In the past 12 months, the commercial real estate market has fallen victim to climbing vacancy rates, eroding rents, scads of sublease offerings and an unknown amount of shadow space looming over any projected recovery. Despite those negative fundamentals, industry watchers say the investment sales market in the Boston area remains robust [see related story, Page 10]. Some brokers say it’s the worst market for landlords they’ve seen in years. Others are optimistic that 2004 will bring stabilization, positive space absorption and even industry growth.

Experts have told their peers to “seize the moment” and “stick to the basics” in the midst of the market slump that offers little hope of a quick recovery. Another mantra being bandied about in the field is “survive ’til ’05,” a tenet that puts into perspective the difficulties of the year past and the subdued expectations for the year to come. It’s been a tough few years for Massachusetts – layoffs at companies such as Polaroid, Fidelity and Nortel Networks have cost the state 130,000 jobs since 2000. What’s the good news? Some say that the job market has stabilized, and some companies are even beginning to add a small number of new employees, which ultimately could increase demand for office space.

The past year also witnessed a few major business shakeups that commercial real estate players are watching closely. The $10 billion merger of Manulife Financial Corp. and John Hancock Financial services, which occurred shortly before the FleetBoston Financial and Bank of America merger, left questions about how the deals will affect the Boston office market. It’s still unclear if, or how much, space will be shed. The mutual fund industry had a shakeup of its own – earlier this month, the state U.S. attorney’s office launched a probe into alleged trading abuses within the industry, including the Boston office of Prudential Securities. The combined effect on the commercial market may not be known until well into 2004.

“We got caught off guard with the two big mergers and the mutual fund problems,” said William P. Barrack, principal of the Boston office of Spaulding & Slye Colliers. “We don’t want the clouds in the sky to form the perfect storm, if you know what I mean.”

But despite such developments, Barrack is optimistic. “The [rental] rates clearly aren’t trending where owners would like to see them but there are deals being done, and they’re big deals.”

Large Boston lease transactions topping the list for 2003 included Thomson Financial, which renewed its 380,000-square-foot lease until 2014 at 22 Thomson Place in the Fort Point Channel neighborhood; law firm Goodwin Procter’s 360,000-square-foot renewal in Exchange Place at 53 State St.; law firm Nixon Peabody’s move to 100 Summer St. for 167,000 square feet; and accounting giant PricewaterhouseCooper’s 291,000-square-foot lease deal at 125 High St.

For the first time in two years, the central business district in Boston registered 185,000 square feet of positive absorption by year-end, according to the Boston office of Cushman & Wakefield.

“That’s something that I think signals a reversal of the past two years,” said Jay Driscoll, senior director of the Boston office of Cushman & Wakefield.

The Back Bay office market also showed significant signs of improvement during the fourth quarter of 2003, with overall vacancy rates declining to 10.74 percent from 12.06 percent in the third quarter. The Back Bay Class A office market rebounded during the fourth quarter after experiencing increasing vacancy rates since the end of last year. The overall vacancy rate decreased to 11.29 percent after hitting a two-year high of 13.16 percent in the third quarter of 2003, according to the Boston office of Richards Barry Joyce & Partners.

“Psychologically we saw a lot of businesses say, ‘we’re not going to stand on the sidelines forever, despite a bumpy economy we have to go ahead and run our business the best we can.’ In 2003 we saw a major commitment to the lease side and the sell side,” RBJ President Robert B. Richards said. ” … There are positive signs that not everyone is stuck in neutral or even reverse.”

While reduced rental rates for office space may have made landlords cringe in 2003, the tenant-favoring market produced a “flight to quality” in which several companies upgraded by signing leases in better or newer facilities for a cost comparable to their previous lease in more modest surroundings. Even nonprofits got in on the deal, taking the opportunity to move out of the suburbs and into the city, often gaining additional space, amenities and proximity to public transportation.

Positively Absorbing

The Interstate 495 North market experienced a dramatic increase in activity and commitment, Richards said. ZOLL Medical signed a 155,000-square-foot lease at 269 Mill Road in Chelmsford and SynQor signed a 120,000 square foot deal at 155 Swanson Road in Boxborough.

Raytheon Co.’s lease for 440,000 square feet of space at 225 and 235 Presidential Way near the intersection of Interstate 93 and Route 128 in Woburn topped the list of the largest transactions in a deal credited with decreasing office vacancy from 35 percent to 31 percent in the suburban area.

“The [Route] 128 and [Interstate] 495 markets have been struggling with increases in vacancies all year,” said John Lavender, director of research for Richards Barry Joyce & Partners. “The fourth quarter experienced a turnaround with some big leases. We did see some softening with the vacancy rate at 27 percent but positive absorption of 80,000 square feet was something that’s extremely encouraging.”

The I-495 office market remained stable in 2003 with vacancy rates at around 25 percent. For the fourth quarter the overall vacancy decreased slightly to 24.95 percent, according to Richards Barry Joyce & Partners. The I-495 North market made positive gains during the fourth quarter while the I-495 South market stabilized with the overall vacancy rate standing at 15.88 percent, a slight increase from 15.26 percent in the second quarter of 2003.

‘Buyer’s Market’

In his annual year-end “Bings and Bongs,” Chairman George J. Fantini Jr. of the Boston office of Fantini & Gorga/iCap Realty Advisors offered some advice for holiday season based on trends that developed in 2003. A bong? Developers carrying high-priced suburban office land. “Avoid these office parties this holiday season. In this slumped suburban office market, they’ll be serving bread and water at their parties,” he wrote.

Due to high vacancy rates, it will likely be a long time before anyone develops a new building in the suburbs, Fantini said.

“The office market in the suburbs is in pretty disastrous shape,” he said. “Certainly people are hoping that it’s bottomed out but the jury is not in yet. The impact will be pretty nasty on owners … Anyone who went off to develop land there is stuck with it.”

The suburbs also were home to a new phenomenon in 2003 – a tremendous range of asking rents for buildings that contain similar amenities and are often in the same neighborhood. Fantini said that a first-class space in Waltham may be marketed at $12 per square foot while another, right across the street or around the block, similar space is priced at $24 per square foot or more.

While it’s been a grim year for the overall Greater Boston commercial real estate market, some forecasters project that most of the markets at least bottomed out and in many cases exhibited signs of recovery by year-end. That was not the case in Cambridge, which the Boston office of CRESA Partners says has yet to hit rock bottom.

There are isolated examples of increased activity, said CRESA Partners principal Christopher Crooks, such as the Chickering Group’s recent lease of 55,000 square feet at One Charles Park. However, most office transactions are in the 5,000- to 10,000-square-foot range, and many are lease renewals and restructures rather than tenants new to the market.

A few larger deals materialized in the biotech market in the 40,000- to 50,000-square-foot range. Rent for lab space, a Cambridge mainstay, is averaging in the low $40 range, while lab vacancy is tracking at 18 percent. While most start-up companies tend to flock to Cambridge to be near the Massachusetts Institute of Technology, the city’s medical and research centers and universities, other well-established firms are gravitating to Route 128, according to Crooks.

“For life science companies in the market with [space] requirements this year, it appeared that for every transaction they signed in Cambridge, they signed another in Watertown or along Route 128.”

CRESA Partners reports that 2.8 million square feet of direct office and lab space is available in the Cambridge market, with an additional 1.3 million square feet in sublease space available.

“It remains a buyer’s market, so we encourage tenants to use their leverage with landlords in renegotiating their leases,” Crooks said.