"Many have called commercial real estate 'the next shoe to drop,' but that's really an exaggeration," says Bach. "It implies that commercial real estate could wreak damage on the financial system equivalent to the subprime residential mortgage losses, which is highly unlikely because the value of outstanding commercial mortgages is a fraction of the value of outstanding residential mortgages. Nevertheless, losses will mount over the next several years. If banks aren't lending because they're coping with losses in their real estate portfolios, this could impede the economic recovery."

Overall, the fact that banks likely will begin writing off their losses on distressed assets in 2010 means that the capital accumulating on the sidelines will start being deployed both nationally and in New Jersey, and highly leveraged buildings, many without the capital necessary to attract tenants, will transfer to new ownership, removing what was a major impediment to recovery in the investment market.

Following national trends, commercial mortgage defaults and foreclosures are expected to increase in Northern and Central New Jersey in 2010 as occupancy continues to decline in all product types, putting owners of highly leveraged assets in a position where they are unable to retain the cash flow needed to make loan payments. As a result, the rising tide of foreclosures is expected to further depress asset pricing levels, opening the door for investors flush with cash to acquire quality properties at even lower prices.

Both in the short and long term, the Northern and Central New Jersey market's proximity to Manhattan and its diversity of product, ranging from fully stabilized class A assets to value-added opportunities, will likely hold the market's place on investors' radar screens, the report finds.

Locally, activity in 2010 is expected to mirror that of 2009, when corporate relocations and consolidations--rather than new leases or expansions--made up the bulk of leasing activity. Larger office users, reluctant to invest in either capital or labor, won't stray from their wait-and-see approach, says Grubb & Ellis. Instead, much of the leasing activity is expected to come from small- and medium-sized companies seeking out blocks of space less than 25,000 square feet in size.

According to Stone, while this leasing activity will certainly help the market, it won't be enough to offset further consolidations and new blocks of sublease space. The availability rate for the region is expected to climb 90 basis points to reach 23.9% by the end of 2010, its highest recorded level since the late 1990s, and negative net absorption may approach 1.1 million square feet.

Leading market indicators for the industrial sector turned earlier than those for the retail and office markets, which is promising, Grubb & Ellis reports. Despite increases in vacancy and negative net absorption, economic indicators that generate demand for industrial space saw upticks in late 2009. These include global trade, freight shipments, manufacturing activity and even retail sales. This, along with the weakness of the dollar, hints that a recovery in the industrial market could be on the horizon.

The company also notes that the industrial sector is less dependent on job growth than the office, retail and multi-housing sectors, which means it could recover earlier, with vacancy rates beginning a gradual recovery in late 2010 and rental rates following in the second half of 2011.

Vacancy in the industrial sector is expected to reach 11.4% by the end of 2010, 70 basis points higher than year-end 2009. Landlords will have to weather 75 million square feet of negative net absorption, though that figure represents less than half of the 158 million square feet of negative net absorption in 2009. Warehouse rents will decline 5%, an improvement over the 6% decline in 2009.

Decelerating demand for industrial space will continue to negatively affect the local industrial market moving into 2010, sending the availability rate up to 14.9%, adding an additional 4.9 million square feet of available space and putting more downward pressure on asking rental rates.

Despite further deterioration in New Jersey's industrial market, the Port of New York and New Jersey is expected to remain a vital component of the state's economic engine. To take advantage of the inevitable recovery of global trade, the Port Authority has invested in numerous upgrades for the Port, hopefully resulting in increased industrial and logistics requirements in the area.

With a significant recovery in job growth unlikely to get underway until later in 2010, Grubb & Ellis expects the national retail vacancy rate to continue to climb, contributing to additional negative net absorption. Recovery in retail will be weak in 2010, but it will begin to generate demand for retail real estate starting in 2011.

"It's unlikely the shock of the recession will produce a generation of frugal consumers like the Great Depression did, but on the other hand, retail sales will not bounce back to their debt-fueled levels of 2006 and 2007 anytime soon." Bach notes. "Retailers and owners of retail real estate will need to adapt to a new normal in consumer attitudes that may last for some time, including more conservatism and attention to value as households rebuild their savings."

In Northern and Central New Jersey, retailers dependent upon the residential housing sector have been hit particularly hard, and the trend is not expected to improve in 2010. Other national trends, including retail bankruptcies, were experienced in the Garden State as well, most notably the closure of all 17 in-state Circuit City locations. Overall, retail activity in Northern and Central New Jersey in the coming year will be driven by cost-conscious consumers purchasing essential goods while shying away from higher-priced discretionary items.