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Thursday, July 19, 2007

Co-ops loosing clout with luxury buyers?

opinionCorcoran and the other large NYC real estate brokerages recently released their second quarter numbers— in turn releasing a flurry of reporting on it by the real estate press. The standout metric for me concerned prices sinking a bit in the cooperative apartment market; more on that in a moment, but first a quick summary of the trends. In short, the NYC marketplace is surprisingly strong, running counter to the national housing slump. Robust Manhattan market activity is something that I've been taking about here since January. It is not to say that we are immune to a market correction, but so far the scarcity of land, and rising demand for housing, especially in the luxury sector, have been holding the market more than steady so far. The problems in the sub-prime mortgage market seem to have not affected NYC directly, but may impact us as lenders tighten debt to income profiles for loans across the board, reducing the number of buyers eligible for some properties. That reduces demand and may produce some drag on the upward movement in sales prices, especially in smaller units, which have still been appreciating pretty dramatically so far.

a snapshot of the market

Inventory levels have dropped 31.5% according to Jonathan Miller of appraisal firm Miller Samuel. With strong sales volume, the marketplace also showed price increases over 2006 in every category except cooperative apartments. Here's the headline data from The Corcoran Report:

Second Quarter 2007 Manhattan Sales
coops & condos combined +8%
condos +20%
co-ops -5%
townhouses +46%
lofts +28%
why all the demand?

New York City real estate is positioned uniquely. It's a global economic capital, with a robust local economy that's supported in part by a concentration of wealth from employees on Wall Street. The relatively weak dollar is also spurring foreign investment in real property here. Strong European currencies buy considerably more in NYC then they used to for those customers. In my opinion, the excellent management we've had in City Hall for the past few years has contributed to the reasons why people want to live here too, so we are also fortunate to have a growing population, in a primary home market. The positive direction of the city is one of its biggest assets. As people sat on the sidelines in rentals for a couple of years to see if the bubble would burst, the vacancy rates for rentals fell to record lows, pushing rents higher. In turn pushing buyers back into the market as it became apparent that prices are continuing to rise.

It illustrates the extremely local nature of real estate markets. The money did not flow out to "market-corrected" properties in the other parts of the country, or go into securities. It stayed in housing, and stayed here. Interest rates also remain at historic lows. Although creeping upward, no expert I've heard has suggested a huge spike in them anytime soon because of high levels of liquidity currently in the global capital markets.

why are coops sinking in a market on the rise?

So if strong demand is driving the NYC condo & townhouse market, why are we seeing a drop in values for co-ops? First for those not familiar with the basic product differences, NYC Real Estate Attorney Michael Dym posts some good information about it. Condos represent a smaller segment of the available housing inventory, than co-ops in NYC. Recent reports have put the split at around 15% condo to 85% co-op [revised 20% condo to 80% co-op]. Yet sales last quarter were about 50% condo and overwhelmingly newer, luxury homes that are selling at premium prices. You get the feeling that some co-ops might be looking a bit like old product now. Requiring a 25% minimum down payment (some higher) and intimate financial disclosures isn't helping. Is the marketplace asking them to adapt. If they do not do they risk risk hurting shareholder value.

In practical terms, a $1.75 million property in a typical co-op requires 25% down or $437,500; plus substantial liquid assets in reserve. Those are likely anywhere from 2 years of mortgage and maintenance, to a multiple of the purchase price in the bank, depending on the building. That same amount could potentially be enough for a condo in the $4 million dollar price range, assuming that the buyer can qualify for the loan. It is a far less rigorous process without asset requirements any higher than a bank requires, and no co-op board gauntlet to run. That means a more limited pool of potential buyers for co-ops, and a broader one for condos— typically leading to higher condo values. That's not new, condos have always traded a bit higher, but with about 50% of the available inventory as condos right now, it is easy to see a buyer preference for them emerging. The data are indicating that many high net worth individuals are choosing to buy luxury condos instead. This may put some pressure on the way some co-op boards conduct business.

The classic pre-war co-ops will surely hold heir own, but unless a building has a Rosario Candela pedigree, or a park view, or some other unique luxury feature, it's becoming aging housing. Some will need to find a new balance in their fiduciary responsibilities to the co-op corporation and another basic aim of corporate governance— the maximizing of value for shareholders. Boards may want to reconsider rules and guidelines that help make them a bit more competitive in the marketplace.

"I don't see any problem whatsoever in the co-op market. Just go out and try to buy a classic six'' Liebman said, referring to apartments with two bedrooms, a living room, dining room, kitchen and maid's room. "Your broker is going to cry because they are not going to have much to show you.''

Pam's quote is actually quite true and is backed up by Jonathan Miller as quoted on CNN.com that "Co-op apartment inventory dropped more than 40 percent and condo inventory 22 percent". So the co-ops are selling, but people are choosing condos even more. There is always a demand for that pre-war, classic six, which is in short supply, in Manhattan's most prime neighborhoods. However, at the edge of those neighborhoods is where one might see the a little softness. More middle of the road homes, may feel the squeeze more now.

Miller-Samuel put the drop in co-op prices at -3.7% while Corcoran Group's co-op numbers showed a change of -5% and an increase of +3% in price per square foot; an indication that smaller sized apartments were selling better. The biggest price drops came from larger 3+ bedroom co-op apartments, typically the most expensive in our market— while studios (+7%), one bedrooms (+3%) and smaller two bedrooms (+3%) units were all up. Bigger apartments 3 bedroom + homes which are in the multi-million dollar luxury category, seem to be affected by the new condo inventory more. Luxury buyers simply have new options. The new buildings allow owners more absolute control over their property— not subject to co-op board approval. Not to mention that they are delivered new, with luxurious finishes, and modern amenities like pools, business centers, refrigeration for food deliveries, wine cellars, health clubs, etc... that the older co-ops don't offer. Up against this new competition in the luxury market, the board approval process, asset profile requirements in multiples of the purchase price, and more often than not a renovation, make buying a co-op much more of a hurdle than some high net worth individuals are willing to jump.

related news:
Co-ops Slip, but Condos Lead Rise in Manhattan Apartment Prices | New York Times »
Record Prices, Avoiding Co-ops in Manhattan | Gothamist »
Manhattan Co-Op Prices Fall as Buyers Favor Condos | Bloomberg »
Record home sales in Manhattan | CNN »
Weak Dollar Fuels City Real Estate | New York Sun »
NY Real Estate Shakes off the slump |TheStreet.com TV »
Rise in sales signals market strength | The Real Deal »

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Updated September 4th, 2007