Damn The Pandemic, Full Speed Ahead: U.S. Office Absorption Turned Positive In Q4

For the first time since the pandemic began, the office real estate market in the U.S. had some unreserved good news in the fourth quarter.

Nationwide office net absorption turned positive in Q4 for the first time since 2019, according to quarterly reports from brokerage houses CBRE, JLL and Lee & Associates. Though Cushman & Wakefield data showed U.S. offices still posting negative net absorption in Q4, it was easily the smallest increase in vacancy the company’s data showed since the beginning of the pandemic. Bolstering the sector’s outlook further is that the positive trends happened despite Q4 seeing the tail end of the delta variant and the emergence of the omicron variant.

Despite the coronavirus continuing to wreak havoc on office-using companies’ plans to bring their employees back to in-person work, many of them pushed forward with laying out the future of their office usage anyway, the reports found.

“We are just as busy now as we were pre-pandemic, and a lot of our clients are saying, ‘We’ve delayed these decisions for 18-24 months, and now we want to do something,’” said Ernie Jarvis, founder and CEO of tenant-focused brokerage Jarvis Commercial Real Estate. “So the planning stage is happening now.”

The southeast and southwest regions of the U.S. led the way in office leasing, with the two regions even posting positive absorption in C&W’s data. In addition to being among the most popular destinations for people moving cities in the past few years, the Sun Belt benefited from largely consisting of states that were less restrictive in their Covid policies, said Jeff Shaw, senior managing director of Bridge Investment Group and CEO of Bridge Commercial Real Estate, the former’s office-focused subsidiary.

Company size played a role in how quickly potential tenants move to solidify plans for an office return, which in most cases is a prerequisite for signing a new lease. Some have moved forward on lease negotiations in parallel with making decisions about things like desk density and common spaces, Shaw said, but the majority of tenants that signed leases in Q4 had solidified their plans regarding office usage, including how many days a week they will require employees to spend in person.

“I can’t imagine negotiating final lease terms without virtually all of those elements being made clear for an organization,” Jarvis said.

If one believes that larger organizations are less nimble in finalizing office plans than smaller ones, then Q4 absorption numbers are doubly encouraging: Leases of 100K SF accounted for 44% of leasing activity in Q4 after experiencing a 46% increase from Q3, according to JLL data. Smaller leases were more prevalent early in the year, but even so, some corporate decisions on office usage are being made because leadership can’t wait anymore, Jarvis and Shaw agreed.

“If large companies are coming up to the end of their lease term, they have to react; they don’t have a choice,” Shaw said. “Some companies have decided to relocate and need to start executing their business plan.”

If a company has settled on a plan for in-person work but still had a majority of its employees working from home at the start of the year, then the recent retreat of case counts in many parts of the U.S. has transitioned the in-person work discussion from one of safety to one of desire, Shaw said. 

To lure workers back who may have gotten comfortable with their home office situations, tenants are overwhelmingly signing leases in newer, more amenity-rich office buildings, often closer to workers’ homes, according to multiple brokerage reports. Suburban office vacancy declined in Q4 for the first time since mid-2019, while urban core office ticked up to 16.8%, its highest rate since 1994, according to CBRE data.

Taken one way, the pandemic can be seen as accelerating the long-known trend of a flight to quality in the office market. But as asking rents remained relatively flat in Q4, sublease availability declined for the second straight quarter in data from JLL, CBRE and C&W. Combined with deep concessions still being the norm and driving effective rents downward, the best office space in a given market may never be a better deal for tenants.

With the next few months presumably bringing more companies' office usage plans into focus, leasing activity is expected to accelerate by the end of this year. If that happens, positive net absorption could also make meaningful gains by 2023, partially due to new construction slowing down.

Deliveries remained above historical averages in 2021, as plans laid before the pandemic were carried out — a trend that will continue in 2022, with enough new deliveries to provide a headwind to absorption figures. But as construction starts petered out during pandemic conditions, deliveries are projected to decline for the next few years by CBRE, JLL, C&W and Lee & Associates. Office landlords will be glad for the reprieve, Shaw said.

"Not having as much new development will be helpful in keeping vacancy down as people move around and companies execute on their new directions,” he said. “But there will always be companies that want to be in the best of the best, so I believe everything that is delivered will be absorbed."