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NEW YORK CITY-Property owners of class B/C office space Downtown may convert into residential to stay afloat amidst a 13.6% area vacancy rate, said Cushman & Wakefield research analysts during a recent conference call. Transactions are struggling to close at even 10% to 15% below already deflated asking rents. And class A vacancies have risen nearly 13% over the past 12 months leaving an even less attractive market for B/C office deals.

Early last September, Downtown’s class A vacancy rate sat at 3.7%. That figure is now 16.3% and shows little sign of abating soon, as leasing activity has slowed across all sectors considerably. The Cushman & Wakefield annual office retrospective shows 12.7 million sf of total space available Downtown.

Despite an unresponsive Downtown office market, the demand for residential space in Manhattan continues to increase. Nearly one quarter of all multifamily space in Manhattan was constructed after 1990, according a recent Marcus & Millichap Manhattan multifamily report on GlobeSt.com, and those rents continue to escalate.

Office space in the area, however, continues to remain a difficult sell. “Any firm that’s looking to make a move Downtown has some very different issues to consider than they did 12 months ago,” said Maria Sicola, head of research for Cushman & Wakefield. “Class B/C space may be rebuilt or converted into residential in that area.”

The C&W report places class A Downtown asking rents at $44.50, a full $10 below Midtown prices. Downtown has yet to see 1 million sf of class A leasing activity since January, and class B and C activities combined have yet to top 2 million sf during that time, despite having more than 5 million sf of space on the market. Class B properties are asking $34.13 per sf, while class C space Downtown is barely asking above $30.

Security concerns and the recent trend of major companies to decentralize have helped render large parcel activity a rarity in lower Manhattan. Last Wednesday $113.9 million in Liberty Bonds were awarded for construction of a 10-story office tower in Brooklyn, into which The Bank of New York will move 1,400 employees as part of its commitment to diversify its operational base. The bank has agreed to keep 7,700 jobs in New York City for at least 12 years. Click here for GlobeSt.com coverage of the proceedings.

Additional findings in the C&W report include:

The New York City Office of Management and Budget predicts it will take until 2006 for employment levels in New York City to return to June 2001 levels. The sectors that have experienced the greatest job losses have been banking and securities, traditionally a major component of the Downtown tenant base. However, “financial services are still the largest pieces of the pie for those taking space Downtown,” said Sicola.

Manhattan has retained 72% of tenants affected by events at the World Trade Center, despite initial fears that many companies would flee the area. Of that percentage, however, 58% opted to move out of Downtown, a major factor in the increase in vacancy and decrease of rental rates.

The Downtown forecast for 4Q is that the vacancy rate will continue to increase to above 14%, and that asking rents will then sit at near $39.60 per sf. Vacancy rates should peak near 2006, after the 4.7 million sf of office currently under construction in Manhattan comes online. Rates should hit 12.3% vacancy by that time, with asking rents near $42.50. Forecasting beyond this date is difficult, claims the report, mainly due to unresolved issues of how the WTC site redevelopment will proceed.

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