
Challenges Continue for Office Properties
Over the past 6 months, there has been a noticeable decline in CRE deal volume, a trend that is reflected in Q3 transaction data. Nationwide, deal volume fell to $172 billion in Q3, compared to $218 billion last year. The largest decline was in office properties, with central business district office particularly affected. Office transaction volume was down more than 50% year over year. Cap rates for office and retail have started to move up due to higher interest rates and tighter lending markets. According to a recent study from Real Capital Analytics, cap rates for offices hit 6.0% in the third quarter, and market factors imply a further increase to 7.4%. This would result in a 18% decline in office properties’ value. Much of this trend is driven by higher vacancy rates and fewer lease renewals. For example, in Los Angeles, office vacancy bottomed out at 9.5% in 2019 and has now increased to almost 14%. Per CoStar, “Vacancies are at a 25-year high, and sublease space continues to track at record levels.” On the other hand, some markets are remaining resilient. Miami’s vacancy rate is under 10%, new deliveries have been rapidly absorbed, and a large pipeline of new construction is underway.
For transaction volume to recover, two conditions are needed. The first is for the market to come to a consensus on the terminal rate Fed funds rate. Throughout the year, the terminal rate has increased with each successive Fed announcement. Once there is agreement on the endpoint, market participants can make more informed decisions about property values. Second, the current gap between buyers and sellers will have to close. Since capital markets have tightened up, property owners have fewer lending options. There is still capital available, but refinances might require a recourse guarantee or additional equity.
By Matt Kirisits, Vice President at George Smith Partners
If you have an inquiry regarding George Smith Partners’ commercial real estate financing, please contact your GSP representative or Jessica Mania, at (310) 867-2974 or jmania@gspartners.com
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