Large Office Markets Solid But Downsizing, New Supply Could Affect Outlook

The 10 largest U.S. office markets returned solid fundamentals during the second quarter, said Colliers International, New York.

Average office rents increased in Houston, Atlanta, San Francisco and Boston and fell in none of the top 10 markets. Rents held steady in six  markets: New York, Washington, D.C., Chicago, Los Angeles, Dallas and Seattle.

But two key factors could increase office vacancy rates going forward, Colliers noted: tenant downsizing and new supply. “Taking into account new supply, vacancy rose in four markets, fell in three and remained unchanged in three–about the same as in the first quarter,” Colliers’ Top Office Metros Snapshot said.

The report noted Washington, D.C., Chicago, Houston and Atlanta saw vacancy trending higher quarter over quarter. San Francisco, Seattle and Boston vacancy rates held steady and New York, Los Angeles and Dallas vacancy rates improved.

Three markets–Manhattan, San Francisco and Seattle–had office vacancy rates well under 10 percent. “These rates are substantially lower than those in the other seven markets,” the report said.

Manhattan office leasing remained close to the activity seen in the very busy first half of 2016, Colliers said. “Although new supply will be entering the market, this is not a concern given the shortage of large blocks available for lease,” the report said. In addition, concerns are receding about significant new supply coming online in San Francisco and Seattle.

But two markets, Los Angeles and Washington, D.C., remain exposed to construction risk, Colliers said. “Construction activity [in Washington] is more than three times higher than three years ago, with no signs of easing,” the report said. “For the second quarter in a row, more than half a million square feet of space broke ground in the District.” And there are more than 4 million square feet of construction underway in new projects and major renovations in just two Los Angeles submarkets–downtown and west Los Angeles–all scheduled to deliver within 12 months. “The degree to which this space leases up quickly could impact rents,” the report said.

Boston and Dallas office properties remain “on solid ground,” the report said. Dallas office rents recently reached record highs and leasing volume for Boston Financial District Class A space has picked up “considerably,” it said.

Houston’s office market remains somewhat “challenged,” Colliers noted. Vacancy rates exceed 20 percent “and there is no appreciable leasing traction on the large inventory of sublease space,” the report said. “Any turnaround in the market is dependent on a rebound in oil prices.”