As economic pressure eases, both sides are positioning themselves for recovery.
It has been a tough two years for owners of the nation's office properties. Since the first half of 2008, office rents and occupancies have fallen at a steady clip. However, there is new evidence that the worst of the fall may be coming to an end.
According to commercial real estate researcher Reis, office rents dropped 0.8% in the first quarter of 2010 versus a 1.1% decline in the fourth quarter of 2009. The national vacancy rate still edged up to 17.3% compared with 17% in the fourth quarter of last year, but that was the smallest quarterly increase since the second quarter of 2008.
With fundamentals now apparently finding their footing, tenants and landlords are more aggressively positioning themselves to take advantage of the slow but steady recovery.
For the past two years, the office leasing market pendulum swung decidedly in the favor of tenants due to rising unemployment and corporate downsizing. And that trend looks to continue for awhile. “There will continue to be opportunistic behavior by tenants and occupiers for the balance of 2010 and well into 2011 because I don't believe we will have significant job growth until 2012,” says Christopher Ludeman, president of brokerage in the Americas for CB Richard Ellis.
In this environment, some tenants have been what Ludeman calls “trendsetters.” These companies recognize that rents have fallen and concession packages have risen to a level that makes them comfortable in tying down strategic space for the long term.
Following the trendsetters is a larger group of tenants. These occupiers signed short-term leases in 2008 and 2009 due to worries about their economic futures. “They now have to decide if they go long,” says Ludeman.
Landlord concession packages are not likely to get any bigger, says Ludeman. “They're as good as they're going to get.” The same may be true with rents, he adds. “Rents may fall in some markets a bit further, but the ship starts to turn before a lot of people know they're on it.”
Concessions spur deals
Robert Bach, senior vice president and chief economist at Grubb & Ellis, agrees. “More tenants are active now and willing to sign a long-term lease because they are more confident in their own outlook and realize now is a good time because of the concessions available.”
Ludeman sees a big turn coming in 2012, when he expects to see “real” rent growth based on substantial job growth. “At some point in time the pendulum will swing back to favor landlords and owners who control better product.”
Recent employment numbers have been positive, but many observers believe it will take many months of gains to help erase two years of bad memories.
“Businesses have to feel very confident that they will ultimately not only replace the 8.2 million jobs lost in this recession, but that they will grow payrolls even further,” says Sam Chandan, global chief economist and executive vice president at researcher Real Capital Analytics. “That's when you begin to see very strong positive absorption.”
On a historical basis, Chandan notes that office vacancy rates did not peak until two years after the last recession ended, and job growth remained volatile for some time. With that in mind, he cautions against focusing on individual months of employment numbers bouncing up and down, but rather on the overall trends to find a sustained trajectory of payroll growth.
To be sure, there will be fits and starts through 2011, but the worst may indeed be over, says Bach. “For the recovery to really get its sea legs and continue the momentum that was started last year the missing piece of the puzzle is job creation. At the bottom of a cycle not everything turns at once, but eventually everything gets going in the same direction.”