"Basically, we're absorbing all of the space that the mortgage companies are leaving behind, but with all of the new construction coming on line, our vacancy rate is going up," Holdner says. The average asking full service gross lease rate per month per sf in the county ticked up to $2.77 in the quarter, but deals are being done with significant concessions that are reducing effective rates.
Landlords are offering concessions that haven't been seen in some time in the county, such as free rent and discounted parking, relocation funds and higher tenant improvement allowances. "I don't think asking rates will decline," Holdner says, explaining that with fundamentals sound in Orange County and the market performing well in spite of the challenges it faces, landlords will be reluctant to drop their quoted rates.
Holdner comments that the office market "is actually doing better than I thought it would" in light of the millions of square feet of new construction that have hit the market in the past couple of years, combined with the nationwide credit crunch and the space that is being vacated by mortgage companies and home builders. The office vacancy rate rose to 10.5% in the third quarter, an increase of 3% over last year's third quarter low rate of 7.49%.
Holdner points out that the higher vacancy rate is still far less than the 17.2% vacancy rate in the first quarter of 2002, the last time a large volume of new construction came to market. He estimates that the vacancy could reach 11.5% before leveling off because of further new construction of about 1.8 million sf that is slated to hit the market over the next year. After that next 1.8 million sf, however, the construction boom appears headed for a slowdown, with no significant new projects on the horizon.
Besides the increase in vacancy rate, the third quarter brought some other unusual developments in the county's office market, which has been a national leader for several years. With the completion of almost 3.5 million sf of new office construction for the first three quarters of 2007, along with the mortgage industry problems, net absorption for the county posted a rare negative number of 434,504 sf for the third quarter. Nonetheless, the county still shows positive absorption of 153,139 sf for the first three quarters combined.
In addition to sound fundamentals, Holdner points out that one of the factors aiding the local office market is that almost half of the space currently under construction is either preleased or build to suit, a contrast with earlier real estate cycles in which so much more of the space was built on spec. All factors considered, Holder forecasts annual lease rate growth of at least 5% to 7% continuing through the end of this year.
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