San Francisco Office Vacancy Surpasses 2009 Peak

San Francisco’s office market is starting to recover—but the pandemic plummeted the sector into a deep hole. According to the fourth quarter report from Avison Young, the office vacancy rate has surpassed the former peak in the financial crisis, reaching 19.1% at the end of the year, compared to 15.5% in 2009. The historical average is only 10.1%.

The vacancy rate is a reflection of meek office leasing activity. While there was some recovery of leasing demand last year, which increased more than 40% over the stalled market in 2020, leasing remains 41% below the pre-COVID era. The report notes that there is “no modern precedent” for this type of slowdown in leasing activity. Overall, office absorption in 2021 was -4.8 million square feet, representing 5.5% of the current inventory—which also surpasses the absorption during the Financial Crisis, when absorption represented -2.3%. It is important to note that absorption has recovered 14.3% from 2020.

The high office vacancy rate pared with the substantial sublease supply—which stands at 32.1% of the total market—could also portend significant drop in rental rates. According to Avison Young, when the ratio of sublease space to vacancy rate reaches 26%, it historically comes with a double-digit rent decline. The ratio currently stands at 23.8%. Currently, office rents have only fallen 4.1% since 2020 and 1.9% from 2019, illustrating return-to-work strategies are in play.

While some of these statistics are alarming, the San Francisco office market has performed better than some expectations. At the end of the year, a fourth quarter report from Marcus & Millichap, for example, predicted that rents would fall 9% last year, exceeding 8.5% mean rate of rent decline in 2020. The report attributed the 9% dip in office rents to an onslaught of new office deliveries. This year, the office inventory has grown by 3.3% with 5.7 million square feet of new stocked completed. While construction is slowing, there is still a pretty substantial pipeline product underway.

Despite the destabilization of the office sector, optimism returned in the second half of the year when, for the second consecutive quarter since the pandemic started, office leasing volume exceeded 1 million square feet. In the third quarter, 2 million square feet was leased in the market, a 74% increase over the second quarter when leasing volume also surpassed 1 million square feet, according to research from Savills.