Stronger job growth is expected to strengthen commercial real estate market leasing activity and improve the outlook for 2003 and 2004, but the extent of the recovery is closely tied to the level of job growth, according to the National Association of Realtors® COMMERCIAL REAL ESTATE QUARTERLY.

The creation of jobs spurred leasing activity in most of the 54 markets tracked in the second quarter, but the pace was still relatively subdued. The NAR analysis covers a wide range of statistics and market rankings for the major commercial sectors including the office, warehouse, retail and multifamily markets, as well as market sector forecasts. It is produced with data provided by Property & Portfolio Research.*

NAR President Martin Edwards Jr., a commercial broker, said net absorption of new and existing space was positive in both the warehouse and retail sectors during the second quarter, reversing a sharp decline in demand during the first quarter. "An ease of development activity resulted in fewer additions of new commercial real estate space in almost all of the 54 metro markets tracked in the second quarter, but the new space outpaced the absorption rate and caused occupancy rates to fall, especially in the office sector," he said. "However, a modest pickup in jobs should allow leasing activity to expand and create positive net absorption in all of the commercial sectors for the rest of the year." Edwards is a partner in Colliers Wilkinson & Snowden Inc., Memphis, Tenn.

David Lereah, NAR's chief economist, said commercial real estate construction is expected to expand more rapidly and boost the supply of vacant space. "Given the rising supply of space, some landlords will offer rent rollbacks and concessions between now and the end of the year," he said. "Even so, stronger job growth, including 1.7 million new office jobs that are projected over the next two years in the markets tracked, should strengthen leasing activity and greatly improve the outlook for both 2003 and 2004. The strength of the commercial real estate recovery will be directly tied to those increases in the job market."

Office Market

For the office market, a slow pickup in jobs resulted in sluggish leasing activity in the 54 metro markets tracked during the second quarter, translating into a negative net absorption of 5.5 million square feet, marking the sixth consecutive quarterly contraction. At the same time, approximately 30.3 million square feet of new office space came online in these markets, a 15-quarter low. The vacancy rate rose to 16.0 percent in the second quarter, while office rents declined an average of 2.4 percent from the first quarter. Construction totaled 28.0 million square feet during the second quarter, up from 21.2 million square feet in the first quarter.

Based on rent growth, the healthiest office markets during the second quarter of 2002 were in the Inland Empire (Riverside, Calif.), up 3.0 percent from a year earlier; followed by a number of areas posting minor declines of less than 1.0 percent, including Long Island, N.Y.; Los Angeles; Washington, D.C.; and Philadelphia.

The momentum in demand for office space is projected to build in the second half of this year, with net absorption of space reaching 30 million square feet. With 1.7 million new office jobs forecast in the 54 markets tracked over the next two years, net absorption is forecast to jump to 139.0 million square feet in 2003 and an addition 99.0 million square feet in 2004. The most favorable prospects for job growth are in Washington, Dallas-Ft. Worth, Los Angeles and Chicago. Vacancy rates should rise to 16.2 percent by the end of this year before dropping to 14.7 percent in 2003 and 13.5 percent in 2004. Average rents are expected drop 5.8 percent in 2002 and another 1.3 percent in 2003 before rising 1.9 percent in 2004.

Twenty-five metro office markets are projected to outperform other markets with above-average occupancies over the next two years, including Washington, D.C.; New York City; Detroit; Orange County, Calif.; Los Angeles; San Diego; Sacramento; Seattle; Baltimore; Miami; St. Louis; East Bay, Calif.; Stamford, Conn.; Charlotte, N.C.; Columbus, Ohio; Richmond, Va.; Cincinnati; Portland, Ore.; Honolulu; Inland Empire (Riverside, Calif.); Norfolk, Va.; Indianapolis; Long Island, N.Y.; Jacksonville, Fla.; and Milwaukee.

Warehouse Market

In the warehouse market, inventory replenishment is helping the sector to mend. Net absorption in the 54 metro markets tracked was 3.4 million square feet in the second quarter, following two quarters of contraction. At the same time, completions of new warehouse space declined to a total of 25.0 million square feet compared with 30.0 million square feet in the first quarter. The vacancy rate rose to 10.2 percent compared to 8.0 percent in the second quarter of 2001.

On average, warehouse rents declined 4.2 percent from a year earlier. Construction starts of new space were 26.9 million square feet in the second quarter, down from 47.4 million square feet in the same period in 2001. Based on rent growth in the second quarter, the strongest warehouse markets were Honolulu, up 1.8 percent from a year earlier, Northern New Jersey, up 1.5 percent, and Kansas City, up 0.8 percent.

With a rebound in the manufacturing sector, demand for warehouse space will climb with a net absorption gain of 31.0 million square feet of space in the second half of the year followed by an additional 133.0 million square feet in 2003 and 90.0 million in 2004. Construction completions are projected to total 39.0 million square feet in the second half of this year, 94.0 million square feet in 2003 and 52.0 million in 2004. The national vacancy rate is seen to gradually rise to 10.3 percent during the fourth quarter, and then shrink to 8.6 percent in 2003 and 7.8 percent in 2004. Warehouse rents are expected to decline an average of 3.6 percent in 2002, then slip 0.9 percent in 2003 before rising 2.6 percent in 2004.

