Challenging market in Upper Manhattan continues in 2010: 2Q2010 showed highest trades since 1Q2008

While Upper Manhattan 2010 investment property sales activity may be double that of 2009 in terms of both number of transactions and dollar volume, this year remains one of the most challenging years for investment property sales in decades. In the first half of the year 65 properties traded representing $373 million in gross consideration, a 233% increase from 2009 levels. Yet inventory is very low and pricing still very competitive. Uptown transaction volume may have improved from 2008, but with turnover coming in at only 1.7% of total building stock, the amount of properties selling today is roughly equivalent to the lowest recorded sales volume that took place after the financial crisis in the 1980s. In fact, after 2Q2010 showed the highest amount of trades since 1Q2008, 3Q2010 numbers (which are still coming in) are not much different from weaker numbers in 2008 or 2009. A lack of buyers is not one of the reasons for this slowdown. Unless a site is more geared for development where the buyer pool and financing environment remains limited, most properties our team takes to market receives at least 15 offers - owners with properties in prime locations can expect double the amount of offers. The popular cliché of "cash on the sidelines" is true and a few properties we've marketed have even had bidding wars. The financing environment, at least for income producing properties, also cannot be blamed. Regional and community banks are offering very low rates, such as five year paper for less than 4.5%, and attractive loan to value ratios reaching 70-75%. Agency financing is even more generous for qualified buyers. While they are underwriting properties more conservatively in the past, it is clear they are eager to lend on this asset class. The more likely contributor to continue the continued sales lag is the reemergence of a disconnect in pricing expectations between buyer and seller. The market has certainly been harsh to sellers, as most of the properties we have sold or valuated have shown decreases from peak prices of 10-30%, depending on asset specifics. Yet with this year's recovery in the stock market, resumption of economic growth, and a tightening rental market that is causing some landlords to reduce concessions or raise rents, more and more property owners appear to be raising the victory banner a little too early. The pricing environment has improved, but we believe prices will remain subdued and a sharp pricing rebound in the near term is unlikely. A major reason for this is that net income in most properties has not only declined because of falling rents but also because of much higher expenses. A few years ago investors were primarily concerned with fuel expenses but today fuel is more or less in check (for now, at least). Taxes and water and sewer charges are now the major issues. With the city desperate for more revenue, tax assessments and tax rates have increased substantially over the last few years. This is not likely to change in the near term. Also, permanent changes in water and sewer collections were also recently enacted, resulting in much higher charges for landlords. Thus, even as rents recover, landlords will have to make up significant ground to arrive back at the levels of profitability seen at the height of the market. This will be further exasperated so long as the market believes, as it currently does, that high unemployment will cause rent growth to be sluggish in the foreseeable future. That said, more and more investors are focusing not only on the rate of return for buildings but are increasingly looking at pricing from a replacement cost perspective. Buildings throughout Upper Manhattan or the rest of the city may look expensive on a cap rate basis, but are much cheaper on a price per square foot or price per unit basis compared to recent years and these metrics are where the price declines of recent years is clearly so apparent. Shimon Shkury is a partner at Massey Knakal Realty Services, New York, N.Y.