OFFICE MARKET ASSESSMENT
Houston’s office market fundamentals continue to face downward pressure from limited new leasing demand and the lingering effects of the pandemic, but there are encouraging signs that the rate of occupancy losses is slowing, and pent-up activity is expected to emerge in the coming quarters.
The office sector posted negative absorption for the seventh straight quarter with 606k SF of direct space becoming vacant in Q3, bringing the YTD total to nearly 2.1 MSF of red ink. This contraction combined with the delivery of new product, has pushed the overall direct vacancy rate up 170 bps to 23.7% since year-end 2020, reaching its highest level since the 1980s.
The Class A sector has registered 550k SF of red ink YTD but is showing signs of stabilization after recording 2.6 MSF of occupancy losses in 2020. However, Class B properties continue to face challenges with 1.5 MSF of occupancy losses YTD as recent business contractions and a flight to quality trend continues to impact the sector.
Leasing volume totaled 2.4 MSF in 3Q21 but remains 45.8% below the pre-pandemic quarterly average from 2017-2019. On a positive note, tour activity has risen due to increased business confidence but has yet to translate to notable deal volume.
As pent-up demand from the pandemic continues to flow back into the market, office demand is poised to grow in the coming quarters and positively impact the market since those users that postponed decisions are evaluating their future space needs with upcoming expirations.
Sublease availability declined by 468k SF to 7.6 MSF in 3Q, which was its first quarterly decline since the onset of the pandemic. However, additional sublease space could become available as companies formulate return-to-office plans and reduce their office footprint.
Landlords continue to hold face rates relatively steady but the gap between asking and effective rates has widened as landlords are offering higher concession packages, such as rental abatement and tenant improvement allowances, as a way to attract and retain tenants.
The full impact of hybrid and remote work strategies have not yet been felt but many occupiers are currently exploring ways to optimize their office footprint and seeking more flexible lease terms and obligations.
Developers have delivered 653k SF of new product YTD with an additional 2.3 MSF of new product slated to deliver by year-end. As a result, direct vacancy levels are expected to climb even higher through the end of the year, but there are increased signs of stabilization as we move into 2022.
As the economic recovery continues and the office sector enters its much-anticipated recovery in the year ahead, trophy and Class A buildings in prime locations are expected to outperform the broader market and experience a faster recovery at the expense of older office buildings.