Twenty-one of the 54 metro warehouse markets are expected to experience above-average occupancy gains over the next two years, including Los Angeles; St. Louis; Miami; East Bay; Detroit; Orange County; Jacksonville; Seattle; Kansas City; Salt Lake City; Cincinnati; Indianapolis; Phoenix; Las Vegas; Denver; San Diego; Palm Beach County, Fla.; Milwaukee; San Francisco; Oklahoma City; and Nashville.

Retail Market

Net absorption of retail space rose in all of the 54 metro markets tracked to a total of 9.5 million square feet in the second quarter, ending a four-quarter slide. At the same time, new space completions continued to ease with a total of 27.0 million square feet of new space, down from 32.3 million a year earlier. With available space rising faster than absorption, the average retail vacancy rate climbed to 13.0 percent in the second quarter, up from 10.6 percent in the second quarter of 2001. Rents declined an average 0.4 percent in the first half of this year from a year earlier, although 22 markets reported rent increases. Construction starts totaled 38.3 million square feet in the second quarter, down 11.6 percent from a year ago.

Based on rent growth, the hottest retail markets in the second quarter of 2002 were in Oklahoma City, up 4.2 percent from a year earlier; San Diego, up 4.0 percent; Norfolk, Va., up 3.5 percent; Sacramento, up 3.4 percent; Long Island, up 3.3 percent; Inland Empire, up 3.2 percent; the Washington, D.C., area, up 2.2 percent; Minneapolis, up 2.2 percent; Las Vegas, up 1.8 percent; and Philadelphia, up 1.6 percent from the second quarter of 2001.

In the 54 markets tracked, net absorption in the retail sector is projected at 44.0 million square feet during the second half of this year with the strongest growth in Dallas-Ft. Worth, Los Angeles, Washington and Chicago. Even stronger growth is projected for 2003 with net absorption expected to reach 122.0 million square feet, and another 76.0 million in 2004.

Delivery of new space is expected to total 48.0 million square feet in the second half of 2002, 68.0 million square feet next year and 72.0 million in 2004. The average vacancy rate in the 54 metro markets is forecast to rise to 12.9 percent by the end of this year, then slip to 11.8 percent in 2003 and 11.6 percent in 2004. Retail rents should decline 0.8 percent in 2002, and then rise by 1.1 percent next year and 1.4 percent in 2004.

Twenty-two of the 54 retail markets are projected to rebound more rapidly over the next two years, including East Bay; Boston; New York; San Diego; Orange County; Washington; Minneapolis; Chicago; Phoenix; Los Angeles; Denver; San Francisco; Long Island; Sacramento; Portland; Seattle, Ft. Lauderdale; San Jose, Calif.; Salt Lake City; Austin, Texas; Stamford; and Milwaukee.

Multifamily Market

In the multifamily sector, low mortgage interest rates have drawn people out of the rental market and into homeownership. As a result, there was negative net absorption of nearly 900 units during the second quarter in the 54 metro markets tracked, an improvement from a negative 16,300 units in the first quarter. Completions of new rental units came to 44,400 units in the second quarter, down from 51,500 a year earlier. With completions continuing to outpace absorption, the vacancy rate in the second quarter rose to 6.9 percent, up from 5.3 percent a year ago. Average rents fell 1.0 percent below the second quarter of 2001. Construction starts of new apartments totaled 115,300 units in the first half of the year, down slightly from the year-ago level.

Based on rent growth, the hottest multifamily markets in the second quarter were in Honolulu, up 14.8 percent from a year earlier; Norfolk, up 9.6 percent; Sacramento; up 7.6 percent; Baltimore, up 6.3 percent; Jacksonville, up 5.7 percent; Inland Empire, up 5.5 percent; Long Island, up 4.8 percent; Miami, up 4.8 percent; Los Angeles, up 4.5 percent; and New Orleans, up 4.4 percent from the second quarter of 2001.

The apartment rental market is projected to experience a net absorption during the second half of 42,600 units in the 54 markets, offsetting negative absorption in the first half, then rise dramatically to 161,200 in 2003 and 125,800 in 2004. Completions of new space will total 167,400 units this year, and are expected to moderate to 97,400 units in 2003 and 74,600 in 2004. The average vacancy rate is expected to rise to 7.1 percent by the end of this year before dropping to 6.6 percent in 2003 and 6.1 percent in 2004, with downward pressure expected on rents through 2003 before rising in 2004.

Twenty-two of the 54 metro apartment markets are expected to have the most favorable demand/supply fundamentals over the next two years, including Minneapolis, Chicago, Boston, Northern New Jersey, Orange County, San Francisco, New York City, Los Angeles, San Diego, Detroit, Seattle, Inland Empire, Portland, East Bay, Ft. Lauderdale, Sacramento, Pittsburgh, San Jose, Norfolk, Long Island, Nashville and Honolulu. The National Association of Realtors®, "The Voice for Real Estate," is America's largest trade association, representing more than 800,000 members involved in all aspects of the residential and commercial real estate industries.

In addition, the Realtors® Commercial Alliance, formed by NAR in 1999, serves the needs of commercial members and helps to shape and unify the commercial real estate brokerage and service industry, including the improvement and expansion of commercial real estate boards and commercial information exchanges.

NAR affiliates that support commercial specialists include the CCIM Institute, the Institute of Real Estate Management, the Realtors® Land Institute, and the Society of Industrial and Office Realtors®.

Published: September 18, 2002

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