Vacancy Drops As Rents Continue Their Ascent

Key Takeaways:

  • The Greater Los Angeles Basin office market posted positive demand of 923,500 square feet. 
  • Construction deliveries of 977,700 square feet exceeded absorption, leading to vacancy falling by 10 basis points from last quarter to 14.7%. Historically, vacancy rose by 20 basis points from 14.5% year-over-year. 
  • Asking rental rate growth jumped compared to previous quarters, increasing at a trailing four-quarter average of 1.4% to end at 3.15 per square foot (PSF) full service gross (FSG). This is a 5.7% gain over last year.
  • New construction totaling 5.1 million square feet is underway in the Los Angeles Basin office market, with nearly half delivering in 2019. 
  • The Los Angeles Basin unemployment rate rose from last quarter, ending at 4.2%. Total civilian job growth slowed to 0.6% as the economy stabilizes at virtually full employment. 

The Los Angeles County office market recorded 887,100 square feet of net absorption and 544,800 square feet of deliveries as the total vacancy rate fell to 15.2%. All submarkets save Tri-Cities (-101,000) posted positive demand. Much of the positive movement stemmed from the West Los Angeles submarket totaling 405,800 square feet. Rental rate growth heated as rates increased by $0.05 to $3.36 PSF FSG. Six of seven Los Angeles County submarkets saw rates increase. Construction activity remains concentrated in Downtown and West Los Angeles, accounting for 69% of construction in the county. Los Angeles County non-farm unemployment in August 2018 recorded 4.5%, a 2.2% decrease year-over-year. Over the past 12 months, Los Angeles County gained 62,000 non-farm jobs for an increase of 1.4%.

The Hollywood/Wilshire Corridor market saw mixed results to start out the second half of 2018. Vacancy fell 70 basis points from the previous quarter, while absorption posted positive demand, recording negative 104,300 square feet. There is currently 954,500 square feet of office product under construction; the majority of deliveries will take place in 2020 with the arrival of Hudson Pacific’s EPIC and Harlow properties and Kilroy’s Academy project. However, rents dropped again this quarter, sliding by $0.04. A historical perspective shows some cooling. 

The Downtown Los Angeles office market recorded positive absorption for the fifth straight quarter as vacancy dipped below 19%. At a macro level, Downtown Los Angeles’ current vacancy hasn’t changed appreciably from the five-year historical average of 19.3%. Leasing volume recorded 590,500 square feet due primarily to new deals by Honey, Arizona State and accounting firm BDO. Asking rents in the CBD have continued growing by 2.5% year-over-year. In the face of rising build-out costs and high asking rents in creative conversion space, landlords in the CBD have kept rates high, choosing to compete for tenants with larger concession packages, like abatement and higher tenant improvement allowances.

Vacancy in the West Los Angeles market rose by 10 basis points, as absorption gains in Marina Del Rey/Venice and West Hollywood helped buoy the market against partially vacant spec deliveries. Rents continued their ascent at a more measured pace than the market had seen in past quarters, rising by $0.01 to $4.75 PSF FSG, a growth of 4.4% year-over-year. Concentrated mainly in technology tenant-dense submarkets, leasing efforts for 1.1 million square feet of new projects currently under construction will go a long way in determining whether vacancy ebbs of flows in the coming quarters.

The San Fernando Valley and Ventura County office market recorded positive movement, while net absorption recorded at 165,300 square feet as vacancy declined by 60 basis points in the second quarter. Asking rental rates recorded $2.48 PSF FSG, a 6.9% year-over-year increase. With only two new projects under construction on the horizon, the market will remain supply-constrained and absorption is expected to remain positive. 

South Bay market rental rates exhibited growth for the 19th time in 20 quarters. Vacancy dropped from 15.8% to 15.7% on the strength of move-ins in LAX/Los Angeles/Westchester, Long Beach Airport/Lakewood and 190th Street Corridor. About 45,200 square feet of product remains under construction and is expected to deliver by the end of the year. Leasing activity closed almost to last quarter’s total, recording 706,400 square feet. Investment activity dropped from last quarter’s total volume of $310.6 million to $106.4 million.

The San Gabriel Valley office market recorded 152,000 square feet of leasing activity, marking at least 100,000 square feet of velocity for nine out of the past ten quarters. Vacancy dropped by 20 basis points to 14.3% due to positive demand of 19,300 square feet. The overall average asking rent rose by $0.04 to $2.30 per square foot (PSF) full service gross (FSG). 

Demand in the Tri-Cities market recorded negative for the third time in four quarters. Minimal gains in Monrovia, Arcadia and Burbank were surpassed by losses in Glendale and Pasadena. After last quarter’s inertia, rents managed to climb incrementally in the third quarter. Subleases dominated leasing velocity for the quarter, particularly in Burbank. Investment activity was concentrated in Glendale which saw its 17th Class A property trade in the last three years, while a long time corporate headquarters location in Arcadia sold to a local buyer. For investors, sizable discount to replacement cost and rents below peak levels are helping to fuel activity, along with a varied tenant base for the market.

The Orange County office market saw a decline in movement during the third quarter as leasing activity decreased by 14% compared to last quarter. The decline in absorption stemmed from tenant move-out’s ranging in the 20,000-25,000 square foot range. As tenants seek opportunities to right size and new construction delivers to the market,  absorption gains are expected to be limited in coming quarters. Investment activity jumped in the third quarter as multiple buildings traded hands, including The Atrium and the Centerpoint office campus. The third quarter marked the highest sales volume in 2018 by 42%.

In the third quarter of 2018, the total vacancy rate for the Inland Empire office market decreased 120 basis points from 12.2% last quarter to 11.0%. The decrease in vacancy stems from the Riverside (down 180 basis points) and San Bernardino (down 160 basis points) submarkets. The third quarter closed with positive moving with absorption recording 203,000 square feet. Leasing activity recorded 298,400 square feet, which is above the three-year average. The weighted average asking rental rate increased during third quarter to $1.80 per square foot (PSF) full service gross (FSG). As a historical perspective, one year ago the asking rental rate recorded at $1.76 PSF FSG.