Oil Bust Houston hardest-hit. San Francisco, once hottest US market, coddles up to it, followed by Los Angeles, Chicago, Washington D.C., Seattle, and Manhattan.
By Wolf Richter for WOLF STREET.
A nightmare has been unfolding. There were issues before working-from-home and “hybrid work models” slashed current and future real-estate needs of office tenants in the major office markets in the US. And now office footprints got slashed, and companies put their leased but vacant office space on the sublease market, undercutting landlords that want to direct-lease vacant offices.
Houston has been the hardest-hit major office market in the US since the oil bust collided with a phenomenal office construction boom in 2015. Availability rates soon were over 20%. But in Q2 2021, they’re over 31% — meaning that nearly one third of the office space is sitting on the market! And San Francisco, three years ago the hottest and tightest office market in the US, is now coddling up to Houston, with a historic office glut.
And “asking rents,” in this environment, are not indicative of actual lease terms and concessions agreed to. For example, real estate services provider Savills points out that in Washington D.C., “Concession packages for new, long-term, Class A leases now average $147.00 psf (per square foot) in tenant improvement allowances and 23 months of free rent, totaling $270.00 psf in total value – a 30.9% increase since the start of the pandemic.” This compares to stated asking rent of $58.46 psf.
Houston, first the oil bust then working from home.
The Houston office market is huge, with 192 million square feet (msf) of office space. Of this space, 31.3% are currently on the market available to lease, according to Savills. In terms of Class A office space, 33.3% is available for lease.
By submarket the availability rates range from 10% in Medical Center/South Houston to 52% in North Belt/Greenspoint. In the Central Business District, availability is 34.7%. These are the effects of years of oil-and-gas bankruptcies, downsizing, layoffs, and since 2020, the effects of working-from-home (chart via Savills).
Leasing activity, at 2.0 msf, was down 41% from Q2 2019.
Landlords have their asking-rent philosophy down pat. Asking rents – $33.42 per square foot (psf) per year for Class A space and $28.96 psf overall – haven’t budged in years. Whatever deals landlords make with potential tenants – including lease terms, such as rent, plus periods of free rent, improvement allowances, and other concessions – are not included in this data.
San Francisco, office shortage turns into historic office glut.
The epicenter of working-from-home, San Francisco saw a number of large employers pack up and leave to cheaper pastures. This started well before the pandemic, and by Q2 2019, office availability started rising. But it became a torrent during the Pandemic. Some of these moves were across the Bay to Oakland; other companies moved to other states, including Charles Schwab, which moved its headquarters to Texas, though it continues to lease now mostly empty office space in the City.
Sublease inventory rose to a new historic high in Q1 of over 9 msf, according to Savills. The overall availability rate leaped to 26.3%, and Class A availability to 24.0%, compared to 7.7% and 7.3% in Q2 2019. By submarket, availability ranged from 21.9% in Mission Bay/Showplace Square to 35.5% in South of Market and to 39.2% in Jackson Square (chart via Savills):
Asking rents fell further to $75.45 psf per year for Class A space, and to $72.55 psf overall, down 11.9% and 9.1% respectively from Q2 2019. This is not reflective of actual leasing terms being agreed on, topped off by free rent and other concessions.
Leasing activity recovered some from the near-nothing levels in the prior quarters, but at 1.1 msf remains down 62% from Q2 2018 and 56% from Q2 2019. About 40% of the leasing activity were renewals.
Sublease space rose to an all-time high of 9.2 msf, and total availability rose to 24.1%. By submarket, availability ranged from 8.8% in Burbank to 38.0% in Fox Hills/Marina:
Leasing volume in Q2, at 3.1 msf, was down 42% from Q2 2019. Of the total leased, 38.5% were renewals.
While asking rents keep rising, landlords are competing aggressively to make deals by offering better lease terms and all kinds of concessions. So overall asking rents rose to $3.84 psf per month ($46.08 per year), and Class A rose to $4.04 psf per month ($48.48 per year), both up about 6% from a year ago.
Amid ballooning sublease availability, overall availability rose to 21.9% in Q2. By submarket, availability ranged from 15.9% in North Michigan Avenue – the only submarket below 20% – to 28.0% in Far West Loop/Fulton Market. Class A availability rose to 17.6%:
Leasing activity at 1.4 msf in Q2 was down by 52% from Q2 2019 and by 62% from Q2 2018. Of those leases that were signed, over half were renewals.
Asking rents have been ticking down very slowly, and in Q2 reached $40.40 psf per year overall, and $45.90 psf for Class A, roughly were they’d been in 2017.
In Washington D.C., “already record-high concessions have soared.”
Overall availability rose to a record 21.1% in Q2. This includes 2.5 msf in new developments, of which less than half are preleased, with some projects having seen no preleasing. By submarket, availability ranges from 10.3% in NoMa and 13.1% in Southwest – the only two submarkets with availability rates below 20% – to 26.9% in Capitol Riverfront:
Leasing activity, at 2.0 msf, was down 37% from 2019. Over half of the leasing volume by square footage was with the government. Renewals accounted for 57% of the leasing volume.
Asking rents have barely edged down to $58.45 psf for Class A and to $55.31 psf overall, but “already record-high concessions have soared,” according to Savills:
“Concession packages for new, long-term, Class A leases now average $147.00 psf in tenant improvement allowances and 23 months of free rent, totaling $270.00 psf in total value – a 30.9% increase since the start of the pandemic. Free rent has risen the most aggressively since March 2020, increasing by seven months on average for a transaction term of ten years or greater.”
Availability rose to 19.4% overall, ranging from 9.0% in Everett Central Business District to 29.8% in Southend.
Leasing volume, at 1.1 msf in Q2, was down 60% from Q2 2019. Asking rents have been about flat since 2019. But Savills says, “tenants should generally expect owners that are facing significant pockets of availability in their portfolios to be generous with concessions and flexible with lease terms.”
Manhattan, largest office market in the US.
Availability jumped to 18.4% overall and to 17.9% for Class A buildings. By submarket, availability ranged from 12.3% in Hudson Yards to 25.8% in Soho.
Leasing activity, at 4.9 msf, was down 50.5% from Q2 2019 and by 54.6% from Q2 2018. Asking rents have been inching down. Overall asking rent at $75.60 psf was down 3.5% from Q2 2019, and Class A asking rent, at $86.05 psf, was down 5.3%, and according to Savills, “concessions continue to rise with the current value of free rent and tenant improvement allowances for long-term Class A leases up 17% from the beginning of 2020.”
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