancy, as some companies have been able to maintain their businesses while working from home. Companies may also choose options on contiguous floors to control the space for future growth, but then sublease out those spaces while waiting to catch up. Hudson Yards, one of the most challenging parts of the city, has 2 million square feet of subleases available for both raw and furnished offices. However, quality doesn't always come cheap, and some subleases are cheaper than others. Even subleases with terms less than three years can provide opportunities for tenants as they become "fair game for a three-way deal." This has led to the plight of landlords, as they must compete with very nice spaces for sublease.



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Fifth Avenue in Midtown is becoming the world's most expensive-to-rent shopping corridor, with sidewalk-level stores charging $2,000 per square foot. Retailers are rapidly buying the buildings that are home to their glamorous stores, with Prada grabbing a second building on the "world's greatest shopping street" — 720 Fifth Ave. at East 56th Street, next door to 724 Fifth, for $425 million. The Italian fashion house's latest buy, first reported by Bloomberg, is for $410 million. The transactions appear to represent the largest combined investment-sale purchases in the city this year. Eastdil Secured brokered both deals. The seller in each case was billionaire retail developer-landlord Jeff Sutton, who is under financial pressure at several of his other holdings.


Prada joins a cavalcade of other marquee-name retailers who own their buildings on Fifth Avenue or immediately off it. The precious 720 corner was previously home to an Abercrombie & Fitch, which moved a few blocks south. Swarovski recently opened a glittering, 14,400 square-foot, three-level flagship at 680 Fifth Ave., where Gap was selling jeans until 2019. In what might prove to be another breakthrough, a large bank branch at 785 Fifth at East 60th Street is up for grabs for the first time in 50 years.



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New York City's office buildings are worth more than they were before the Covid pandemic, according to the Department of Finance's tentative property tax assessment roll for fiscal year 2025. The market value of office buildings is estimated at $173 billion, a 3.5% increase year over year and from the $172.4 billion the city valued them at before Covid. The overall value of the city's commercial properties is estimated at $330 billion, higher than its pre-Covid estimate of $326 billion. Many office landlords may still be receiving income from tenants on long-term leases, which could explain the relatively high office valuations. The growth in office values is attributed to a resurgence in spending on construction and renovations, largely concentrated in high-end office buildings. The value of less glamorous office buildings may be kept from falling too low by their potential to be converted into residences.



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Medical offices and multifamily are behind the uptick in criticized debt


M&T Bank has reported a 36% increase in at-risk loans in the fourth quarter, driven by debt backed by medical offices and multifamily. The bank's Chief Financial Officer, Daryl Bible, said that higher rates and "deteriorating values" drove the growth in distress and informed its darker forecasts. Multifamily borrowers, particularly those that relied on floating-rate debt before the Federal Reserve kicked off rate hikes in 2022, have struggled with loan payments amid slipping values, plateauing rent growth, and higher monthly debt costs. Some operators have also failed to realize plans to renovate and raise rents. The troubles with doctor's offices stem from reimbursement problems. The bank pointed to forecasts the Fed will cut rates this year as cause for cautious optimism, both for its troubled debts and shrinking commercial real estate loan book. The bank's share of criticized office loans held steady at 23%. Profits slumped to $2.74 in the quarter, a 36% decline from the $4.29 reported in the fourth quarter of 2023.



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Rising interest rates and slow market brought biggest losses yet


Real estate investment trusts Brookfield Real Estate Income Trust and Blackstone Real Estate Income Trust both experienced record losses in 2023 due to the choppy commercial real estate market. Brookfield REIT, a $2.2 billion fund primarily focused on rental housing and logistics, experienced a 6.7% loss in 2023, with two consecutive months of losses. The fund's managers attribute some of its losses to rising interest rates and a sluggish property market. Blackstone's REIT also faced issues, posting a 0.5% loss in 2023, the lowest annual return for the fund since its 2017 origin. BREIT, which had a net asset value of $70 billion, has seen its net asset value drop to $62 billion. The fund has also faced a redemption play, with $14.3 billion returned to investors since November 2022. However, redemption requisitions have declined by 80% over the last year. Blackstone president Jon Gray stated that the trust is doing well, with $66 billion waiting to be deployed.



