Behind the Numbers

> Over half a million square feet of net absorption moved the year-to-date total to a positive 395,360 SF.
> Class A average asking rental rates reached $3.23/SF/month, equating to the peak rate last reached in Q1 2008.
> At 466,858 SF, this was the most new construction completed in the last eight quarters.

Trends Forecast & Outlook

San Diego County started off with negative demand for the first half of 2017, but turned around significantly in Q3. While most of the demand was attributed to absorption in newly constructed buildings, there was still significant demand in the remaining inventory.

Absorption still continues to trend positively, albeit at rate that is slower than the years after the last recession (2010-2016). The recovery in occupancy – about 6% of the overall inventory – during this period was focused on primarily Class A space, which was most sought after. As vacancy continues to decrease, the rate at which it decreases will be much lower and often times noted by some quarters where there will be negative demand. But all signs continue to point to a downward vacancy trend for the foreseeable future.

Net absorption for 2017 will be strong, posting between 500,000 SF to 750,000 SF for the year. Demand won’t nearly have the magnitude as the years from 2010 to 2016 when absorption averaged 1.1 million SF annually. Vacancy at year-end will be around 11%.

Net Absorption

After two consecutive quarters of negative net absorption in 2017, demand spiked up to 601,181 SF of positive net absorption in Q3 2017. Tenants occupying newly completed construction made up most of the absorption (+356,262 SF), but nearly 250,000 SF consisted of demand in pre-existing inventory.

UTC posted the most positive net absorption (+389,345 SF) in Q3. Most of this was caused by the occupancy of Illumina into their new 316,262 SF three-building i3 campus, developed by BioMed Realty, on the eastern end of Executive Drive. Additionally, Wells Fargo occupied 45,480 SF at One La Jolla Center.

Scripps Ranch posted the most negative net absorption (-67,881 SF) in Q3. This was driven by 111,990 SF vacated by Lockheed Martin in two buildings of the Horizon Tech Center on Meanley Drive.

Vacancy

Countywide vacancy of 11.5% in Q3 amounted to an 18 basis point decrease from the prior quarter and a 73 basis point decrease from a year ago. The vacancy rate was comprised primarily of direct vacant space (10.7%) with minimal sublease space (0.8%).

Overall vacancy in Downtown stood at 15.7% - up 33 basis points from Q2 and due to 34,522 SF of negative net absorption. By mid-2018 when the City of San Diego relocates to 101 Ash Street (314,545 SF) along with a continued positive demand trend, vacancy will reach around 11% or less.

Countywide Class C vacancy stood at 7.7% at the end of Q3. The continued demand in this segment is driven in part by average asking rents are 24% lower than Class B. Class A and Class B vacancy rates stand at 12.3% and 12.4%, respectively.

New Supply

In Q3, a total of 466,858 SF was completed countywide. This consisted of the aforementioned 316,262 SF i3 campus for Illumina, American Assets’ 90,596 SF two-building Torrey Point project in Carmel Valley on Carmel Mountain Road, and a 60,000 SF building in the North City project in San Marcos. The North City building on 111 Campus Way had 40,000 SF of absorption in Q3 when Pima Medical Institute occupied the space they had pre-leased.

As of quarter-end, there were six buildings totaling 313,074 SF under construction. Of that total, 50,536 SF is expected to be completed by year-end. This includes a 13,200 SF building in La Mesa, Westfield UTC’s shopping center expansion which includes a 32,336 SF office building for CBRE, and finally 5,000 SF of creative office space in Mission Valley on Camino De La Reina called The Millennium.

Additional projects expected to be completed by mid-2018 include a 48,954 SF creative-office building on Aston Avenue in Carlsbad, the 63,584 SF creative-office building at Makers Quarter in Downtown, and a 150,000 SF office speculative office building being built by Alexandria Real Estate Equities at 9625 Towne Centre Drive in UTC.