It’s getting ugly in US office markets, working from home is showing up
Oil Bust Houston is the hardest hit. San Francisco, once America’s hottest market, is preparing for it, followed by Los Angeles, Chicago, Washington DC, Seattle and Manhattan.
By Wolf Richter for WOLF STREET.
A nightmare is unfolding. There were issues before working from home and âhybrid work modelsâ reduced the current and future real estate needs of office tenants in major office markets in the United States. And now the office footprint has been reduced and businesses have put their rented but vacant office space on the sublet market, which has reduced landlords who want to rent vacant office directly.
Houston is the hardest-hit large office market in the United States since the oil crisis collided with a phenomenal office building boom in 2015. Availability rates quickly exceeded 20%. But in the second quarter of 2021, they exceed 31%, which means that almost a third of the offices are available on the market! And three years ago San Francisco, America’s hottest and tightest office market, is now pampering itself all the way to Houston, with a historic office glut.
And the âasking rentsâ, in this environment, do not indicate the actual conditions of the leases and the agreed concessions. For example, real estate service provider Savills points out that in Washington DC, “Concession packages for new Class A long-term leases now average $ 147.00 psf (per square foot) in leasehold improvement allowances and 23 months rent. free, for a total of $ 270.00 psf in total value – a 30.9% rate increase since the start of the pandemic. This compares to the asking rent of $ 58.46 per square foot.
Houston, first the oil bust, then homework.
Houston’s office market is huge, with 192 million square feet (msf) of office space. Of that space, 31.3% is currently on the market available for rent, according to Savills. In terms of Class A office space, 33.3% is available for rent.
By submarket, availability rates range from 10% at Medical Center / South Houston to 52% at North Belt / Greenspoint. In the central business district, the availability is 34.7%. These are the effects of years of oil and gas bankruptcies, downsizing, layoffs and since 2020, the effects of working from home (graph via Savills).
Rental activity, at 2.0 msf, was down 41% compared to the second quarter of 2019.
The owners have their philosophy of asking rent. The asking rents – $ 33.42 per square foot (psf) per year for Class A space and $ 28.96 per square foot overall – have not budged for years. Whatever transactions landlords have with potential tenants, including rental terms, such as rent, plus free rent periods, improvement allowances and other concessions, are not included in this data.
San Francisco, the office shortage turns into a historic office glut.
The epicenter of work from home, San Francisco has seen a number of large employers pack up and move to cheaper pastures. It started long before the pandemic, and in the second quarter of 2019, office availability began to increase. But it became a torrent during the pandemic. Some of these trips were across the bay to Oakland; other companies have moved to other states, including Charles Schwab, who moved its headquarters to Texas, though it continues to lease mostly empty office space in the city.
Sublease inventories hit a new all-time high in the first quarter of over 9 msf, according to Savills. The overall uptime rate jumped to 26.3% and Class A availability to 24.0%, from 7.7% and 7.3% in Q2 2019. By sub-market, the availability varied from 21 , 9% in Mission Bay / Showplace Square to 35.5% south of the market and 39.2% in Jackson Square (graph via Savills):
Asking rents fell further to $ 75.45 psf per year for Class A spaces, and to $ 72.55 psf overall, down 11.9% and 9.1% respectively from the previous year. second quarter 2019. This does not reflect the actual rental terms agreed, supplemented by free rent and other concessions.
Rental activity recovered some of the near zero levels of previous quarters, but at 1.1 msf, it remains down 62% compared to Q2 2018 and 56% compared to Q2 2019. Around 40% of rental activity were renewals.
Sublease space reached a record high of 9.2 mÂ² and total availability reached 24.1%. By submarket, availability ranged from 8.8% in Burbank to 38.0% in Fox Hills / Marina:
The rental volume in Q2, at 3.1 msf, was down 42% compared to Q2 2019. Of the total rentals, 38.5% were renewals.
As asking rents keep rising, landlords compete aggressively to make deals with better lease terms and all kinds of concessions. So overall, the asking rents have increased to $ 3.84 psf per month ($ 46.08 per year) and Class A has increased to $ 4.04 psf per month ($ 48.48 per year) , both up about 6% from a year ago.
Against a backdrop of increasing availability of sublets, overall availability reached 21.9% in the second quarter. By submarket, availability ranged from 15.9% on North Michigan Avenue – the only submarket below 20% – to 28.0% on the Far West Loop / Fulton Market. The availability of class A has increased to 17.6%:
Leasing activity at 1.4 msf in the second quarter decreased by 52% compared to the second quarter of 2019 and by 62% compared to the second quarter of 2018. Of the leases signed, more than half were renewals.
Asking rents have come down very slowly and in the second quarter they hit $ 40.40 psf per year overall, and $ 45.90 psf for Class A, roughly as they were in 2017 .
In Washington DC, “record concessions have already skyrocketed.”
Global availability hit a record 21.1% in the second quarter. This includes 2.5 msf of new developments, less than half of which are pre-published, with some projects not having seen any pre-leases. By submarket, uptime ranges from 10.3% at NoMa and 13.1% at Southwest – the only two submarkets with uptime rates below 20% – to 26.9% at Capitol Riverfront:
Rental activity, at 2.0 msf, was down 37% from 2019. More than half of rental volume per square foot was with the government. Renewals represent 57% of the rental volume.
Asking rents barely fell to $ 58.45 per square foot for Class A and $ 55.31 per square foot overall, but “record concessions have already skyrocketed,” according to Savills:
“Concession packages for new long-term Class A leases now average $ 147.00 psf in leasehold improvement allowances and 23 months free rent, for a total of $ 270.00 psf in total value – a 30.9% increase since the start of the pandemic. Free rent has increased the most aggressively since March 2020, increasing by seven months on average for a transaction duration of ten years or more.
Seattle / Puget Sound.
Availability rose to 19.4% overall, from 9.0% in the Everett CBD to 29.8% in Southend.
Rental volume, at 1.1 msf in the second quarter, was down 60% from the second quarter of 2019. Asking rents have been roughly flat since 2019. But Savills says, âRenters should generally expect that owners facing large pockets of availability in their portfolios are generous with concessions and flexible with rental terms.
Manhattan, the largest office market in the United States.
Availability jumped to 18.4% overall and 17.9% for Class A buildings. By submarket, availability ranged from 12.3% in Hudson Yards to 25.8% in Soho.
Rental activity, at 4.9 msf, is down 50.5% compared to Q2 2019 and 54.6% compared to Q2 2018. Requested rents are down. The aggregate asking rent at $ 75.60 psf was down 3.5% from the second quarter of 2019, and Class A asking rent, at $ 86.05 psf, was down 5.3%, and according to Savills, “concessions continue to increase with the present value of free rent and leasehold improvement allowances for long-term Class A leases up 17% from early 2020.”
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