C&W: ‘Curveballs’ Slow Office Demand But Fundamentals Steady

Tenant demand for U.S. office space slowed in the first half of the year as businesses reacted to global economic uncertainty, reported Cushman & Wakefield, New York.

Despite the deceleration, vacancy remained steady and rents increased to the strongest growth rate in seven years, said C&W Chief Economist Kevin Thorpe.

“U.S. businesses have had many curveballs thrown at them this year–concerns over the health of China’s economy, equity market volatility, weak U.S. GDP growth, now Brexit–many reasons to at least tap the breaks on expansion plans,” Thorpe said. “Moreover, at this maturing stage in the cycle, it is not uncommon to see job growth and absorption levels decelerate as the economy nears full employment. But overall, the office leasing fundamentals are holding up extremely well and the secondary markets are really starting to hit their stride.”

CBRE, Los Angeles, agreed that secondary office markets are growing healthier. “Markets such as Orlando, Jacksonville, San Diego and Phoenix, which were hit hard during the housing bust, are now benefiting from strengthening tenant demand and limited new supply,” CBRE’s Office Occupier Snapshot report said.

The U.S. office sector absorbed 14.7 million square feet in the second quarter, Thorpe said, up nearly 25 percent from the prior quarter but down 36 percent a one year ago. Net absorption fell by 34 percent in first-half 2016 from the strong levels seen in early 2015. But despite the deceleration, tenant demand for office space kept pace with new construction. In the second quarter, the national office vacancy rate held steady from the prior quarter at 13.4 percent. The vacancy rate fell 50 basis points from a year ago and 400 basis points from the mid-2010 peak.

U.S. office rents increased 5.8 percent in the second quarter compared to a year ago to $29 per square foot, C&W reported. Average asking rents have increased 18 since their mid-2011 low point. Asking rents increased in 67 of the 87 markets the firm tracks, declined in 19 and held steady in one market.

The office construction pipeline continued to expand modestly, C&W said. Just over 13 million square feet of office space was added to the national inventory due to construction completions. Houston, Midtown Manhattan and Santa Clara, Calif., each saw more than a million square feet of new office space enter the market. But total net absorption roughly matched construction deliveries.

“Outside of a handful of markets, the construction cycle continues to lag job creation,” said Cushman & Wakefield Principal Economist Kenneth McCarthy. “The upshot is that, nationally, the threat of overbuilding at this stage in the cycle is minimal. The downside is that many markets badly need the new space to relieve some of the pressure on rents.”

McCarthy said the markets with the highest share of inventory under construction included Nashville (9.4 percent), Seattle (9.4 percent) Brooklyn (9.4 percent), Salt Lake City (6.4 percent) and San Francisco (6.2 percent).