By Lawrence Delevingne
Luxor Capital Group has quite the view. Since September this year, the hedge fund firm run by Christian Leone has occupied the entire 27th floor of the famously sloped Grace Building on 42nd Street in midtown Manhattan-some 30,000 square feet. From this perch, panoramic views of Bryant Park and downtown New York City can be seen through gleaming, virtually floor-to-ceiling windows. State-of-the-art trading terminals, offices overlooking the venerable London plane trees below, sleek conference rooms, and flat-screen televisions complete the picture.
The price tag for such a trophy office usually doesn’t come cheap, but Luxor’s gain is Clarium Capital Management’s loss. Even though its lease wasn’t up until May 2013, Clarium moved from the space in July this year, following poor performance and dwindling assets. The firm had been subletting the office from European real estate lender Eurohypo for yearly square foot rents in the “high double digits,” according to trade publication Real Estate Weekly, and had put in more than $1 million worth of upgrades, sprucing the space up aesthetically and installing the latest IT systems, according to people familiar with the space. Luxor walked right in, benefiting from Clarium’s investment essentially free of charge and paying roughly $55 per square foot annually, believed to be between 30% and 40% less than Clarium.
Welcome to the Manhattan hedge fund real estate hustle.
For nearly two years hedge funds have benefited from a surplus of high-end office space, often at steeply lower prices than the top of the market in September 2008. As with Clarium’s situation, many of the best deals were from firms forced to sublease their spaces at deep discounts because of the financial crisis or from landlords slashing prices to fill top-end offices built before 2008 and designed with hedge funds in mind. Gleaming class A office spaces in the traditional hedge fund power center-midtown between Seventh and Third Avenues and 40th and 61st Streets-now rent for an average of $61.69 a square foot, down from an average of $84.48 a square foot in September 2008, according to real estate broker Cushman & Wakefield.
But even as hedge funds continue trading up to some of the best offices in the city and prices begin to edge higher in prestigious skyscrapers near Grand Central Terminal, Manhattan commercial real estate is far from booming, and landlords continue to offer generous terms, including shorter leases, money toward renovations and lower costs per square foot. In short, it’s still a buyer’s market.
“There hasn’t been tremendous movement, and there certainly hasn’t been massive absorption. It’s just been bits and pieces,” says Neil Goldmacher, vice chairman of real estate brokerage Newmark Knight Frank and a hedge fund specialist. “Even with a flight to quality by the best-performing funds after 2008, we’re not seeing any dramatic upward pressure on pricing, including for the top buildings.”
Some of those midtown buildings-among the most prestigious addresses in the country-have struggled to attract clients. The most expensive in the city, 9 West 57th Street, the Solow Building, is approximately 65% vacant, according to people familiar with the property.
Current tenants include Och-Ziff Capital Management, Coatue Management and the Clinton Group, but high asking rents by owner Sheldon Solow-as much as $200 per square foot or more-and previous litigation with tenants and brokers have virtually stalled the signing of any new leases (Solow management did not return a call for comment).
Similarly, the new 510 Madison Avenue is largely unoccupied, even though it was designed for hedge funds. Prospective tenants were hesitant to move in because of ownership issues and legal wrangling with tenants, including hedge fund Jay Goldman & Co. But Boston Properties bought the glossy East 53rd Street building from Macklowe Properties in September, and it is expected to lease space quickly.
Rents are still low compared with their pre-financial crisis peak, and the difference is even more dramatic in the two areas preferred by hedge funds. For top buildings near Park Avenue, the average price per square foot was $108.24 in September 2008 and is now $69.55; offices near Madison and Fifth Avenues fell from a peak of $115.76 to $88.56.
“It’s a game of musical chairs right now. A lot of funds are active and trying to take advantage of the market,” says Cynthia Wasserberger, who leads real estate broker Jones Lang LaSalle’s hedge fund practice. “It’s a real opportunity for tenants to take advantage, whether they’re looking for new space or recasting their existing leases...We aren’t going to be at these levels forever.”
Jones Lang LaSalle tracks 23 midtown buildings known for their hedge fund occupancy in its monthly Hedge Fund Index, a barometer of the class A market. Of the 23 buildings, all but six have space available today; in April only two were fully leased. The average asking rent for the index starts at $64 per square foot (including sublets) and goes to $107 per square foot, increases of 1% and 9% from April, respectively.
The Jones Lang LaSalle report notes that rents have stayed low because of shorter remaining term lengths, condition of the space itself, obstacles to moving in, and general risk often associated with sub-landlord credit.
Still, the midtown class A market has rebounded more quickly than the rest of the commercial offices in the area. As of October 1, the top hedge fund buildings in midtown have an availability rate of 9.2%, compared with a 13.8% rate for the rest of class A spaces in the area, according to CB Richard Ellis.
“Hedge funds are helping lead high-end Manhattan commercial real estate back from the abyss,” says Jonathan Luttwak, a financial services leasing specialist at real estate brokerage firm Cushman & Wakefield. “There are still deals to be had, and rents are significantly lower than they were during the peak, but the notion that you’re going to walk into a class A midtown building and get some fire sale today is a myth. Prime buildings are holding their value, and the deals reflect that fact.”
As usual, midtown Manhattan prices are among the most expensive commercial leases in the country. As of the third quarter, the average class A commercial space in midtown’s “Plaza” district is $69.27 per square foot, and Times Square, not traditionally a hedge fund center, is $71.28 per square foot, according to data from Jones Lang LaSalle. That compares to $66.36 per square foot in Greenwich, $38.63 in San Francisco, $36.50 in Houston, $35.66 in Chicago, $31.83 in Boston and $21.16 in Dallas.
