Leasing on the Rise as Employees Slowly Return to the Office

People are returning – slowly but surely – to physical offices, and that’s causing leasing activity to pick up for the sector despite increasing headwinds for the industry and the overall economy.

“We certainly have seen a bit slower, people coming back to the office than we expected,” Spencer Levy, Global Client Strategist and Senior Economic Advisor at CBRE, told CNBC this week. And that means “people are trying to anticipate not only when people will come back but when will greater leasing activity come back,” he said.  ”I would say the good news is we have actually seen a significant pickup in leasing activity versus the somewhat disappointing amount of people physically coming back to the office.”

The return-to-office movement has been slower in the US, Europe and Australia, according to Levy, than in other parts of the world like Asia. Nevertheless, “people are coming back,” says Levy.

Levy also told CNBC the office sector will likely benefit from an “unusually large” amount of lease expirations. He notes that while cities like New York and San Francisco have lagged behind other Southern and Sun Belt markets like Dallas, Austin, Phoenix, and markets in Florida that have been faster to adopt return-to-office, they’re still improving. In particular, Manhattan leasing in August was at its highest level since December 2019. And the city’s office occupancy level is currently 35.3%, based on Kastle’s latest weekly survey.

Levy also noted that the tenant profile of companies who have adopted the strongest return to office plans varies: some, he says, are in favor of a physical return for regulatory reasons (think financial services firms) while others — like law firms and accounting firms — utilize a more apprenticeship-type of model that lends itself naturally to in-person collaboration. (Others, like Goldman Sachs, have reportedly told workers to return to the office five days a week, according to the New York Post.)

The market is also more broadly seeing a greater number of tenant improvement allowances and other incentives, he notes, including common area flex spaces, more outdoor amenities, and a greater focus on sustainability.

A CBRE analysis of 12 major US metros this summer observed an ongoing “flight to quality” as occupiers work to lure employees back to physical offices. In reviewing more than 2,700 lease transactions across 12 large office markets since 2019, CBRE found that average effective rents for top-tier properties increased by 3.8% in 2021 and by 6.7% so far this year. On the other hand, average effective rents for lower-tier properties slumped by 3.4% last year and by 1.1% so far this year.

Levy also weighed in on rising interest rates, which continue to pose headwinds for the commercial real estate industry and the broader economy.

“Rising interest rates have raised the cost of capital, and by raising the cost of capital, it has caused cap rates on office buildings to rise,” Levy told CNBC — but because interest rates have risen along with inflation, the cost of CapEx have gone up as well, both for individual assets and new construction, he says.