Posted By: Tom Hustler

Marilyn AlvaThu Nov 9, 7:00 PM ET

Firms in Lower Manhattan fled uptown and out of town after the Twin Towers came tumbling down on 9/11. Several figured they'd have better luck in the suburbs or anywhere else that wasn't Manhattan.
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Not any more. Redevelopment of the World Trade Center site has only begun, but the rest of Manhattan is enjoying a heady resurgence.

Job growth in financial services and other industries that want a Manhattan address has fueled strong demand for office space in the Big Apple, especially Midtown. That and tight supply have pushed office vacancies to their lowest levels since well before 9/11.

Overall vacancy rates fell to 6.5% in the third quarter, down nearly 3 percentage points from a year earlier, according to new figures from Cushman & Wakefield. Sublease vacancies stood at just 1.3%, down from 2.3% a year ago.

Even wounded Lower Manhattan turned the corner in the third quarter, when office vacancy rates fell below 10% for the first time in five years, to 9.1%.

One reason for the decline: tenant flight from the steep rents of Midtown. Several Class A office buildings in Midtown seek rents of more than $100 a square foot. The overall average in the third quarter stood at $53, up from $48 a year ago.

"Midtown is achieving rents we didn't think we would see in our wildest fantasies," said Cushman & Wakefield broker Andrew Peretz.

Lower Manhattan office space averaged $36 a square foot in the third quarter, up from $31 in the year-earlier period. Even though the area is home to Wall Street and the financial district, rents typically are lower than in Midtown due to the distance from suburban commuter rail hubs. But rents of Class A offices in Lower Manhattan are pushing $42 a square foot on average, with some prime properties fetching prices that are far higher.

Through Sept. 30, nearly half of all leasing rises for Manhattan properties in excess of 10,000 square feet have been driven by financial services -- 34.8% -- and legal services -- 13.2%. The mix is more diverse in Midtown South, where new media and tech firms are clustering.

Business Boost

"Companies are out of cost-cutting mode and into business expansion," said Ric Clark, chief executive of commercial real estate firm Brookfield Properties (NYSE:BPO - News), which has substantial holdings in Lower Manhattan and Midtown.

"Financial services firms are hiring. Profits are up," he said.

The first major new office tower in Midtown conceived since 9/11 -- the Bank of America (NYSE:BAC - News) tower rising at 42nd Street and Avenue of the Americas in the hot Bryant Park area -- is mostly leased. Durst Organization, the bank's real estate partner, is commanding top-of-scale rents -- and the building isn't due to open until 2008.

Midtown's commercial office boom is an extreme example of what's going on in other major U.S. cities thought to have good growth prospects, such as San Francisco, Boston and Washington, D.C., says Dan Fasulo, director of market analysis at Real Capital Analytics.

The research firm, which tracks sales and returns on commercial real estate, says returns on office investments are running at a relatively low 4.5% annually.

"What that tells me is that investors are going into the purchase of these assets convinced that the market is going to see significant rent growth over the next few years," Fasulo said.

Sales of Midtown office properties this year will total more than $10.1 billion, up from $5.8billion in 2002, says Real Capital Analytics. Average price per unit -- $655 per square foot -- is up from $441 last year and about double the 2002 price.

A U.S. record for any kind of real estate transaction was set recently when Tishman Speyer offered to pay MetLife $5.4 billion for Manhattan's massive affordable housing community known as Stuyvesant Town and the adjacent Peter Cooper Village. The 80-acre, 110-building complex is on the far East Side from 14th Street to 23rd Street.

The offer beats the last record breaker, when Tishman Speyer bought Rockefeller Center for $1.9billion in 2000.

Downtown office property sales this year should top $1 billion vs. $253 million four years ago, with average unit prices of $358 a square foot, up from $248 last year.

Rents in Class A office buildings in Lower Manhattan already are starting to command increasingly higher rents. Brookfield's upscale World Financial Center, which was damaged by debris from the nearby Twin Towers' wreckage, is leasing space starting in the mid-$50s a square foot and is almost full. Recently signed tenants BearingPoint (NYSE:BE - News) and Royal Alliance Associates are relocating from Midtown.

Leasing got off to a slow start at the rebuilt 7 World Trade Center building, which was the last building to collapse on Sept. 11. It's finally filling up and at rents ranging from $55 to $70 a square foot, according to Cushman & Wakefield. Moody's Investors Service recently took 600,000 square feet on 15 floors of the 52-story building.

The overall inventory in Lower Manhattan is still about 15% below the pre-9/11 level. About 13million square feet alone was lost when the Twin Towers fell.

More went away in and around the Wall Street area as owners converted older office buildings to luxury condos and rental apartments.

Meanwhile, new luxury residential towers have gone up in and around the area as well, some taking advantage of government incentives.

Lower Manhattan Lifts

The residential population in Lower Manhattan has almost doubled since 9/11, from 23,000 to 43,000. It is the fastest-growing residential neighborhood in the city.

"You see baby strollers and people walking their dogs -- on Wall Street," Peretz said.

Residents are attracting more retailers: BMW, Tiffany (NYSE:TIF - News), Hermes and men's clothier Hickey Freeman, to name a few.

Brand new condos and hotels are still in the works, but the days of converting downtown office buildings to apartments are nearing an end, experts say.

With the housing market cooling, some developers already have decided that it makes more sense to upgrade office buildings rather than convert them to apartments.

They're also looking ahead to the improved infrastructure that'll be available downtown once new underground fiber-optic lines and a $2.2 billion transit hub are completed. The hub, designed by architect Santiago Calatrava, will link 13 subway and PATH rapid transit lines to New Jersey. It's expected to open in 2011.

"There are a lot of smart people who are positioning themselves to capture (office) rent growth over the next few years," said analyst Fasulo. Goldman Sachs (NYSE:GS - News) has a new headquarters building under way in Battery Park City downtown.

Though no one knows for sure, Fasulo ventures that office and retail tenants will be more willing to make a deal in Lower Manhattan once they see visible progress on construction of the new World Trade Center complex, with its millions of square feet of new office and retail space. Long-delayed construction is not expected to get into full gear until 2009.

Copyright 2006 Investor's Business Daily, Inc.

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