Asking rents exceed $100 per square foot in eight of the 17 Hedge Fund Index buildings that have available space, most for top floors with sweeping views. During the past six months, high asking rents have increased to $130 per square foot for 375 Park Avenue (the Seagram Building) and $125 per square foot for 590 Madison Avenue (formerly the IBM Building). Similarly, 712 and 767 Fifth Avenue have seen substantial increases in rents for premier space over the past six months (767 Fifth, the General Motors Building, is asking as much as $175 per square foot, second only to Solow, according to the Jones Lang LaSalle report).
Those examples “reinforce a fundamental shift in the boutique leasing market, evidencing that tenants are trading up in terms of not only quality of the building, but also placing a premium on tower floor spaces and views,” says the report.
Deals there have been. The largest of the year was for Citadel Alternative Asset Management, the hedge fund seeding and incubation affiliate of Ken Griffin’s $11 billion Chicago hedge fund firm. The asset manager signed a new seven-year, four-month lease in January for 76,892 feet over three floors (28th, 29th and 30th) at 601 Lexington Avenue (formerly the Citigroup Center), another popular hedge fund building. The rent is around $70 a square foot, and the owner, Boston Properties, contributed seven months of free rent and $50 a square foot for work.
The second-largest deal was a new lease signed in April for 74,000 square feet at 40 West 57th Street by Elliott Associates, Paul Singer’s $17 billion New York hedge fund firm. The 15-year lease for space on three different floors (fifth, 30th and 31st) costs between $58 and $88 a square foot, depending on the floor and year. Owner LeFrak Organization gave nine or 12 months free and $50 or $60 a square foot for work, depending on the floor. The building is now full and includes hedge funds Highbridge Capital Management and Sandell Asset Management.
Other big leases this year include Kingdon Capital Management (24,000 feet for 10 years at 152 West 57th Street), Tiedemann Investment Group (23,021 feet for 15 years at 520 Madison Avenue), and Maverick Capital (the renewal of 36,126 feet for 10 years at 767 Fifth Avenue). All paid prices per square foot in the $80s.
For smaller hedge funds, blockbuster midtown deals are often not a consideration. HAGIN Investment Management, for example, runs less than $300 million with eight employees on the ninth floor of 645 Madison Avenue. HAGIN has paid an average price per square foot near $70 for a five-year lease for roughly 4,000 square feet, but the firm is considering a move out of midtown to Tribeca in the next year, believing there are better deals downtown. HAGIN hopes to sign a three-to-seven-year lease and pay below $40 a square foot.
“I’ve never seen office space getting you a client. You’re either a good fund or not a good fund,” says Patrick Morris, CEO of HAGIN, of the midtown trophy buildings. “For anyone under, say, the $200 million mark, where you are paying and trying to retain people and you’re trying to get new clients, it’s a double-edged sword. If you have extravagant office space, people might ask the question ‘Oh, this is what my money is going to?’”
Prime brokers agree the focus on luxury buildings is overblown but aren’t aware of many funds willing to leave midtown. “They’re paying many more millions of dollars to be above the same Starbucks, but they think it’s important for clients to see they’ve arrived,” says one prime broker at a major bank who consults with hedge fund clients on real estate. “It’s location, location, location.”
Luxurious hedge fund office amenities aren’t in vogue, but they still exist. According to real estate brokers and architects, gyms, game rooms and private bathrooms can still be found, but they aren’t prized the way like they were before 2008-or shown off to clients.
Even with prime location in mind, smaller hedge funds have many options. Besides hedge fund hotels or taking cut-rate new space directly from a property owner, subleases are still available, even as there are fewer of them. “Since the changes in the economy and financial markets began in 2008, hedge funds have become very capital sensitive and seek to avoid the costs of building out office space,” says Ben Friedland, a hedge fund specialist at CB Richard Ellis. “The best ‘plug and play’ spaces have been leased and many firms are being forced to consider alternatives that require a substantial investment and/or to adjust their requirements and expectations for the level of finishes.”
Friedland adds that hedge funds are also more cautious when signing leases than before 2008, demanding flexibility-including rights to terminate their lease early or options to expand from the current space after a set number or years (the average hedge fund lease runs for 6.52 years, according to 2010 CB Richard Ellis data. In 2006 it was 8.14 years; last year it was 5.67).
“These are uncertain times, and leases are long-term liabilities,” he says.”Many hedge funds don’t have a clear view of their business three, five or seven years from now. It’s an educated guess at best so flexibility is critical.”
Midtown real estate costs may be coming off the bottom, but it’s not clear if and when they’ll return to pre-crisis, $100-plus a square foot levels. Cushman & Wakefield estimates midtown class A rents will rise modestly, hitting an average of $71.20 per square foot in 2012 and $84.65 in 2015.
Goldmacher of Newmark Knight Frank says no sudden price jumps are imminent. “Unfortunately, the economic tide isn’t rising very much, so even the best buildings are not experiencing a lot of dynamic rent growth,” says the broker. “The good news for the hedge fund industry is they can wait it out if need be-prices aren’t going to be spiking in the near term.”
Triogem Asset Management, a $110 million emerging markets-focused hedge fund, isn’t taking any chances. Triogem quickly outgrew its sixth-floor start-up office with administrator Conifer Securities at 767 Third Avenue after launching in January 2009 and signed a three-year lease beginning September 1 for double the space-2,300 square feet-on the 21st floor of Carnegie Hall Tower, a popular hedge fund building on West 57th Street.
Without disclosing prices, founding partner Tim Seymour says the move was a “very good deal,” but it doesn’t hurt to dream. “If you’re higher up in a building like Carnegie, the spaces there go for a lot more, but the views are pretty unbelievable. You can see all the way through the park,” says Seymour. “Maybe when we’re up to a billion dollars, that’ll be the floor we move up to.” AR
