Friday, January 27, 2017

The Suburbs Office Take the Spotlight

Ian Anderson, Director of Research and Analysis

Many downtown office markets throughout the country continue to "run on all cylinders," with vacancies hovering near their lowest levels in years and healthy rental growth. Downtown Philadelphia is no exception.

But, after an earlier uptick in supply, most downtown markets have begun to stabilize. Without this early development - if any - the suburbs have enjoyed stronger occupancy gains over the last two years. Again, Philadelphia is no exception. 

Over the past year, the Suburban Philadelphia office vacancy rate dropped from 18.7% to 17.0%. In contrast, Downtown Philadelphia's vacancy rate increased from the low thus far in this cycle of 10.5% in Q4 2015 to 11.0% at the end of 2016 as FMC Tower was delivered. 

The strength in the suburbs has been broad, however, and not limited to the top-tier of space. In fact, even if you remove our inventory of Trophy Suburban office buildings from the statistical set, we still see vacancy declining at a similar pace as the entire inventory.

Any softness in the suburbs has been limited to a few submarkets that can't seem to gain traction, particularly, the office submarkets that straddle the Route 611 corridor (Horsham/Willow Grove, Lansdale/Montgomeryville, and Jenkintown). Excluding these submarkets, occupancy gains in the suburbs look positively robust. 

Nonetheless, the Suburban Trophy office market continues to do well. At the end of 2016, the vacancy rate reached the lowest point of this cycle, 5%. The asking rate for the 408,000 sq. ft. of vacant trophy space left averaged $34.61 per sq. ft. With trophy asking rates at such levels, and space already so tight, the spectre of lower vacancy in this segment in the future seems slight. 

The larger outlook for suburban office continues to be positive. Our reasoning is the same as it has been over the last couple of years: a fairly confident assumption of more jobs being created and no significant, new space being built, resulting in increasing occupancy. At the same time, the effects of office occupiers placing more employees in less space will continue to be a slight drag on occupancy gains.

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