Boston Office's Q2 Nose-Dive: Blip Or Downturn?
Boston's office investment sales may have plummeted, but analysts of the city's office market are not ready to sound the downturn alarm.
Boston saw a 48% drop in office sales volume in Q2 2017 from the previous quarter, and 38% year-over year, according to a Yardi Matrix report. The average price per square foot dipped 11%, leading some to question if Boston’s post-peak pricing moment has arrived.
“Absorption for Class-A space is Boston’s one Achilles' heel,” Yardi Matrix Director of Business Intelligence Doug Ressler said. “It is a question of if it comes back as strong as it did before.”
Only eight assets over $5M and larger than 50K SF were sold in Q2. Boston’s market average per quarter is usually 19 transactions like these. While Class-A inventory accounted for 63% of assets traded, this has been a cycle driven by Class-B space.
Tech tenants, and even blue chip companies, have preferred low-rise, loft-style offices to glassy high-rise towers. While Fort Point has been the poster child for this type of office, even Back Bay has seen most of its tenant activity in Class-B spaces.
“Class-B is a buy for me,” Ressler said.
Class-B property owners recognize this and have renovated their properties to compete heavily with Class-A office space. A five-building, Class-B downtown portfolio purchased by DivcoWest in 2014 was rebranded as the Hive. The company sold the repurposed property to AIG at 95% occupancy for $175M in May.
Even if the office investment market in Boston cooled by $1B from Q1, Ressler is not ready to say the long-awaited economic downturn is here.
“The Greater Boston economy is outperforming the national economy,” he said. “You also have key hitters like Amazon and GE, which will increase the metric as they come on board.”
Boston’s diverse economy makes it less susceptible to a downturn, and Ressler said the market has always been seasonable. An abundance of active tenants and recent lease signings like Amazon in Fort Point are giving his firm reassuring data points. It was reported in April that 250 tenants were actively looking for offices in Boston, but most were seeking space smaller than 25K SF.
“I think you are going to start to see that number pop back up,” Ressler said. “Even the Boston Globe moved into a 75K SF space downtown.”
While the Boston CBD saw negative absorption last quarter, suburban markets in the region experienced growth, which the report attributes to soaring costs within Boston city limits. I-495 North’s 20.9% vacancy rate is a five-year low, according to Cresa Boston principal Joe Doyle. The I-495 submarket has performed better in the last 18 months than it has historically.
“495 North improves when vacancies drop and rents increase along Route 128,” Doyle said. “There’s a ripple effect.”
Tenants sometimes see renewal prices on Route 128 increase by 20% to 30%. To keep rent the same, they explore the 495 corridor, Doyle said. While there has been a strong performance streak to the north, a recent drop in tenant demand and rise in vacancy rates along Route 128 has Doyle questioning the sustainability of 495’s market condition. Further price reduction means fewer tenants will have to leave Route 128.
“If 495 is going to continue to improve, it’s going to have to come from organic growth from tenants already there,” Doyle said.
Ressler recognizes the suburban market is more positive than central Boston right now, but he stands by all signs pointing to a righting of the ship. Strong employment and continued corporate interest in locating to the urban core keep him optimistic.
“Based off the criteria [that] we look at, we believe it is going to be much more bullish toward the end of 2017,” Ressler said.
