Boston’s John Hancock Tower was sold to Broadway Real Estate Partners last year.
A flight to quality for office space in new buildings has pushed the vacancy rate up following a record year for U.S. commercial real estate investment, according to a pair of just-released studies.
“Job growth has been fueling the demand for space, notably in the office sector,” said David Lereah, chief economist at the National Association of Realtors, in its latest Commercial Real Estate Outlook. “Even so, some tenants are not filling vacated space as they move to higher-quality new space, contributing to a modest gain in vacancy rates. Office, hotel and industrial properties continue to be the most sought-after commercial sectors for investment.”
The prediction for higher office vacancies comes on the heels of a record $271 billion investors channeled into commercial real estate last year, a 32 percent increase over 2005 levels. Manhattan, N.Y., the largest U.S. market, experienced a 61 percent growth in transactions. And according to the Global Real Estate Capital Report released by Jones Lang LaSalle, record sales in the nation reflected activity around the world as real estate investment reached $682 billion in 2006, a 38 percent surge over 2005 and nearly double the volume in 2003.
Among the biggest deals in Boston last year was the sale of the John Hancock Tower, the city’s tallest skyscraper, to a New York real estate firm as part of a $3.3 billion deal for a package of buildings across the nation. The 60-story tower, with 1.75 million square feet of office space, was sold to Broadway Real Estate Partners.
In October, Gale International, a New York-based commercial real estate developer and investor, and Vornado Realty Trust, a New York-based real estate trust, signed a joint agreement to redevelop the Filene’s site in Boston’s Downtown Crossing. Vornado purchased the buildings from Federated Department Stores for $100 million. Expected to open in 2010, the project will be the largest historic renovation in the city’s history with 250 hotel rooms, 130,000 square feet of retail space and 132 housing units.
The dual studies confirmed that while residential sales and prices fell last year, the commercial market picked up steam as investors poured cash into office buildings around the world. While the Big Apple ruled as the largest investor with $15 billion in overseas transactions last year, Boston’s cross-border speculation soared by 81 percent to $4.9 billion, a fivefold increase from 2005, the Jones LaSalle study said.
“Given the liquid and transparent real estate market in the [United States], we continue to see record-setting capital inflows from overseas investors into high-quality product in high-performing markets,” said Steven Collins, managing director of Jones Lang LaSalle’s International Capital Group. “With the favorable exchange rates for foreign investors, we expect U.S. properties throughout the major markets – and specifically in Manhattan, [Washington, D.C.], Boston, Los Angeles and Chicago – to attract strong international investor interest in 2007 with little end in sight.”
Of the report, titled “Global Risks and Returns: Navigating Tomorrow’s Property Markets,” Jones Lang LaSalle Chief Executive Officer of European Capital Markets Anthony Horrell said that returns will continue to be attractive as investor interest in established markets remains strong and emerging markets get deeper.
“The world’s real estate markets are awash with capital, with $5 of investment chasing every $1 of product,” said Horrell. “We anticipate another strong investment market in 2007.”
‘Broad Consistency’
Cynthia Chandler, chairwoman of NAR’s Commercial Alliance, said the record investment in commercial real estate last year was based on sound fundamentals.
“Investors poured funds into commercial real estate at unprecedented levels in 2006, underscoring the value of portfolio diversification into real property,” she said. “We see rental rates rising with fairly broad consistency across most market areas.”
Most of the new commercial space is build-to-suit or has significant pre-leasing in place, the NAR report said. The expanding new supply will modestly raise office and industrial vacancies through the end of the year, the survey noted.
The NAR forecast for five major commercial sectors includes analysis of quarterly data for the major metropolitan areas. The sectors include the office, industrial, retail, multifamily and hospitality markets. Data were provided by Torto Wheaton Research and Real Capital Analytics.
In the nation’s office market, office vacancies are expected to rise to 14 percent by the end of 2007, from 12.6 percent in the fourth quarter of last year, NAR said. Annual rent growth in the office sector is forecast at 3.2 percent in 2007, following a 5.2 percent gain last year.
Net absorption of office space in 56 markets tracked, which includes the leasing of new space coming on the market as well as space in existing properties, is projected to be 21.9 million square feet this year, down from 76.2 million in 2006.
Vacancy rates in the industrial sector should average 10 percent by the end of the year, up from 9.4 percent in the fourth quarter of 2006, NAR said. Annual rent growth is likely to be 2.3 percent by the fourth quarter, up from a 1.4 percent annual gain in the fourth quarter of 2006.
On the retail side, the NAR survey said consumer confidence continues to rise at a fairly slow pace, but a sluggish housing market and economic concerns are dampening consumer spending and, possibly, demand for retail space.
Vacancy rates in the retail sector will probably remain flat at 8 percent in the fourth quarter of 2007 compared to the same quarter last year, NAR said. Average retail rent is expected to grow a modest 1.1 percent this year, following a 3.9 percent gain in 2006.
Retail transaction volume declined 7 percent in 2006 to a total of $46.9 billion, with much of the decline happening in regional shopping centers, the report said. But strip malls, drug stores and big-box retail centers saw large gains. At the same time, pricing for retail space rose 13 percent in 2006 to an average of $168 per square foot.
In the apartment rental market, multifamily housing vacancy rates are forecast at an average of 5.9 percent at the end of 2007, which would be unchanged from the fourth quarter of 2006, NAR said. Average rent is likely to rise 2.8 percent in 2007, following a 4.1 percent increase last year.
As the number of condominium conversion dwindles in most markets, multifamily investment is normalizing, according to NAR. Condo converters accounted for $30 billion of $88 billion in multifamily transactions in 2005 but were down to $9 billion out of $87.4 billion in 2006. Some converted projects are returning to the rental market and investors are now focused on income appreciation and improving fundamentals.
Hotel occupancies nationwide are expected to average 68 percent in 2007, about the same rate as last year, the NAR report said. Revenue per available room is expected to reach $82.30 this year, up from $78.40 in 2006. A record 45,500 hotel rooms are scheduled to be added to the inventory in 52 markets tracked this year, compared with 22,000 in 2006.
