Investing in the NYC real estate market

There are a number of different levers that affect risks and yields in an investment. It is a matter of prioritizing which is most important to you.

Cap Rates

The cap rate on investment properties in Manhattan is generally between 2% and 3%. Investors accept a lower cap rate here than in other areas of the country because of the liquidity of the market and the appreciation potential; it is not uncommon for cash flow to be negative the first few years of ownership, particularly when financing. End-users generally assign a higher value to property than investors do given the non-financial value of real estate; as an investor it is necessary to accept a lower cap rate to compete.

Prewar condominiums tend to have the highest cap rates due to lower taxes, and make great investments as they are not building any more of them. Further, most older buildings are co-ops, and thus prewar condos are rare. Higher cap rates can sometimes be achieved in certain areas of Brooklyn, which often have lower monthly maintenance costs yet similar rents to Manhattan.

Finding A Deal

The first question to answer is how “deal” is defined. You can generally get the deepest discounts on the worst apartments, but these properties are often not the best investment choices. It is hard to find a large discount on the best apartments in NYC because of the number of active buyers: the market is typically very liquid. We always consider resale when making investment recommendations to clients: since generally buyers eventually do sell, it’s important not to be caught holding an unmarketable asset.

Renovating

A property that needs work will trade at a lower price, all else equal, and buyers sometimes have greater leverage due to the smaller population willing to undertake these projects. However, you are often competing with buyers who are less educated about the actual costs of a renovation, and thus willing to pay more. The carrying costs incurred are critical to consider, particularly if you need another property to temporarily live in.

Overseeing a renovation takes time and energy; if this is bandwidth that you have, it may be a good chance to add value to your investment. It's important to account for the carrying costs of a renovation that progresses more slowly than planned, and the time it will take to make the numerous decisions required. A good team (project manager, contractor, designer, etc.) is worth their weight in gold.

The cost of a renovation will depend on the scale of the project including how much electrical/ plumbing/ structural work is involved, what permits need to be pulled, how long the building (as applicable) takes to review and approve the plans and how organized you are in terms of making decisions on paint/ appliances/ flooring/ etc. 

If you are only doing what is effectively a cosmetic gut renovation, and not moving walls or sinks/toilets, and just replacing everything where it is, you may not need to submit an alteration agreement and only give the building license and insurance documents for your contractor. 

Yield vs. Location; Liquidity; Volatility

Yield is generally higher as distance from the center of Manhattan is increased. Areas less convenient generally have lower prices, and the rents, while generally also lower, may still result in higher yields. The tradeoff is more price volatility in a downturn, and potentially less liquidity. Including a vacancy factor is wise when making yield calculations. As with any investment, it’s important to consider the risks: generally, the higher the potential upside, the greater the potential downside.

Always discuss the financial impact with your legal and tax professionals before committing to an investment.