How Long Will Lower Vacancy Rate Hold Up?

The subprime-mortgage fallout is spreading from Wall Street to New York's Long Island, putting pressure on the office market. Still, the slice of suburbia boasts one of the lowest vacancy rates in the New York-New Jersey-Connecticut region.

New York's Nassau and Suffolk counties, a region consisting of the central and eastern portions of the island that juts into the Atlantic Ocean, had a first-quarter office-vacancy rate of 10.4%, below the 13.9% of Fairfield County, Conn., or the 14.6% in northern New Jersey, according to Reis Inc., a New York real-estate-research firm. New York City had a vacancy rate of 5.6%.

Lackluster rent growth earlier in the decade may have positioned the region better for today's slowing economy by deterring some developers from ramping up construction, according to Sam Chandan, chief economist with Reis. Looking ahead, new supply is expected to remain low: An average of 88,000 square feet of space is expected to be delivered this year and next, slightly less than the space contained on one of the lower floors of the Empire State Building.

Just how long the lower vacancy rate will hold up, though, is unclear given the volatility in the nation's economy. One risk is the New York region's weakening finance sector. Long Island saw a 4.2% year-over-year decline in its financial-service-related jobs in February, the 11th-steepest decline of the country's 100 largest metro areas, according to Moody's Economy.com.

The nearly vacant 183,000-square-foot Melville headquarters of American Home Mortgage Investment Corp., which has filed for bankruptcy-court protection, has been put up for sale, according to CB Richard Ellis Group, a property-services firm. Meanwhile, Delta Financial Corp., another failed mortgage lender, recently moved out of about 100,000 square feet of space in Woodbury; Delta couldn't be reached for comment.

While Reis expects that growth in office rents will slow, many in the market remain optimistic that the sector will weather the space given up by contracting mortgage companies. "From a landlord's perspective it's inconvenient," said David Glaser, chief operating officer of Woodbury-based CLK/HP, which owns the building that contained Delta Financial's headquarters. But Mr. Glaser said the office market "is still very solid," adding that he has already leased about one-quarter of the space vacated by Delta. He says demand is coming from insurance and pension companies.

Long Island, home to such companies as Arrow Electronics Inc. and health-care-product provider Henry Schein Inc., also contains older suburbs such as Levittown and wealthy enclaves such as Oyster Bay. The area's population fell about 0.1% in the fourth quarter to 2.8 million, while the region's overall annual job growth rose nearly 1% in February, helped by the education, health care, and tourism and leisure sectors, according to Moody's Economy.com.

Though still above average for the nation, Long Island home prices have slumped, and the area's retail market also is weakening. The vacancy rate for neighborhood and community shopping centers ticked above 5% in the fourth quarter, and effective-rent gains are slowing.

Meanwhile, the rental-apartment market, like the office market, has benefited from supply constraints. It posted the second-lowest vacancy rate and seventh-highest percentage gain in effective rent of 79 U.S. markets in the first quarter, according to Reis.

One project in the pipeline is banking on that demand in a big way: Developer Gerald Wolkoff's Heartland Town Square would include about 9,000 apartments as well as offices and retail space on a 452-acre site that was once part of the Pilgrim Psychiatric Center in Islip.

Mr. Wolkoff, who needs local approvals, wants to start construction next year and says the credit crunch won't slow him down. He says he can afford to finance the initial $100 million phase, mostly for infrastructure such as water and roads, himself.

He believes longer term that more rental apartments will be needed by young adults priced out of the region, while the sector will also benefit during tough times as those unable to obtain mortgages will opt to rent. "There's always a need for my type of units," said Mr. Wolkoff.

By: Maura Webber Sadovi
Wall Street Journal; April 16, 2008