Steady as She Goes: U.S. Office Market Remains on Solid Ground
Despite the fact that the U.S. office market is cooling, the market overall is solid and stable with occupancy at peak levels and record rents in several markets. Investors remain committed to the office sector but are shifting their strategies.
As the U.S. is entering its ninth year of economic expansion, the office market remains historically strong. Tenant demand is a wild-card factor, with absorption levels considerably lower than during previous cycle peaks. Office construction volume remains elevated and holding firm, but is below the historic high.
- Absorption Rises but Stays Subdued: Compared to the previous quarter, U.S. office net absorption more than tripled in Q2 2017, though only to a still-modest 11 million square feet. While leasing volumes are healthy, they are being counterbalanced by tenant move-outs, downsizing and localized supply shortages. Barring a significant uptick in the economy, this pattern of demand could be the new “normal.”
- Vacancy Is Static: The U.S. office vacancy rate has been almost flat for six successive quarters and remains at the same level seen at the peak of the prior cycle.
- Rent Growth Has Almost Halted: Average office asking rents grew by less than 1% in Q2 2017, the same as in the prior quarter. On an annual basis, Class A rental growth is similar in both downtown and suburban markets. Rents are holding firm in the major markets, with any remaining growth centered on secondary markets.
- Construction Stays Elevated: While the overall levels aren’t rising, there is no let-up in office construction activity. Although 60% of space underway is pre-committed, this leaves 45 million square feet of unleased space. The markets with the greatest exposure to vacant supply risk are Los Angeles and Washington, D.C.
- Investors Remain Confident: U.S. office sales volume rose in Q2 2017 and is holding steady on an annualized basis. There is little pressure on capitalization rates as of yet. Suburban assets and secondary markets are seeing increased activity as investors chase higher yields.