Office Sector Update 2/7/2016

Midtown Office Leasing Report for 2015

Despite having fewer large-block transactions (meaning 100,00 square feet or greater) than 2014, Midtown as a whole outperformed the rest of New York City in office leasing activity in 2015, taking nine out of the top 10 largest leases. More specifically, real estate consultant JLL’s Vice President and Director of Research noted that the Midtown Trophy Index, a group of many of New York’s most exclusive office buildings, has outperformed the rest of the submarket, using the evidence that rents for these trophy properties rose 65% to $99.43 per square foot in 2015. Midtown has seen one of the largest growth rates since the 2010 market bottom at 38.9%. The submarket rents of Midtown, as well as Class A office space specifically, grew 4.1% year-over-year in 2015, from average prices of $77.11 to $80.24 per square foot. Vacancy rates for the Midtown office market hover around high 9% to low 10%. Despite positive rent growth, overall leasing volume was down 25%, which is consistent with the rest of Manhattan, with large-block transactions down 32% for the year at only 36 such transactions in 2015 compared to 53 in 2014. The supply of large blocks of space (over 25,000 square feet) in Midtown South has been depleted primarily by the creative sector, schools, and communal workplaces such as WeWork. Rent growth slowed slightly for Midtown South, but vacancy rates continued to drop. The most severe decrease in leasing volume was in the Downtown district, which dropped 50% in 2015 from 2014. The overall vacancy dropped to 11.1% from 12.5% in the beginning of the year, but Class A vacancy rose to 12% from 11.6% in 2014. Average asking rents for Lower Manhattan rose by slightly more than a dollar to $57.60 per square foot. Is There a Bubble in the San Francisco Office Real Estate Market?

While everyone hopes that the days of bubbles in the market are behind us, the place deemed the most suspicious in this sense is the “frothy” San Francisco Bay Area, and especially its real estate market. San Francisco’s office market has far outpaced the majority of the American office market, with rents growing 129% in the past six years to over $70 a square foot due to the booming technology industry. The tech industry accounts for 36% of office stock and 60% of leasing in downtown San Francisco. The main area of concern is the exponential growth of “unicorns,” start-ups-turned-firms that are valued at over $1 billion and are preparing to go public. There are 144 of these companies in the U.S., 60 of which are based in the Bay Area, accounting for 5% of total office occupancy. This concerns commercial real estate investors because IPO capital has slowed down in the past two quarters, which is what the “unicorns” need to survive since many are newly-public companies. However, Colin Yasukichi of CBRE, says that this is not cause for much concern because even if all of the “unicorns” failed, there would only be a 5% increase in vacancy, which he believes would be quickly absorbed by demand. Matt Hart, a senior managing director at Savills Studley who was in San Francisco during the bubble, says that he thinks tech start-ups nowadays are “more cautious with their real estate”; for example, he notes that the trend of tech companies subleasing their extra square footage (which has already been built out) provides extra income for the firm, and a cheaper option for smaller start-ups who would not be able to afford to build-out their own offices. Other cautionary activities like this of startups has led investors to believe the startups of today are less risky than those of two decades ago.