We are six years into recovery and the national office vacancy rate is hovering somewhere around 15%. Is this the new equilibrium? Ten percent or under vacancy used to be the rationalized comfortable zone for relative supply-demand balance, but not many office markets can boast those numbers in the Era of Less, especially out in the suburbs where much of the vacancy concentrates. Now, spec projects ramp up in many downtown markets beyond the relatively safe 24-hour cores. Denvew is an example. Developers see opportunities to leach tenants from old, dated buildings into new generation, energy efficient towers.
As we have pointed out before, developers are primed to take advantage with new office product in markets starved for new buildings. They can attract a high-end market sliver of tenants willing to pay up for modern construction. But that market has limited depth and can sustain so much new product with a ceiling on how high rents can jump. Meanwhile, tenants continue to shrink space needs. A Washington Post article this week headlined the demise of the corner office, even in law firms—glad they finally noticed.
Even in the top markets, tenants still hold a relative advantage given supply-demand trends. The new downtown projects in New York are heavily subsidized by taxpayers and aren't exactly hitting homeruns. The Hudson Yards project is signing tenants, but at the expense of once solidly class-A midtown properties. Banks and investment company stalwarts aren't expanding the way they used to, and everyone is shrinking per capita space requirements. There is more softness than brokers would like to admit in the Manhattan market.
In Washington DC, sequestration has tempered the leasing climate after a run-up of probably too much new construction… San Francisco is hot, hot, hot, but keen observers wonder if we are not about to see a repeat of 2000-2001. So much of the new leasing has been driven by companies without profits, riding a wave of giddy anticipation over apps, search engines, digital, and potential IPOs. How many of these firms will be around in five years? Tweet while you can? Houston cooled down inevitably, but maybe more suddenly and more quickly than even skeptics could have expected. Tech and energy dominated markets historically are extremely volatile. And that takes me back to San Francisco.
The City by the Bay is one of our most favored investment office markets, commanding high rents and at times registering relatively tight occupancies in the Class A downtown market. But San Francisco—for all its highly desirable 24-hour characteristics, also is a roller coaster ride, arguably the most unstable of the nation's dominant coastal gateways, increasingly dependent on tech firms. It seems to bounce back always, but has realized some hellacious tailspins in the past three decades, which have caught investors sideways, if they mistimed acquisitions or developments and overleveraged. Recently, some players have been wise to have backed off or to sell out. Others will do fine, if they are positioned for long-term holds. But this is no time to buy or start building office there.
Recent outsized appreciation—thanks to all that buyer demand—has arguably gotten ahead of rent growth or at least rent growth will have a hard time keeping up with the expectations baked into the outsized appreciation.
Tweet… Tweet.
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Jonathan D. Miller
A marketing communication strategist who turned to real estate analysis, Jonathan D. Miller is a foremost interpreter of 21st citistate futures – cities and suburbs alike – seen through the lens of lifestyles and market realities. For more than 20 years (1992-2013), Miller authored Emerging Trends in Real Estate, the leading commercial real estate industry outlook report, published annually by PricewaterhouseCoopers and the Urban Land Institute (ULI). He has lectures frequently on trends in real estate, including the future of America's major 24-hour urban centers and sprawling suburbs. He also has been author of ULI’s annual forecasts on infrastructure and its What’s Next? series of forecasts. On a weekly basis, he writes the Trendczar blog for GlobeStreet.com, the real estate news website. Outside his published forecasting work, Miller is a prominent communications/institutional investor-marketing strategist and partner in Miller Ryan LLC, helping corporate clients develop and execute branding and communications programs. He led the re-branding of GMAC Commercial Mortgage to Capmark Financial Group Inc. and he was part of the management team that helped build Equitable Real Estate Investment Management, Inc. (subsequently Lend Lease Real Estate Investments, Inc.) into the leading real estate advisor to pension funds and other real institutional investors. He joined the Equitable Life Assurance Society of the U.S. in 1981, moving to Equitable Real Estate in 1984 as head of Corporate/Marketing Communications. In the 1980's he managed relations for several of the country's most prominent real estate developments including New York's Trump Tower and the Equitable Center. Earlier in his career, Miller was a reporter for Gannett Newspapers. He is a member of the Citistates Group and a board member of NYC Outward Bound Schools and the Center for Employment Opportunities.
