By Maya Khan, managing director, CBIZ
Between the pandemic and the advent of hybrid work, it’s been a challenging stretch for the New York City office market. But savvy investors see skies clearing as interest rates come down and more employers call workers back to the office.
The stabilizing market also offers new opportunities for office-to-residential conversions, thanks to recently enacted state and city incentives. In fact, office buildings sold for such purposes accounted for 50 percent of all development sales in Manhattan in the first half of 2024, according to data from Ariel Property Advisors.
In what follows, we’ll take a deeper dive into those trends and look at how some New York real estate leaders who spoke at CBIZ’s “Manhattan to Main Street” panel are taking advantage of the current environment. The event, held in the fall of 2024, focused on the more than $2 trillion in commercial real estate debt that is set to mature before 2028 and broader economic factors influencing the New York real estate market; it drew 85 attendees from the local real estate community.
Opportunity on the Upswing
It’s no secret that the Big Apple’s office sector has taken a beating in the past few years. Oversupply of space gave tenants more leverage, while rising interest rates put many commercial mortgage holders underwater.
But the office outlook in Manhattan is improving. Year-to-date leasing activity is significantly ahead of where it was during the same period in 2023, according to a third-quarter report from Avison Young.
In some cases, strong demand for high-end New York City office space is outpacing supply, driving up leasing prices and pushing more tenants to Class B office buildings in good locations. At the same time, several Manhattan office towers have sold at substantial discounts over the past year, according to The New York Times, as owners look to unload properties that are underwater on their debt. Such bargains may not be easy to come by — some investors are paying all cash, for example — or be worth it in the long run, given the extensive capital improvements needed to bring in new tenants.
But the right property, in the right location and at the right price, is proving to be a draw for developers looking to convert offices for residential use. “We’re doing a lot of conversions right now,” Brian Steinwurtzel, co-CEO and principal of GFP Real Estate, said at the panel. “Commercial office buildings are under a lot of stress, so there’s an opportunity to buy buildings cheaply.”
That pricing dynamic is fueling a new wave of conversion plays as some developers snap up New York City office towers in central locations at a relative discount and turn them into apartments. Typically an expensive endeavor, such conversions now hold more appeal because of new real estate tax exemptions aimed at expanding the stock of affordable housing, which can offset some costs. Additionally, the city has set up a Conversion Accelerator Program to streamline projects by helping developers navigate complex rules and building codes.
“The city and the state are on board,” said Steinwurtzel, whose firm is planning to convert office buildings at 222 Broadway and 25 Water St. to apartments. “The program they put forward this year is a good one. As a result, people like us are more likely to take the risk of turning office buildings into apartments.”
Rate Cuts Lift Outlook
To be sure, securing financing for new projects still presents challenges. Lenders are offering less leverage than in years past, which can impact project timelines and profitability. As a result, developers are focused on refinancing loans and extending debt maturities.
Fortunately, the Federal Reserve’s September, November and December rate cuts totaling 100 basis points could provide some relief for existing debt-holders — especially if additional cuts follow — while also expanding the pool of buyers for New York City office buildings.
Rate decreases don’t just have a direct impact on adjustable-rate mortgages indexed to short-term rates. They can also increase liquidity across the broader financial system. This should make it easier for commercial investors with loans nearing maturity — and there is nearly $6 billion in commercial property debt that data provider Trepp estimates will come due in 2025 — to refinance. That could reduce their interest payments and free up more capital for investment.
Some New York commercial firms are already in good positions to take advantage of the improving market. For its part, GFP actually refinanced a significant portion of its debt a few years ago, having anticipated that rates would climb. The firm also looks to minimize risk by following what Steinwurtzel called “an apartment building model for office portfolio,” with a large group of smaller tenants to help offset impacts should one large tenant terminate their lease.
David Koeppel, CEO of Rosen Equities LLC and a partner at Koeppel Rosen LLC, similarly tries to avoid being overweight on any one tenant, whether it’s in an office tower in New York City or a regional shopping center. “Underwriting your tenants’ credit is really important,” he told CBIZ panel attendees.
Additionally, he said, “We never take debt that’s in excess of 50 percent of the value of the building.” On the roughly 43 percent of the Rosen family properties that do have financing, the average rate is 4.41 percent.
“In a higher-for-longer interest rate environment, 4 or 5 percent looks pretty good, especially when compared with a longer time frame than the low rates of the early pandemic period,” Anna Rathbun, chief investment officer at CBIZ, said at the panel, referring to the risk-free returns investors can currently get on U.S. Treasuries. “We are not going to go back to 2 percent. That era is over.”
Interest rate cuts, rising demand for high-end office space and office-to-residential conversion incentives: all these green shoots are contributing to an increasingly bullish outlook as New York CRE investors consider the year ahead.
“I’m hopeful,” Koeppel said. “I wake up every day, and I’m energized by New York City real estate. I think it’ll come back.”
Maya Khan serves as a managing director at CBIZ, a professional services advisory firm. A New York-based certified public accountant, Khan has provided real estate clients with accounting, tax, and consulting services since 2003.