July Commercial Real Estate Update

Expect near-record office vacancy rates in 2009, says Grubb & Ellis Detroit has highest vacancy rate of any major U.S. city, New York the lowest
By Matthew Scott
July 21, 2008
Office vacancy rates are headed up and by the end of 2009 may be close to an all-time high. Cutbacks in key industries such as information technology, finance and professional services have led to more than a quarter-million layoffs during the first half of 2008, which has emptied an estimated 38 million square feet of office space.The result? According to a report issued today by commercial real estate advisory firm Grubb & Ellis, the percentage of U.S. offices that are empty could hit 17% by the end of next year.That’s a startling figure, and not far off the numbers seen in the prior two recessionary cycles. The vacancy rate hit 17.9% in the first quarter of 2004; during the third quarter of 1991, it topped 18.0%. As of June, the national office vacancy rate stood at 14%, marking the second consecutive quarter the rate has increased by .5%. Detroit has been hit hardest, with a whopping 22.6% office vacancy rate. Conversely, New York City had the lowest vacancy rate among major U.S. cities, at 5.6%. According to the report, office rental rates are also under pressure. While average asking rental rates for Class A and Class B office space edged higher in the second quarter—Class A up to $36.15 a square foot and Class B up to $27.89—Grubb & Ellis expects rates to remain flat over the next few quarters.Over the last year, only eight markets saw Class A rates decline, but during the second quarter, 22 of the 59 markets surveyed posted lower Class A rental rates, indicating a definite downward trend.Another sign of office market weakness: The amount of space offered for sublease increased for the fourth consecutive quarter. Sublease space has risen 18% since mid-2007, to 86 million square feet. As office vacancies increase into next year, some owners of real estate assets may experience hardships.“Rising vacancies and softening rental rates are expected to result in some forced asset sales by investors, particularly those who purchased recently with the ‘aid’ of floating-rate debt and overly optimistic pro formas,” the report warned, suggesting that institutional investors with large cash balances will scoop up bargain properties as they appear.

Chris' comments: Look out! We may now be on the verge of the "dam breaking". Commercial Real Estate has so far been able to dodge the hardship that residential real estate has encountered. BUT, this may not be the case for long!