America’s Office Real Estate: The Slow Burn of Distress
Last year, only 3.5% of office sales were from distressed sellers, a situation attributed to optimism in the market and leniency from lenders.
Jordan B. & Han-Gwon Lung
March 19, 2024
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Good morning. Despite challenges for office-building owners since the pandemic, the expected rush of distressed sales hasn’t occurred. Meanwhile, in March, confidence among builders of new single-family homes soared to its highest level since July 2023.
Today’s issue is brought to you by AirGarage: Increase your property’s NOI with full-service parking management technology.
Market Snapshot
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*Data as of 3/18/2024 market close.
OFFICE MARKET
America’s Office Real Estate: The Slow Burn of Distress
Covid-19 drained many occupants from office buildings, but that doesn’t mean owners are desperate to sell—yet. PHOTO: JIMIN KIM/ZUMA PRESS
Despite the impact of work-from-home on office occupancy, a flood of distressed sales in the US office real estate market is yet to materialize.
What happened: Despite the significant impact of Covid-19 on office occupancy, a fire sale of distressed office properties in the U.S. is yet to materialize. Data from Colliers reveals a rise in the vacancy rate from 11% pre-pandemic to 17%, surpassing levels seen during the 2008 financial crisis. However, forced sales remain a rarity with only 3.5% of office deals in 2023 involving distressed sellers, a figure that dipped to 2.7% in January 2024.
Economic resilience: A robust economy has kept most tenants paying rent, delaying the reckoning for office building owners. The market sees a slow buildup of pressure as companies shrink their office space by 30% to 40% at lease renewals. Lenders, too, are playing a waiting game, opting to extend loans rather than enforce sales in a tepid market, with only a quarter of the $35.8 billion in office loans due in the commercial mortgage-backed securities (CMBS) market last year being paid off in full according to CRED iQ.
Opportunistic investors: Despite the lack of distressed sales, opportunistic investors like Reven Capital, Blackstone (BX), Brookfield (BN), and others are gearing up for the anticipated fire sale. Reven Capital aims to raise $1B in an IPO for office-focused distressed lending. Blackstone and Brookfield are also preparing for distressed opportunities.
➥ THE TAKEAWAY
Holding on: With a forecasted $72.7 billion refinancing gap looming by the end of 2025, the current slowdown in distressed sales might simply be the calm before the storm. Hopes for a market rebound are clashing with the reality of a sector under strain, highlighted by plummeting office values and the costly upkeep of increasingly obsolete spaces. Despite the gloom, the expected flood of distressed sales is unfolding more as a slow leak than a burst dam, and some see a golden opportunity to buy at rock-bottom prices.
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✍️ Editor’s Picks
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Tax exodus: New Yorkers moving to Florida and Texas for lower taxes are discovering diminished savings due to soaring housing costs.
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Doubling down: Over three years, global investors poured $96B into SoCal property, making LA a top commercial market nationwide.
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Market movers: Last month, a number of Manhattan’s top CRE properties hit the market. The Big Apple saw $9.7B in transactions last year, down 55% from 2022.
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From boom to bust: Austin, once America’s hottest housing market, sees home prices fall by more than 11%, leading to a national property cool-down.
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Signs of life: Bill Rudin, co-executive chairman at Rudin Management, joins CNBC’s ‘Money Movers’ to discuss how offices are faring relative to pre-pandemic levels.
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Revitalizing the capitol: Washington, D.C.’s Union Station redevelopment project was approved by the FRA. It’s estimated to cost $8.8B over 13 years.
🏘️ MULTIFAMILY
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Where Brooklyn at? EMP Capital Group secured $109M in construction financing from QuadReal Property Group for two 247-unit Brooklyn towers.
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CEO shuffle: Freddie Mac (FMCC) appoints Michael T. Hutchins, a financial services veteran with 30+ years experience, as interim CEO effective March 16th.
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Revamping lux living: Madison Realty Capital plans to add 65 luxury apartments to a former Neil Shekhter site on Wilshire Boulevard in LA.
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Student housing debacle: Nelson Partners seeks to sell three student housing complexes to deal with $115M in debt and multiple lawsuits from investors.
🏭 Industrial
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Industrial frenzy: During the pandemic, industrial property demand surged, resulting in 1.2BSF created in the U.S., but the numbers show growth is now slowing.
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Phoenix splash: CapRock Partners purchased Chandler Airport Business Park for $45.5M at around $143PSF, with no leases signed.
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Dallas dominates: Dallas-Fort Worth led the nation with 61.9MSF of new industrial space in 2023, attracting diverse companies to the growing metro area.
🏬 RETAIL
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Revamping retail: After recent restructuring under Chapter 11, Party City is now focused on store optimization, entrusting Excess Space to manage real estate.
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Revitalizing NY: The redevelopment of Great Northern Mall near Syracuse, NY, includes a $1B investment in mixed-use, retail, medical, and housing space.
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Crashing crafts: Fabric and crafts retailer Joann (JOAN) files for Chapter 11 bankruptcy with $132M in new funds, aiming to reduce debt by $505M.
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Credit crunch: Record credit card debt may surpass all-time levels, with $1.13T balances in 4Q23 as consumer spending shows mixed signals.
🏢 OFFICE
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Third Avenue Saga: In NY’s office market, Third Avenue struggles with a 29% availability rate, prompting landlords to renovate and explore new markets.
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Domino effect: Last year, legal office leasing activity hit a post-pandemic high, which is expected to carry through 2024.
A MESSAGE FROM CRE DAILY
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BUILDING MOMENTUM
Homebuilder Confidence at Highest Level Since July 2023
March saw builder confidence in newly built single-family homes hit a peak not seen since July 2023.
Why it matters: The NAHB Housing Market Index (HMI) reflects homebuilders’ outlook on single-family home sales based on a monthly survey of ~900 builders. They evaluate present sales, forecasts for the next six months, and buyer traffic. Scores above 50 indicate optimism; below 50 indicate pessimism.
By the numbers: HMI surged three points to 51 in March, marking the fourth consecutive month of sentiment gains, which are at the highest level since July 2023. Most economists expected a score of 48. The index hitting 51 highlights growing confidence in new home construction and a positive outlook for the housing market’s trajectory, particularly amid potential rate cuts later this year and limited housing supply.
Mortgage demand: According to Freddie Mac, the average rate on the 30-year fixed mortgage declined to 6.74% from 6.88% the previous week. This downshift signifies a potential opportunity for prospective buyers to enter the market, as lower financing costs could incentivize home purchases and new construction projects in the coming months.
Zoom in: The HMI revealed growth in all major U.S. regions, with the Northeast, Midwest, South, and West all seeing improvements in their three-month moving averages. Builders are also easing off on price reductions; only 24% reported cuts in March, a notable decrease from December 2023. Meanwhile, the use of sales incentives remains stable, with around 60% employing them to attract buyers.
Impact of shortages: The scarcity of inventory has propelled potential buyers into considering new builds as a viable housing option. Homebuilders have reaped the rewards, with increased interest in new construction projects due to limited availability in the established housing sector.
➥ THE TAKEAWAY
Big picture: Contrasting the recent upswing in single-family homebuilder confidence, multifamily developer sentiment dipped into negative territory in Q4 2023, signaling divergent paths within the housing market. While single-family homebuilders ride a wave of optimism driven by strong demand and easing mortgage rates, multifamily developers face headwinds from tight lending, high development costs, and an oversupply concern.
📈 CHART OF THE DAY
Target has disclosed a selection of the initial new outlets it plans to launch nationwide, marking the beginning of an ambitious expansion strategy that encompasses over 300 physical retail sites.
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