NEW YORK CITY—Sales volume was down nationally as a result of a slowdown in the months leading up to the election. Commercial property transaction volume dropped 11 percent on sales of $489 billion, according to a report by Real Capital Analytics. A 30 percent year over year decline in portfolio and entity-level transactions explains the drop, with single asset sales almost unchanged. A preliminary run of the Moody's RCA CPPI shows prices climbed 9 percent in 2016.

New York City seemed to track with the rest of the US. With a 25 percent drop in dollar volume, New York City posted $57.8 billion in sales, but still the 4^th highest performance in New York City investment sales. Land contributed greatly to the downfall with a 75 percent in dollar volume decline in Manhattan. Surprisingly, citywide pricing rose to the highest level ever at $534 per square foot across all property types, a 9 percent increase; while cap rates compressed to an all-time low of 4.16 percent. This is a result of owners not selling because they were not achieving the pricing level they sought, an effect we saw in 2009 as well.

With this froth in the market, it is now more important than ever to pick your spots. Here are some tips for success:

1. Value-add is king – with cap rates at all-time lows and poised to expand with rising interest rates, investors should focus on repositioning properties with below market rents. Those who fared well after 2007 were able to grow rents over time, as opposed to relying on reselling at a lower cap rate to make their return. There is still a large disparity from professional operators who provide modern renovations and those who do “Home Depot” renovations. Reconfiguring and adding bedroom counts to a unit has also been a popular and lucrative approach.
2. Smaller is better for retail – As the effects of e-commerce settle in nationwide, retailers are shrinking their brick and mortar footprints. Although availability is up in New York City (over 20 percent in many neighborhoods) and asking rents have dropped in every submarket, there has been an increase in the number of smaller leases signed year over year with 639 leases signed, a 28 percent increase. 333 of those leases were for 2,500 square feet or less. Smart investors will capitalize on larger retailers who want to reduce their footprints and relocate to corridors off Main and Main.
3. Beware of rent regulation – New York City landlords are still feeling the effects of the Rent Guidelines Act of 2015. After the Altman ruling, it became impossible for landlords to decontrol apartments. With zero percent increases and rising expenses, it has become a difficult proposition to say the least. Only experienced operators should apply. The other side of the coin is that long term, non-professional owners will likely look to sell to avoid the hassle.
4. Watch for concessions – although cover rents for office and residential may appear at all-time highs, an investor must look at the net effective rents. For office, landlords have become far more generous with free rent and TI money, so net effective rents are actually down year over year. For residential, the same applies. In some new rental buildings, landlords are paying broker fees and providing two months free rent. Investors must ask to see concessions or they will be rudely awakened when looking to renew tenants.
5. The Boroughs still have legs – Last year, the average price per foot in Manhattan was $1,450 per square foot, compared to Northern Manhattan at $421, Brooklyn at $422, Queens at $491, and the Bronx at $222. Granted, high end retail sales have skewed Manhattan's average, but there is no doubt that its real estate has been bid up by an influx of foreign capital and the efficiencies of the market. The boroughs offer a much more robust building stock and more off market opportunities. Meanwhile, rents in many cases are approaching or are above Manhattan levels.
6. Prepare for rising real estate taxes– Investors need to be very cautious of rising taxes in New York City. Although tax rates have not increased, the taxable assessed values have increased over 29 percent during de Blasio's tenure. Investors who have substantially increased income will be penalized after they file their RPIEs (Real Property Income and Expense Statements). Buyers need to look closely, as real estate taxes can now account for up to 25 to 30 percent of revenue. Investors may be wise to look for certain tax classes such as 2B where tax increases are capped.
7. Build “affordable condos” – After a steep decline in land sales and values (building condos today is the contrarian play), developers should still be weary of big ticket sellouts. There is still an 8 year supply of ultra-luxury condos (over $7 million); meanwhile $3 million and under condos are flying off the shelf with only a few months' worth of inventory remaining. Construction financing from alternative sources is now coming back to the table, so timing could be right.
8. Look beyond Midtown South, Downtown is now – Office rents may have reached a tipping point in Midtown South. As vacancy has reached an all-time low of 6 percent, asking rents have reached over $80 per square foot in conversions and over $100 per square foot in new construction. Suddenly, Midtown and Downtown are looking like attractive options. Although the Brooklyn office stock is also woefully inadequate at only about 40 million square feet compared to Manhattan's projected 400 million, its asking rents are still well below Manhattan's new construction.
9. Lock in 10-year debt now – Although treasuries have jumped almost 80 bps since the election, investors can still refinance at near all-time lows. 10-year rates are in the low to mid 4 percent range. While 5-year money is in the high 3s, investors should lock in 10-year debt if their plan is to hold for the long term. Expectations are for two increases by the Fed this year of at least 25 bps each, due to inflation and balancing economic indicators in line with expectations.
10. Get ready for a wild ride if the Better Way's tax reform takes effect – there has not been enough talk about the House of Representative's proposal to treat real estate as an expense as opposed to long term gain. The focus seems to be wrongly on the elimination of the 1031 exchange, but if real estate was treated as an expense this would be tremendously valuable to investors. Just imagine shielding 20 years of future income after purchase. This might be too much of a good thing and even what I have heard referred to as a return to the 80s. This would no doubt have an immediate and very positive impact on short term values.