Office Market Gains Strength As Absorption Numbers Shine
The Phoenix office market continues to push forward by shaking off its multi-year decline by posting several successful quarters with promising market data.
Phoenix, the king of the boom-and-bust market, saw feverish overbuilding in the middle of the last decade and players in the market have been paying the price for it ever since. Even though the road back has been slow, the office market is making steady strides. That has helped to shore up a renewed optimism in this market.
For the first time since 2006, there have been strong, back-to-back quarterly absorption totals of over 500K SF. Three submarkets: 44th St. Corridor, Camelback Corridor and Deer Valley Airport have the highest positive absorption of all submarkets year-to-date. Midtown Phoenix, Airport Area and Northwest Phoenix show the weakest absorption year-to-date.
Tenants continue their march up the quality ladder to secure historically low rates for the medium-to-long term. Lease activity has slowed this quarter but a healthy momentum over the past few quarters has strengthened absorption totals.
“Rent concessions continue but are lessening in tighter sectors where a few landlords have greater leeway,” said Matt DePinto, Senior Research Analyst with Lee & Associates. “Overall rental rates are inching up slowly. In fact, steady or rising rental rates are reported in 15 submarkets compared with last quarter’s 8.”
Sales activity remained sluggish this quarter. Availability of Class A properties is limited and many attractive top-tier properties have already transacted. Some investors consider moving to Class B assets, a less attractive option. Some of those investors could be looking elsewhere for the kind of product and ROI that meet their investment goals.
A positive trend, according to analysis by Real Capital Analytics is distressed transactions are becoming a smaller part of overall sales volume. In their August capital review, distressed deals amounted to just 7% of total transaction volume nationally. The rate is no doubt higher here, but still in decline as the economic recovery takes hold.
The Phoenix office vacancy rate for the third quarter posted at 25.4%, a strong 90 basis points lower than last quarter. Net absorption settled at 724,866 SF for the quarter, just slightly off second quarter totals. Year-to-date absorption stands at a positive 1,070,773 SF.
Construction activity remains extremely low by historical standards with only one non-medical building. The fully-pre leased, Class A, 92,109 SF Allred Park Place is under construction in Chandler and is expected to deliver in the fourth quarter of this year.
The lack of construction gives the market a breather and allows for absorption of existing space. A building trigger is not fully anticipated until 2014 with several proposed high-rise projects for Phoenix and Tempe downtowns. There were no buildings delivered this quarter.
Asking rental rates settled at $20.42 PSF this quarter, up $0.1 PSF from last quarter. With little movement overall, more individual submarkets are starting to see greater rate increases, in fact, more than double last quarter. The Airport Area had the highest increase of 2.7% over last quarter. The North Scottsdale/ Carefree submarket saw the biggest decline at (-$5.6%).
The largest lease transaction of the quarter was the Aetna lease of 138,404 SF of Class A space at Liberty Cotton Center, 4500 E. Cotton Center Blvd., Phoenix.
The largest sales transaction was the purchase of 2900 S. Diablo Way, Tempe for an allocated price of $24,531,274. The transaction was part of a 4-property portfolio. The two, Class B office buildings totaled 217,798 SF and posted a price per square foot of $112.83. Walton Street Capital LLC of Chicago, IL was the buyer.
The year ahead should bring increased vigor to areas of the office market that have not seen much movement so far, including rising rental rates and greater leasing velocity. “Still, with only three submarkets out of 28 with sub- 20% vacancy rates, there’s still much work to be done,” DePinto said.
The upcoming election should provide investors the market certainty they crave, regardless of outcome. Declining unemployment rates are expected to continue and perhaps accelerate, providing the fuel companies’ need to begin hiring in office sector jobs. This increased need for space and the urgency it could bring, should help struggling rental rates move higher and push vacancies lower providing the foundation for a healthy Phoenix office market going forward.