Demand Pushes Vacancy to Among the Nation’s Lowest

PORTLAND, OR—A relatively lower cost of doing business compared to other West Coast metros and a growing population of young professionals is driving corporate growth in the Portland metro. All signs point to a healthy office market, characterized by low vacancy and high demand, according to a second quarter 2018 office report by Marcus & Millichap.

Booming healthcare and technology sectors are bolstering demand for office space throughout the market, keeping vacancy tight. Companies including Amazon and Google are expanding footprints and healthcare firms have added more than 13,400 employees during the past 12 months. Elevated demand has pushed the vacancy rate to one of the lowest among the major metros in the first quarter while vacancy in medical office buildings hovered in the tight 3% range.

“Vacancy is super low,” Adam Lewis, vice president/regional manager of Marcus & Millichap’s Portland office, tells GlobeSt.com. “We’ve absorbed the first round but are anticipating round two. Rents are the highest we’ve ever seen and we would like to absorb the rest of it.”

Indeed, above-average rent growth was recorded in the CBD and rents here are the highest metrowide. Building on a 2.5% increase the prior year, the average asking rent climbed 4.4% during the past 12 months to $25.40 per square foot. Here, rent for marketed space rose 6.7% during the year to $32.19 per square foot in the first quarter.

There is a shift in Portland to the creative office sector, where the average office tower will often have bottom-floor creative office, Lewis says. That type of office is in demand, along with the traditional and medical office varieties.

“Portland draws a very diverse base of business and a lot of different people due to the climate, outdoor activities and cost of living,” Lewis tells GlobeSt.com.

Metrowide vacancy ticked down 30 basis points during the past 12 months to 9.7%. Nearly 840,000 square feet was absorbed during this time. Vacancy in class-B/C office space fell 60 basis points during the past four quarters to 9.6%. Class-A vacancy, on the other hand, held steady at 9.7% year over year.

The tight vacancy rate is making it increasingly difficult for tenants to find quality space and as a result, construction will pick up considerably this year. Development is on track to reach its highest level in more than 10 years in 2018. A chunk of supply additions are build-to-suit, including roughly 1.3 million square feet of Nike’s headquarters expansion. An additional 722,000 square feet of space is designated for medical office use, the majority of which is leased, minimizing impact on vacancy in medical office buildings.

“There is a lot of demand but construction costs are perhaps the highest ever,” Lewis tells GlobeSt.com. “Most of the development is in the hot spot of the Inner Eastside, where there’s mixed use with apartments and office. There’s also a lot going on in the Pearl and Alphabet districts. Those hip hot spots are adding apartments and retail, which is filling downtown offices.”

Relatively higher returns and lower entry costs than in nearby California and Washington are keeping out-of-state buyers active in the Portland metro. Average first-year returns are averaging up to 100 basis points higher in Portland than in other major West Coast markets.

Because demand has picked up for assets in Portland’s CBD during the past 12 months ending in March, this has lifted the average price up nearly 20% for office buildings, to around $300 per square foot, according to the report. Properties in the area changed hands with first-year yields in the mid-5% band on average.

Moreover, heightened tenant interest in Clark County has bolstered investors’ appetites for assets here. The majority of sales were of class-B buildings in Vancouver, OR. Cap rates in Clark County are roughly 100 basis points higher than the metro average.

The number of sales slowed during the prior 12-month period, through transactions picked up for class- A properties. Increased sales of higher-tier assets lifted prices up 14% to $260 per square foot. Average first-year returns for office assets have held steady in the low- to mid-6% range for the past four years. Investors continue to target properties in south western Portland near Beaverton where several corporate headquarters are located. Cap rates in the area average in the high-6 to low-7% range.

During the year ending in the first quarter, roughly 23,400 positions were created. Hiring was led by education and health services with the addition of 14,900 jobs. The unemployment rate has held steady in the high-3% band during the first quarter. The tight rate is making it difficult for employers to find quality workers and is restraining hiring.