US Office Sales Rose 22% In First Half of 2024

National office building sales activity has improved for the first half of 2024, rising 22% to $25.8 billion, but capital markets continue to lag a recovery seen in office leasing, JLL said in its Q2 2024 U.S. Office Market Dynamics report. An “entity-level medical office portfolio” accounted for the uptick, according to the real estate giant.

“More meaningful acceleration will depend on improvement in the interest rate outlook, which can begin to moderate costs of capital and stabilize asset valuations,” JLL said. The brokerage expects the Federal Reserve to cut rates by 50 bps [basis points] by year-end.

Over the medium term, $500 billion in loan maturities through 2028 were likely to support transaction volume, JLL added.

The mix of capital markets participants is evolving, JLL noted. In contrast to previous years, office users and private investors have comprised nearly 50% of acquisition volume this year, filling a gap left by institutional investors.

The latter group accounted for less than 20% of acquisition volume since 2023, a sharp drop versus their 38% share in the preceding four years going as far back as 2019.

Distress Continues

As hoped-for interest rate cuts failed to materialize, distress continued to increase, JLL said. As of June 2024, 7.4% of office CMBS debt was delinquent.

“More high-profile office assets are being transferred to lenders or sold at foreclosure auctions,” JLL noted, citing two examples: Capella Tower, a 58-story, 1.4 million square foot trophy tower in downtown Minneapolis that was surrendered to its lender in Q2 after failing to find a buyer and Los Angeles’s Gas Company Tower, appraised at $215 million, roughly one-third the level of a 2021 valuation when the building was last refinanced.

JLL noted that offices that have recently traded have done so at steep discounts to pre-pandemic valuations, creating losses for existing office investors.

However, this dynamic has meant that new owners “have considerably more flexibility with capital deployment” to upgrade existing office products or remove transitional inventory to repurpose for other uses, creating “a viable path forward” for those kinds of assets.

Of buildings that traded in 2023, “more than 10% have already been removed from the inventory,” JLL said. “The vacancy rate among that set of buildings has declined by 4.5% since the beginning of 2023.”

The JLL report’s authors note JBG Smith’s announced renovation of 2011 Crystal Drive in Northern Virginia, located near Amazon’s HQ2, as an example of the trend of new owners having the wherewithal to “renovate and upgrade buildings to compete with the upper echelons of the market.”