Marquee Office Markets Could Lose Their Pricing Luster
One of the many, many (many) side effects of the coronavirus pandemic on commercial real estate is the likely erosion in prices of office buildings in marquee U.S. markets such as Los Angeles, New York and D.C. That’s according to a recent report from real estate research site Reonomy.
Office buildings in the nation’s larger metropolitan areas—New York in particular—have long commanded higher prices than their counterparts in smaller areas. The spread can be striking. Larger office properties in the larger areas can sell for around $150 a square foot at least, while similar-sized buildings in medium and small markets go for dozens of dollars cheaper a foot.
That gap could narrow considerably.
“The longer the recovery takes, the more difficult it will be for the largest [metropolitan statistical areas] to keep their premium pricing when compared to other MSAs,” according to the Reonomy analysis, which Omar Eltorai, the site’s lead market analyst, authored.
It’s unclear how much office building prices could come down in the larger, marquee markets compared with their smaller brethren, but it could be a lot—more than enough for investors, lenders and landlords to notice. Office buildings in the nation’s 14 largest metro areas were, at the end of 2019, priced about 25 percent higher than those in the next largest metros and about 50 percent higher than those in the medium ones.
Now familiar reasons are behind the likely price drops. Companies in myriad industries, including banking and law, are pulling back on space or mulling such a move. Part of that is due to the positives that firms have seen during the shift to remote work—something likely to continue for many companies through the end of 2020—and part is due to trends such as digitization and hoteling that predate the pandemic.
At the same time, office tenants have seized on the pandemic to negotiate or renegotiate terms of their office leases, in some cases locking in lower rents longer term. Then there’s the tighter, more stringent financing climate. Lenders are proving averse to risk in just about any commercial real estate sector, with the possible exception of life sciences, in the absence of a clear end to the pandemic’s upheaval.
While a drop in building prices in larger markets might be bad news for would-be sellers, there is a silver lining for the other side of the deal. “Even though the largest MSAs may lose some luster,” the Reonomy report said, “the low prices in major MSAs may be an opportunity for institutional investors to make opportunistic acquisitions and lead to greater consolidation within a given office market.”