Forces Align Against 2009 Recovery

BOSTON-Conditions in the office market will likely deteriorate for the rest of this year, so the hope is for recovery next year, according to a new report. The report and outlook by Boston-based CBRE Econometric Advisors, formerly CBRE Torto Wheaton Research, forecasts that “there is simply no evidence to suggest anything but further deterioration” in 2009. For the year, 2009 gets an “F” as a grade, it says.

The office outlook, authored by economist Arthur Jones, says that the hope for the second half of 2010 is that a more viable job market “should allow employers to start chipping away at space inefficiencies built up over the past 18 months.” While demand will remain weak, “We could start to see the kind of green shoots that over the past few months have been widely talked about in the broader economy,” it says.

The focus on jobs has been a recurring theme with economists examining the office market. For example, a report by Grubb & Ellis senior vice president and chief economist Robert Bach noted recently that the strength of the office market recovery “will depend on the strength of the labor market recovery.”

The CBRE Econometric Advisors report makes a similar point, saying that the prospects for recovery hinge on the job market more than anything else. It points out that the most recent jobs figures still show employers laying off workers, although at a decreasing rate. “These workers are the backbone of office demand,” the report states.”Even after the labor market turns the corner, it will still face a long road.”Considering that the last time employment was this low was in 2004, the economy has shed five years of job market gains in the past 18 months.

In the CBRE Econometric Advisors report, Jones explains how the office market has weakened throughout this year as a result of those job lossses. “Since the year began, employers have thrown in the towel, shedding both workers and space,” the report says. The office vacancy rate has risen 1.5% to 15.5% since the end of 2008, and since the generally accepted range for a healthy vacancy rate is roughly 13%, “pricing power shifted dramatically away from landlords during this period, and now rests firmly with tenants,” the report says.

This year’s performance thus far contrasts with the market’s performance in 2008, when it was resilient through much of the year, according to the report, but most of that resilience was “due to the recession’s being perceived as mild in comparison to those that preceded it.” That prompted tenants to take a wait-and-see approach, in which they held on to space. But after the recession’s full force struck in the second half of 2008, job losses accelerated and the office market finally succumbed to those forces. As it stands now, the demand for office space is as weak as it’s been since 2001, according to the CBRE Econometric Advisors report.

One result of that weakness has been a tentative leasing market, both on the part of tenants and landlords, according to the Grubb & Ellis report. “The recession and weak corporate profits are prompting many tenants to choose short-term extensions as their leases expire instead of new, five-year leases,” the report states.

It notes that although tenants geneerally prefer the flexibility of a shorter commitment and many landlords who would prefer to lock in tenants for longer periods, not all landlords favor longer terms. Some building owners think three years is the optimum length because, “They believe that rental rates will begin to rebound before the five-year terms are up, and they want to be in a position to raise rents as soon as market conditions permit,” the report concludes.