Confidence in a U.S. office property market recovery is starting to erode amid stalling demand and lackluster job growth. Unease about the economy's fragility and Europe's debt crisis add to anxieties for this commercial real estate sector.
Experts still think office vacancy rates will keep improving in 2012, but only slightly as companies stay cautious about expanding, waiting to see what the economy will do. Occupancy growth has slowed over the past few months in most areas.
"I think it's fair to say that the office sector is lagging and will likely be the last to recover among the different property types," said Hessam Nadji, managing director of research for property brokerage Marcus & Millichap Real Estate Investment Services. "It's a very slow, very gradual recovery.
Real estate research firm Reis (NASDAQ:REIS - 新聞) sees U.S. office buildings ending 2011 with an average vacancy rate of 17.3%, down from 17.6% at the end of 2010, and reaching 17% in 2012.
Ghost Of Budgets Past Mediocre job creation and empty space on the books of downsized corporations, or "shadow space," challenge the sector, Nadji says.
Office employers added 562,000 workers over the 12 months ended Nov. 30. It's nearly 30% of all private sector jobs created over that time, but hasn't led to big net absorption gains because firms are still backfilling shadow space, he says.
Net absorption measures space occupied minus space vacated in a period. In the third quarter, U.S. office users absorbed 6 million square feet, the fourth straight quarter that tenants leased more space than they exited, according to Reis.
The quarterly absorption gains have been anemic and indicate stabilization more than recovery, Nadji says. Still, he predicts that companies should burn off shadow space about halfway through 2012 as long as office job creation keeps its pace.
That could depend on consumers' mood and willingness to spend, writes Victor Calanog, vice president of research at Reis, in a recent note about the office market. If consumers stay conservative, it could affect corporate earnings and ultimately hiring decisions.
Optimism appears on the mend: The Thomson Reuters/University of Michigan index of consumer sentiment hit a six-month high of 69.9 this month, up from 64.1 last month.
But the likelihood of an office market recovery next year is debated.
Employment fell in 17 cities over the three months ended Oct. 31, notes real estate research firm Maximus Advisors in a report this week. And office job creation slowed 26% June through November vs. the prior six months, says John Sikaitis, director of office research for property brokerage Jones Lang LaSalle.
He doesn't expect appreciable rent hikes next year and suggests that tenants will continue to have a leg up in lease negotiations.
"What concerns us is that growth has slid downward," he said. "That's directly translating into what kind of office demand, leasing activity and net absorption that we see for the next year.
Nowhere is a change in sentiment more apparent than in New York and Washington, D.C. They account for 20% of all office space in the country and spearheaded the office recovery in 2009 and 2010. Yet since the early summer, leasing activity has slowed by 35% in both markets, Sikaitis says, touching off a "downward spiral in confidence.
Companies in New York are delaying leasing decisions partly due to worry over how the European debt crisis will affect financial firms in the city, he says. Also, Bank of America (NYSE:BAC - 新聞), Citigroup (NYSE:C) and Morgan Stanley (NYSE:MS - 新聞) are among a handful of banks planning to lay off thousands of workers around the world. Some of the attrition will undoubtedly hit New York, Sikaitis adds.
In Washington, D.C., government leasing has come to a near standstill after driving the office market for three to four years, says Jeffrey Sussman, president of office landlord Property Group Partners. Businesses, associations and law firms also hesitate to make decisions about adding space or moving, he says. "Unless there's a compelling reason, everyone is just standing pat and waiting to see what the economy is going to do," said Sussman, whose firm owns nearly 3 million square feet of office space, primarily in Washington, D.C.
Brighter office growth prospects are in San Francisco, Denver, Houston, Seattle, Pittsburgh and other cities catering to technology and energy industries. Annual energy and technology employment is growing at 10% and 5%, respectively, vs. overall job growth of 1.8%, Sikaitis says.
Seattle's average vacancy rate was 15.2% in the third quarter, a year-over-year decline of 150 basis points, Reis says. Denver posted 19.9%, a drop of 110 basis points.
Resilient In Long Run Sussman remains bullish on long-term prospects for New York and Washington, D.C. Despite faltering confidence on absorption, they still boast low vacancy rates — 10.6% in New York and 9.3% in Washington.
Sussman sees new growth trends. Google (NASDAQ:GOOG - 新聞) last year bought 111 Eighth Ave. in Manhattan for $1.9 billion. That plus an economic development initiative to draw biotech firms should beef up the technology sector there, he says. And publisher Conde Nast's planned move to 1 World Trade Center from Midtown Manhattan in 2014 should bolster the vibrant neighborhood emerging downtown.
"It's a slow market at the moment," Sussman said, "but New York ain't going away."
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