A fresh Newmark Knight Frank report paints a gloomy future for New York City’s office market in the near-term, and it’s understandable: Being the world’s financial capital has its drawbacks.
Newmark Knight Frank’s outlook for New York City calls for a substantial decline in asking rents despite a moderate level of new development, largely because it is at the epicenter of the financial crisis that is gripping the global economy.
The report forecasts a local office-sector employment drop of 5 to 6 percent before any recovery bgins, and as much as 4 million square feet of new space will likely come online in 2009 or early 2010. At the same time, asking rents will decline “substantially,” and the “peak to trough decline in asking rents will be much larger, and the fall in effective rents will be larger again.”
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New York City (November 2008) — In a report on the outlook for the US office property market next year, global real estate firm Newmark Knight Frank reports that most US regional markets may be better positioned to weather the coming downturn than they were in past recessions because development activity has been restrained.
There are exceptions, however, including Washington DC, Phoenix, Houston and some parts of California, which have all grown rapidly in the past several years the report says. Newmark Knight Frank’s outlook for New York City calls for a substantial decline in asking rents despite a moderate level of new development, largely because it is at the epicenter of the financial crisis that is gripping the global economy.
“Office sector employment will continue falling in the US throughout 2009, and possibly into 2010. From the beginning of 2008 through early 2010, national office sector employment is projected to decline by a total of 1,000,000 jobs. “Few regional markets will be spared the resulting loss in demand for office space,” says Dr. Peter Kozel, executive managing director of Research and Real Estate Strategies, and author of the report.
The financial crisis has closed the capital markets to many real estate investors and developers. Even as these markets open up again, they will operate under a different set of regulations, leading to tighter credit standards. “In addition, risk premiums will rise from the pre-crisis levels, meaning higher borrowing rates,” says Kozel.
Highlights from Newmark Knight Frank’s regional outlook include:
Newmark Knight Frank says that with activity in virtually all segments of New York City’s financial industries down significantly, improvement in the pace of business will not likely happen before the second half of 2009 at the earliest. Total office sector employment could fall by 5% to 6% before the recovery begins and close to four million square feet of new space will likely come on line in 2009 or early 2010. Asking rents will decline substantially, and the average for 2009 will be at least 10% lower than the average level in 2008. The peak to trough decline in asking rents will be much larger, and the fall in effective rents will be larger again.
Northern New Jersey
Office vacancy has been on the high side for several years in the Northern New Jersey market, and this has held the pace of development down, Newmark Knight Frank said. The Hudson Waterfront submarket has been especially effective in attracting financial sector tenants from Manhattan in recent years, and the vacancy rate dropped below 10% in this submarket. With low occupancy costs, most tenants should remain in place.
Powered by high tech, consulting, and law firms, Boston weathered most of 2008 without significant disruption, although an earlier spike in CBD Class A rents did correct, Newmark Knight Frank reports. Developing global business retrenchment, however, will “surely” hurt this market as capital spending is reduced.
The Washington, D.C. metro area has a large wave of new development to absorb, with roughly 12 million square feet still in the pipeline. “On average, this market can absorb four million to five million square feet per year, so current development will challenge rent stability,” says Kozel. Nearly half of DC’s anticipated development is located within the district itself, where gains in office employment are steady but moderate. Should the role of the federal government in the management of the national economy continue to increase, the area could see a big jump in office space demand, Kozel adds.
The average vacancy rate remained well above 10% in Chicago even though office sector employment grew at close to a 3% annual rate. Rent levels have been steady for the last two years. New space is to be added in this market over the next few years, and demand will certainly slip. “We expect that this will push the vacancy rate higher by about two percentage points,” says Kozel. Over the last few years many law firms have moved into this market or expanded existing operations, lifting demand for space. Going forward, however, financial service firms are slated to give up sizable blocks of space.
The upper Midwest region’s economy is in the midst of an upsurge, with agriculture and energy providing the push. On the downside, the collapse in homebuilding has hurt manufacturers across the region. In Minneapolis, office development activity has slowed, but vacancy will rise and rents stagnate as the national recession hits this market.
A broad and deep national recession will hurt the Ohio regional markets in 2009. Manufacturing within in the U.S. has become more cost competitive against foreign manufacturers, especially with rising transportation costs. However, orders for consumer and capital goods are falling, which will translate into a difficult 2009, says Newmark Knight Frank.
Further consolidation in the U.S. automobile industry is a clear negative for the Detroit metro area and the sustained contraction in auto sales adds to the difficulty. Fortunately, says Newmark Knight Frank, there is now virtually no new development activity underway in the metro area, helping to reduce pressure on the already low rental rates.
The collapse in residential housing was especially hard on Orange County and San Diego. Both of these regional markets were homes to the subprime residential mortgage industry. With millions of square feet of office space emptied, both counties are reporting vacancy rates in the range of 18%. Although new development was cut significantly in both markets, several million square feet are likely to be delivered in both markets during the next two years.
In Los Angeles, employment growth has been stagnant for over a year, and the office occupancy rate is now firmly below 90%. Manufacturing activity and volume of trade are expected to decline as the recession takes hold, says Newmark Knight Frank, and completion of construction projects could push the vacancy rate up by two percentage points in 2009.
Growth in the high tech sector, which had been supporting the San Francisco market, has started to slip. When coupled with projected space reductions by many of the area’s financial behemoths, San Francisco’s vacancy rate could climb by one to two percentage points, Newmark Knight Frank says. Several million square feet of new space are projected to come to market in San Francisco during the next two years. “While not a massive amount of new space, it will hit the market during a period of weak demand,” says Kozel.
Propelled by an overflow of people and companies from California, Phoenix saw rapid growth and an upswing in office development that pushed its vacancy rate from under 10% to nearly 18% in just the last two years, Newmark Knight Frank reports. The supply of new office space could increase by an additional 5% in the next few years. These supply conditions will likely put a cap on rents, the report adds.
High energy prices have ignited again the oil and gas industry in the Rockies, and Denver is the center of that activity. In addition, the area’s high tech sector remains steady. These factors should help sustain demand in 2009.
Texas’s regional markets have benefited from low business costs and continued population growth. The surge in energy prices has stoked employment growth in Houston and, to a lesser extent, in Dallas, says Newmark Knight Frank. Vacancies in Houston and Dallas are near 10%, but construction is on the rise. With global growth slowing, exports from this market may slow in 2009. However, the long term outlook for the oil and gas exploration business is strong, meaning continued demand for state-of-the-art office facilities, Newmark Knight Frank says.
In Florida, the fall in home prices and a slip in spending on travel have hurt the economy and property market. Asking rents in the Miami market moved higher in 2008, but the jump in new supply and the weak economy raise questions about the sustainability of those high asking rents, says Kozel.
The report, titled “US Office Property Sector Market Outlook 2009” is available now at http://www.newmarkkf.com/research/marketreports/library/usofficeprop.pdf.
Newmark Knight Frank is one of the largest independent real estate service firms in the world. Headquartered in New York, Newmark Knight Frank and London-based partner Knight Frank Newmark operate from over 196 offices in established and emerging property markets on six continents. Last year, transactions were valued at more than $47.6 billion with annual revenues of over $962 million. With a combined staff of more than 6,900, this major force in real estate is meeting the local and global needs of owners, tenants, investors and developers worldwide. For further information, visit www.newmarkkf.com.