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BOSTON-Demand for office space will rebound after the economy begins to recover, suggesting that new construction will be supported in most markets over the next three to five years. That is one of the conclusions of a new report from Boston-based Torto Wheaton Research, which notes that an emerging question over the past few months among real estate professionals has been the fate of office development in the wake of the current recession.

The Torto Wheaton report, authored by economist Arthur Jones, says that, “As bad as things seem today, the tide will turn for the economy and the office market.” As the report explains, “Once the financial crisis fades and the recovery begins, it will be a question of fundamentals: the balance of supply and demand, with the bottom line being the real rent level—the main determinant in the decision to build.” For now, according to the report, developers will face tough times in the next few years.

Among the biggest obstacles to development will be a lack of capital and the continued job losses in the industries that generate demand for office space. The report cites the Fed’s Senior Loan Office Survey, which shows that more than 80% of loan officers reported tighter lending standards through the end of 2008. In addition, more projects that were in the construction pipeline have been deferred.

Jones’ report notes that one respect in which this downturn differs from the previous recession is that rent declines in the 1990′s halted new development, the result of “a severely overbuilt office market.” Once we pull out of this recession, “Demand will rebound and it is doubtful that rent levels would fall so low as to fail to support construction,” the report states.

In the meantime, construction is continuing on some office projects despite the downturn. That makes sense, according to the Torto Wheaton report, because for projects that already have financing, “It is more cost-effective to push forward, as a half-occupied building generates more revenue than does a hole in the ground.”

For 2010 and beyond, “the die is pretty much cast” in some markets, such as New York, Houston and Charlotte, because projects are already under way that have completion dates as far out as 2013, the report points out. In other markets, development pipelines will likely have cleared by 2010 and newer projects will likely be put on hold.

Torto Wheaton observes that 2008 “was not as horrible a year for landlords as it may have seemed on the surface,” and that deals locked in through the first half of the year were enough to support rent growth nationwide. But the next two years, “will not be as kind,” it says, because the recession will continue to work its way through the office market.

When the recovery arrives, however, it is unlikely to produce a traditional building boom, because that would require “a significant economic bounceback,” according to the forecast. Such a bounceback is “something that is not likely in the offing, given underlying economic and demographic trends.” But that’s not necessarily bad news, the report points out. “After all, a slow and steady supply stream may help promote more stable revenue streams and this is good news for office investment over the longer term,” the report concludes.

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