BOSTON-While the economy is showing early signs of recovery, the city’s real estate market will continue to face challenges down the road, according to the third quarter market report released by Meredith & Grew.

The report indicates that increased funding in technology and slight improvements in the stock market’s performance demonstrate that the economy is heading for a rebound, but the city’s commercial real estate market will not follow suit as quickly as its turnaround will be directly linked to sustained job growth in the area.

According to the report, there was positive absorption this quarter for a year-to-date net absorption of 347,849 sf. Overall vacancy rates, however, at 16.2%, are relatively the same as they were throughout the year and are up from 14.2% at the end of 2002. Interestingly, the report points out that the vacancy rate for tower space on floors 20 or above is only 6.4%, indicating what it calls a “two-tiered market” with class A high-rise space experiencing different dynamics than the general market.

The city continues to have about 1.7 million sf of sublease space available, but the amount of sublease space has been reduced by nearly one million sf since the end of 2002 as short-term leases convert to direct space and tenants take advantage of the deals sublease transactions can offer.

Not surprisingly, rents have continued to decline with the average asking rent down from $36.20 last quarter to $34.70 this quarter. The report notes that as rental rates continue to drop, concessions are growing with average tenant improvement allowances at $40 to $60 per sf and the average number of months for free rent ranging from six to nine to address lease overlap issues.

One positive note in the market is the velocity this quarter with over 3.3 million sf of transactions recorded and another 700,000 sf pending. The report points out that two new office towers are coming online this year: 33 Arch St. and 100 Cambridge St. The 650,000-sf Arch Street building has no commitments in place while the 570,000-sf Cambridge Street building currently has two thirds of its project leased up.

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