It's not as if the trade we defined as the "Big Short 3.0" needed help to plumb fresh record lows (as it has been doing virtually every day in the past month, see "New "Big Short" Hits Record Low As Focus Turns To $400 Billion CRE Debt Maturity Wall"), but it's getting it anyway courtesy of an unexpected source.
While it is common knowledge by now that lower-tier and suburban office markets as entering the nine circles of hell...
... for reasons most recently and succinctly summarized by Chris Whalen...
Problem with #CRE goes like this. Occupancy falls, SQFT rental price falls, rent roll falls, then bldg value falls.reserves consumed. Lender seeks more equity to restore 50% LTV. Equity does numbas, walks away.... @blackstone— Richard Christopher Whalen (@rcwhalen) March 31, 2023
... and visually by the IMF in this report from 2021...
... many were left with the opinion that the world's top office market remains largely unscathed.
Unfortunately, that opinion was wrong: according to the latest report from brokerage Jones Lang LaSalle, which tracks about 470 million square feet (44 million square meters) of New York City offices, found a mere 4.6 million square feet of office space was leased in the first quarter. That means that Manhattan’s office-vacancy rate was at a record high as new developments add even more space to the struggling market. Specifically, 16.1% of space was empty as of the first quarter, with leasing is at its lowest levels since the second quarter of 2021. Other real estate companies found si similar results: Colliers recorded a 16.9% vacancy rate in the fourth quarter and a 17.3% rate in the first quarter of 2021.
“You’re having this anemic leasing activity, more space is being added in the form of newly constructed or newly renovated space, but also sublease space continues to pile up,” said Andrew Lim, director of research at JLL.
According to the report, while the market was already struggling with excess supply, it was flooded with more than 1.5 million square feet of office space in the first quarter with the completion of 660 Fifth Ave.’s redevelopment.
Not all of that space will stay empty as landlord Brookfield Properties has signed leases with finance firms including Macquarie Group. The building - formerly known as the iconic 666 Fifth Ave - and the former home of hedge fund giant Millennium Partners until its recent move to 399 Park, has gained traction after undergoing $400 million in renovations that include a new lobby, elevators and facade.
There was some good news on the office front: one of the biggest leases to come to fruition in the first quarter was Citadel’s master lease of 350 Park Avenue. Ken Griffin’s firm is leasing 585,000 square feet from Vornado Realty Trust at the property for 10 years, where the initial annual rent will be $36 million.
Still, the increase in available space ramps up the pressure on landlords that own older buildings across the city. With the rise in remote work, tenants are more inclined to move to newer developments or towers that have been recently renovated, especially with the recent deluge of office space availability courtesy of the Hudson Yards project.
“We have to reinvent our office space,” New York Mayor Eric Adams said in an interview with Bloomberg Thursday, adding that empty spaces should be converted to housing. “We have a housing crisis. We already have structures that are built.”
The silver lining is that despite the record number of vacant offices, average rents remained flat at $76.96 a square foot, buoyed by growing rates at top-quality buildings, especially newly built ones. That helped balance out falling rents at older spaces and offices up for sublease.
It's not just New York: other key office markets are suffering similar malaise.
According to Commercial Observer, KBS sold the Union Bank Plaza tower in Downtown Los Angeles for a big discount to the Schreiber-run Waterbridge Capital after several rounds of descending bids (Joel Schreiber made a name as the first investor in WeWork and made several attempts to sell the former Broadway Trade Center downtown before filing for bankruptcy and succumbing to a foreclosure sale.)
The 40-story, 701,888-square-foot office building sold for between $105 million and $110 million, according to sources familiar with the deal. KBS REIT acquired the same building from Hines for $208 million in 2010, records show, and also completed a $20 million renovation. In total, the loss on the sale was north of 50%.
Throughout the L.A. region, office activity has cooled significantly since the pandemic, especially in the central business district, and investor and lender appetite for office assets has collapse with the rise of hybrid work and rising interest rates. As reported previously, Brookfield, the largest office landlord in L.A., defaulted on $754 million in loans tied to two Downtown L.A. office towers, and other skyscrapers, including the PacMutual Building and the 62-story Aon Center, are hitting the market at major discounts.
To make matters worse and put more pressure on a potential sale, L.A.’s Measure ULA goes into effect April 1, which will increase transfer taxes by 5.5 percent on transactions over $10 million.
“Executing on large-scale office assets in today’s environment requires an ability to address the entire capital stack and think outside the box. Even with a high-quality asset, these are not easy deals to close,” Mark Schuessler, an executive vice president with Colliers, said in a statement.