OFFICE VACANCIES RISE, CUTTING SALES OF BUILDINGS

In this year’s third quarter, the proportion of office space standing vacant in San Francisco reached 20 percent, compared to 6.3 percent before the COVID War and the highest since 2003. New York City’s share of empty offices was 13.4 percent, also close to a 20-year record.

The greatest number of empty spaces are in Texas, where office blocks in Austin, Dallas, and Houston are seeing a quarter of their square footage empty of tenants.

Austin’s vacancy rate for the period was 24.2 percent, virtually double the 12.9 percent in 2019’s third quarter, Moody’s reported. Houston sank to the bottom of 79 markets Moody’s monitors, with a 26.4-percent vacancy rate.

Developers in the state took advantage of 1980s tax rules that incentivized construction during a time when lending policies were loose. The amount of office space surged, as it did again in the late 1990s.

“It is a glut of buildings across the U.S., which has been decades in the making, [that] explains why the country has long had much higher vacancy rates than Europe or Asia,” The Wall Street Journal noted, echoing a key factor Gerald Celente often has pointed to.

That level of vacancies has soured investors on the sector. Sales of New York City office buildings cratered 60 percent in the third quarter, data service CoStar said. In the third quarter, San Francisco’s office buildings drew less than a third the investment the market averaged before the COVID War.

Rental rates are down, maintenance costs have risen with inflation, and mortgage interest rates have more than doubled over the past year. Also, many owners are not yet ready to accept the lower valuations on their buildings that the market is imposing. 

“There is still a divide of expectations between sellers and buyers,” CoStar analyst Mark Stansfield told the WSJ.

TREND FORECAST: The office sector’s collective value will decline by at least 20 percent before the market begins to stabilize and could plunge as much as 40 percent in a worst-case scenario that includes a global recession.

The number of defaults on loans against office properties will continue to rise at least through mid-2024 as interest rates remain high and more than $200 million in loans come due.

Banks have been stockpiling cash against bad loans in commercial real estate. To protect that cash, lenders will be eager to negotiate with borrowers to keep loans alive in some form.

However, banks will begin to draw down those reserves later this year and into 2024 as defaults mount.

As we have often said, older office properties—as much as 25 percent of current stock worldwide—will become impractical to maintain amid current high interest rates and rising costs for utilities and services.

The economic dangers ahead for the banking system, cities that are losing needed tax revenue, and the numerous businesses closing as fewer people commute are barely reported in the mainstream media. We forecast that as interest rates remain high, the number of defaults will increase, especially on floating loans which will, in turn, take down many small and medium size banks—and as they go out of business the big banks will get bigger.

Cities will have little recourse as their property tax revenues shrink with office buildings’ valuations. As a result, municipal governments will be forced to cut services, making cities even less desirable places to live or work, and setting off a downward spiral in which a declining quality of life and shrinking tax base erode each other.

For more details on the Office Building Bust and its fallout, see our past articles, including:

• “Commercial Real Estate in a Tailspin” (20 Oct 2020)
• “Deloitte Abandons More London Office Space” (26 Apr 2022)
• “GM Softens Back-to-the-Office Requirement After Worker Backlash” (4 Oct 2022)
• “New York City’s Workforce Sharply Shrinking” (24 Jan 2023)
• “Office Occupancy Half of What It Used to Be” (7 Feb 2023)
• “Study: One Billion Square Feet of U.S. Office Space Will Be Empty by 2030” (28 Feb 2023)
• “Remote Work Could Slash Global Value of Office Buildings by $800 Billion” (18 Jul 2023)