Downturn Hasnt Damaged Office Market Badly

May 28, 2002
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NORTHBROOK, Ill. — Grubb & Ellis late last month released research indicating that the nation’s commercial office market deteriorated during the first quarter — but that, on balance, the market still isn’t that bad.

The best illustration of what the market has done, according to Grubb & Ellis, was that the commercial office vacancy rate increased from 8.86 percent in the fourth quarter of last year to 10.34 percent the first three months of this year.

The report advised that another key indicator, net absorption in the market, registered a negative 7.4 million square feet; the steepest quarterly decline in occupied space since Grubb & Ellis began tracking the market 15 years ago.

Nonetheless, Robert Bach, Grubb & Ellis national director of market analysis, said the increase to double digits in the vacancy rate for the first time in a year should be viewed in perspective.

“The market has merely moved from conditions too tight to be sustained — and where tenants had few options — to a more balanced environment.

“During the past quarter,” he said, “rising vacancies were driven by two primary factors. New office product — with its long lead times and construction cycle — continues to be delivered to the market.

“In addition, higher layoffs and corporate downsizings have reduced office space needs. As a result, vacancy rates got hit from both the supply and demand side, resulting in this sharp rise in vacancies.

“On a historical basis,” he added, “the national vacancy rate is still healthy.”

He did speculate, however, that the vacancy rate is likely to drift higher through the middle of 2002 which, he believes, portends a moderate softening of rental rates.

“This is due to the delivery of new supply that is currently in the construction pipeline. Even with about a third of it already pre-leased, it is expected to outpace demand by an average of seven million square feet per quarter during this period.”

He predicted that by the middle of next year, the emergence of completed office buildings from the construction pipeline would push the vacancy rate from its current 10.34 percent to 11.5 percent or even 12 percent, a level he termed “slightly overbuilt by historical standards and a level not seen since late 1996 or 1997.”

In its report, Grubb & Ellis said research for the past quarter produced a number of other interesting findings:

  • New construction — both speculative and build-to-order — declined slightly. Construction peaked in the third quarter of 2000 at about 125 million square feet. During the first quarter of this year, this figure declined to about 114 million square feet of office space under construction.
  •  About 70 percent of the vacancy increase was attributed to new construction that was not already leased when delivered to the market. The other 30 percent of vacancies were due to tenants vacating existing space.
  •  Though net absorption was negative 7.4 million square feet for the first quarter, that loss was concentrated strictly in Class C and Class B properties. Class A absorption was nominally positive.
  •  Though asking rents pulled back slightly during the first quarter of this year, they remain higher on a year-over-year basis. For example, compared to the fourth quarter of 2000, first quarter 2001 Class A asking rents fell about 1.1 percent. But compared to first quarter 2000, Class A asking rents are up by 9.6 percent.
  •  Sublease space increased by a stunning 34 percent from 45.7 million square feet to 61.4 million square feet.

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