Industry asks: is this too much of a good thing?

Its 7.8% overall vacancy rate hovering dead center in equilibrium's 7-9% range, Midtown seems on the precipice of sliding into a period of scarcity of space, a condition that many brokers profess can impede deal making just as much as a down cycle in the commercial real estate rental market.

"Probably when there is a tight market, the broker has to work a lot harder," said Bertram French, a vice chairman and director at Cushman & Wakefield. "There is inherently less negotiating ability you have with the landlord and sometimes it's hard to explain that to the tenant."

French, who has been with C&W since 1947 and owns one of the firm's most productive careers in leasing, indicated that tight times test the confidence a tenant has in its broker and can make even the most space hungry tenant skeptical of a deal in which higher rents will have to be paid and less concessions can be bargained--hallmark signs a landlord possesses the upper-hand.

"The tenant has to really trust the broker if a deal is to get done," French said.

Are We Below Equilibrium Already?

A market defined by scarcity already has arrived for certain categories of space according to Dean Shapiro, an executive managing director at CB Richard Ellis, who said that there is a drought of premium space in Midtown's best addresses and also among large block class A space.

"You're going to see people getting bumped more, you're going to see a shorter time frame to accept transactions, it becomes much more aggressive in terms of locking down space," Shapiro said. "Absolutely, we're near that, if not there already."

Data released by C&W at its 2005 review breakfast in January supports Shapiro's observations. Aside from the numerous big deals in 2005 that chipped away at Midtown's stock of big contiguous blocks, last year saw the completion of 78 office leases with rents above $70 psf, a frequency of deals that stands in stark comparison to the 48 deals made for $70 psf space the year before and the eight deals struck in 2003.

The increase in deals for high-end space in 2005 can be explained not only by the strong performance of the industries which usually rent it, such as hedge funds and private equity firms, but also in the perception that the availability of such office stock was diminishing, a factor that tends to lend urgency to the pace of transactions.

Such was the market wide perception in 1999-2000, when the city experienced unprecedented rental rates and low vacancy driven by a long period of strong economic growth and the meteoric rise of the telecom industry.

"There was panic in the market in terms of 'I have to lock in today, I need to take 20% more space than I need because it won't be there tomorrow'," said Kenneth Krasnow, executive vice president and director of brokerage services at Trammell Crow.

Bidding wars for space ensued and the dramatic crunch made tenants feel they had to quickly confront what proved to be overly optimistic estimations of how much square footage their businesses needed for future growth, a self feeding phenomena that helped to push demand for space even further.

It wasn't a good time for brokerage. Deals were being stifled by the city's miniscule vacancy rate, which by the third quarter of 2000 had dropped to a mere 3.5%. Everyone seemed to want more space, but little was available.

Are We Heading Down the Same Path?

Although certain sections of the market have very little available space, just when will Midtown's ongoing resurgence take overall vacancy below the lower end of equilibrium? Not long, says Jim Delmonte, C&W's director of research. Midtown's total vacancy dropped over 2% in 2005, a pace that should bring the market below 7% by September 2006.

But will fervent bidding wars, rocketing rents, and a scarcity of deals ensue? Most experts don't think so, primarily because they feel that space takers are far more conservative than they were in 1999 and 2000.

"I don't believe that it will get to the point of frenzy because I still think that while the economy and job growth are good, it's not explosive, and while there's good tempered enthusiasm from tenants, it's not overblown or irrational and I think that's going to be the difference," Karsnow said.

"I'm very bullish on NY, but I don't anticipate that we'll be seeing a market like 2000 anytime soon again," Shapiro added. "It'll be more gradual and it will be healthier because it will be substantiated demand this time."

Furthermore, the planned introduction to the market of The New York Times Building and 1095 Avenue of the Americas at the start of 2007, and the Bank of America Tower the following year, have most brokers confident that inventory won't drop to levels prohibitive to making deals.

Rent Spike

When vacancy dwindled to below 4% in 2000, rents began a precipitous rise, climbing from $45 psf in the first quarter to a peak of $56 psf by the fourth.

Space was so scarce, subleases amazingly began to fetch a premium over direct rents.

Most brokers don't expect the current average Midtown rents of $47 psf to achieve the same startling appreciation, but despite the prevailing opinion that vacancy won't drop to critically low levels, rents could see steep rises in markets where vacancy manages to creep just below equilibrium.

"Where you're seeing price appreciation is in the one, two floor deals, the 20,000-50,000 s/f deals with companies that want space in 2006 and can't wait for new buildings to come online," Krasnow said. "We could see a 10% rise in rents for those spaces."

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