SURPRISING RESILIENCE, BUT WEAKER DEMAND FORECAST
Early indications of office demand show that certain office-using sectors are resilient. In the U.S., the drop in office-using employment has been relatively moderate and less in its larger sectors such as financial services, technology and law. In EMEA, office-based employment remains stable and likely will drop by only about 1% this year.
Nevertheless, the COVID-19 recession will dampen leasing activity and increase vacancies this year. In the U.S., 50 million sq. ft. of negative net absorption is forecast for the second half of 2020, contributing to the first annual decline in net absorption since 2009. Across the main European markets, take-up likely will decline by as much as 40%—a steeper single-year drop than any during the Global Financial Crisis (GFC). Office demand in APAC has also weakened this year. Regional net absorption likely will fall by 40% to 50% in 2020, with a rebound in regional office leasing inquiries unlikely until midway through H2. However, signs of a pick-up in China are mildly encouraging and provide hope for a broader regional recovery to pre-pandemic levels in 2021.
RISE IN VACANCY; DEVELOPMENT ACTIVITY HALTED
While vacancy rates are rising, social-distancing measures that require more space between workers should limit the steepness of increase. The U.S. overall office vacancy rate is expected to rise by more than 2 percentage points; most EMEA and APAC markets likely will have increases of between 1 and 2 percentage points.
Curtailed development could produce shortages of prime space in the medium term. In part, this reflects disruptions to materials supply chains and site access, but developers increasingly are shelving or downscaling their development plans. The effect will not be immediate, since projects scheduled for delivery this year were already well underway. In the U.S., more than 55 million sq. ft. of new office space will still be added this year, while completions in the main European markets likely will total more than 5.5 million sq. m. compared with less than 4 million sq. m. last year. In APAC, new Class A supply totals 60 million sq. ft. net floor area (NFA), with the remainder of the year’s pipeline likely to be delayed in some major markets such as China and India.
FIGURE 7: FORECAST VACANCY RATE CHANGE, 2020 vs. 2019
Source: CBRE Research, Q2 2020.
SHORT-TERM FALL IN RENTS
In the U.S., average rents are expected to fall by more than 6% this year—the first annual decline since 2010. Hot markets will include some perennial high-growth cities, such as Raleigh, Nashville, Tampa and Phoenix. Washington, D.C. is expected to be the best-performing gateway market due to the federal government’s stabilizing influence as an occupier and to a growing tech sector.
Rental rates in major European cities like London, Dublin and Stockholm are forecast to drop by between 3% and 5% this year. Markets that might buck the trend and record rent increases in 2020 are mainly in Germany and the Netherlands where the impact of lockdowns has been less severe and where vacancy was very tight going into the crisis.
Rents in APAC are expected to fall by between 5% and 10% this year. Rent declines could persist in 2021, albeit at a slower rate. Stronger markets include Japanese regional cities and Taipei, all of which have tightening vacancy and limited new supply. Manila is another city with stronger prospects for rent growth due to healthy demand from IT outsourcing firms.
FIGURE 8: FORECAST RENT GROWTH FOR THE TOP GLOBAL OFFICE MARKETS, 2020
Source: CBRE Research, Q2 2020.
Note: these are full calendar year forecasts.
OFFICES ALIVE AND WELL IN INDIA
Demand for office space in India remains relatively resilient as the country’s outsourcing sector continues to evolve, attracting interest from global multinationals. India offers cost-effective real estate and high-skilled labor in sectors such as financial services, technology and software development. The country continues to evolve as a service-oriented economy, generating strong demand from Indian companies. Additionally, limits on the viability of work-from-home initiatives due to a general lack of home offices—especially for younger workers—will lessen the impact of remote working on office space take-up. However, the shutdown of India’s economy and the imposition of travel restrictions will cause a short term disruption in leasing activity.
MORE FLUID SPACE OPTIONS AHEAD
The COVID-19 outbreak has caused a range of complex challenges for office occupiers, some short-term solutions for which could become permanent as companies resume office-based working with social distancing. Less employee densification in office space will come at a price, as companies modify space and implement technologies that support employee health management. This capital expenditure will come at a time of severe pressure on revenues and likely will be offset by greater flexibility and other financial concessions from landlords.
The work-from-home experiment has proven technically possible, but at what cost to corporate culture, collaboration and innovation? Any increase in remote-working represents a headwind to office demand, with wider ramifications in terms of location priorities for investors and occupiers.
Overall, in addition to marking a clear shift in the cycle, 2020 will be a watershed year in the changing role of the office as a high-quality, point-of-contact destination in a far more fluid portfolio of space solutions.
FIGURE 9: OFFICE LEASING IN INDIA, 2015-2019
Source: CBRE Research, Q1 2020.