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More than $2.2 trillion in debt is maturing before 2028, and much of that will have to be refinanced at higher rates


The commercial real estate market is facing a record amount of maturing loans, causing a surge in defaults as property owners are forced to refinance at higher rates. In 2023, $541 billion in debt backed by office buildings, hotels, and apartments came due, the highest amount ever for a single year. Commercial-debt maturities are expected to continue rising, with more than $2.2 trillion coming due between now and the end of 2027. Most of these loans have so far been repaid or extended, but now those extensions are burning off, compelling many borrowers to confront the higher rate environment, higher vacancies, and weakening cash flows, which is depressing property values. Some owners and creditors are also grappling with the expirations of deals made early on during the pandemic to delay payments until the worst of the health crisis passed. Lender losses on commercial-property loans have started to increase and look poised to rise farther. Fitch Ratings projects the delinquency rate of commercial mortgage loans that have been converted into securities will increase to 4.5% in 2024 and to 4.9% in 2025, more than doubling the 2.25% rate in 2023 as of November.



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New York City’s Fifth Avenue is the champion address, as Swarovski, Tiffany and other stores help pull in big crowds after pandemic slump


Tourists are returning to Fifth Avenue, New York City's most expensive retail destination, as rents averaged $2,000 a square foot over the past year. The area has seen a drop in store availability as retailers like Abercrombie & Fitch and Citizen Watch opened new locations. Swarovski recently opened a 14,400-square-foot flagship store on Fifth Avenue, which has doubled the average foot traffic of its other locations. Tiffany's New York City flagship reopened after three years of renovations, spanning 10 floors and featuring a private club and art installations. The Fifth Avenue Association has installed 150 live firs decorated with white lights along the avenue's sidewalks and partnered with fragrance brand NEST New York to deploy NEST's holiday scent. The area remains crowded, with visitors to the Rockefeller Center Christmas Tree dropping 75% during the 2020 holiday season.



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In the age of work-from-home, office condominiums offer a solution for owners of Manhattan office towers. These units allow the building to be sold one floor at a time, adding value but taking time. The current sales market ranges from $500 to $850 per foot, with office condos selling for more on a per-square-foot basis than office buildings. The average price per square foot for six recent office condominium sales was $726 per square foot, an 83% premium over office building sales. Office condo investors benefit from being managed by a third party, paying common charges and taxes, and tenants paying them. However, there are few office condo buyers in the market today unless the price is extremely attractive.


To pursue an office condominium, it takes roughly six to 12 months working with accountants, architects, and attorneys to create the proper documents and have the plan approved by the New York State attorney general's office. The current stress on the real estate market will lead to more conversions of office condos, with buyers often including small businesses, non-US-born operators, not-for-profits, and foreign countries. Office condo owners are responsible for both common charges and property taxes, but non-profits and foreign countries may apply to the city's Department of Finance for permission to waive their real estate taxes and certain other charges.



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The "flight to quality" in Manhattan has not been as successful as expected, with half of the city's nearly 400 million square feet of offices occupied by tenants who are more concerned about price than gym equipment. Class B rents are down 25% from their peak, with some below a third. Tenants requiring between 5,000 and 25,000 square feet signed nearly 90 leases in Manhattan in Q3, totaling almost 900,000 square feet. In 2023, 1.1 million square feet was leased in B buildings in Manhattan, the most since the end of 2019. Most building owners are willing to make concessions on rental pricing, tenant improvement allowances, and free-rent periods, unless blocked by their lenders due to high loan-to-value ratios. The surge in leasing activity is also seen by attorneys Joshua Stein and Christopher Okada of Okada & Co. The market has not recovered well, but Paxos is relocating from Midtown's 450 Lexington Ave. to 15,000 square feet at 71 Fifth Ave. The city's smaller tenants are regular New York businesses, family businesses, product-oriented businesses, apparel and accessories firms, and service companies.



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Blackstone, the world's largest owner of commercial real estate, is looking to sell its mortgage tied to a Manhattan office tower for a discount. The $308M CMBS loan on 1740 Broadway is on the market for around $150M. The property was appraised at roughly $175M in April, down more than 70% from the $605M valuation when the mortgage was originated in 2015. The discount on the loan could make the troubled Midtown office tower a prime candidate for a residential conversion. Blackstone stopped funding the property's operating shortfall in March 2022, as it became clear that older office buildings were facing a long road to recovery. The property is expected to be brought to market for sale in January 2024. The CMBS loan on 1740 Broadway is set to mature in January 2025.

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