The end of the 1st quarter 2021 marks the one-year point since the onset of COVID-19, and we are beginning to see the impact on the regional office market, with the pandemic taking its toll on the economy, both locally and nationally.
The 1Q 2021 office data shows a sharp quarterly spike in regional vacancy, going from 7.70% last quarter to 9.02% currently. Looking further back, the change in vacancy over the past year from when the pandemic first hit indicates a 307 bp increase in vacancy from the 1st quarter 2020 mark, when it was 5.95%. The regional office market is also experiencing a continued trend of negative absorption, after posting -2.56M+ s.f. in negative absorption for the 1st quarter 2021 − on the heels of last year’s lowest annual regional net office absorption in 10 years, at just 50,900 s.f. Sublet vacancy jumped up to 22% of total vacant inventory, compared to 12% one year ago. Investment sale activity continues to be sluggish, with only three sales over $50M during the quarter. On the bright side, the 19 major regional office construction projects are all pushing forward, with 76% of that space pre-committed. This is thanks, in no small part, to the ongoing appetite for close-in office space by the tech titans, with Amazon leading the charge along with Microsoft, Google, Facebook and Apple.
While there has been gradual improvement in the job market, until we have fully immunized the critical mass, the regional office market will remain volatile. Looking further ahead in 2021, important factors to consider will be local job growth and the long-term positioning of companies to continue or ease the Work From Home trend in the future. Economically, the region saw an initial loss in jobs of nearly 241,000 between March and April 2020. Between then and January 2021, the region gained back nearly 83,000 jobs. The unemployment rate at the end of February stands at 5.9%, well below the peak mark of 16.6% in April 2020. These are encouraging signs. The Puget Sound Economic Forecaster’s most recent employment projection for 2021 is positive employment growth of 1.7% in 2021, increasing to 5.4% in 2022.
While we remain in a time of uncertainty, some of the impacts of COVID-19 on the regional office market are beginning to surface, despite having been relatively mild thus far. These office market impacts include rising vacancy, negative net office absorption and sluggish sales and lease volumes in most market areas. While it remains to be seen how 2021 will play out, the blow to the Seattle office market has been mitigated from tech sector activity, along with a reasonable amount of new office construction, strong pre-commitments and a rebound in local jobs.
VACANT SPACE / VACANCY RATE
At the end Q1 2021, the region has a total office inventory of 215M+ s.f. The current regional vacancy rate shot up to 9.02% with 19.3M+ s.f. of total vacant space, including a surging inventory of sublease space. The current regional office vacancy rate increased 132 bps over the 7.70% vacancy rate from last quarter, and is 315 bps higher than the 5.87% rate at the end of 2019. Of the current regional vacant space inventory, about 22% is sublease space, up sharply from 12% a year ago. All five regional market areas posted increases in vacancy over the 1st quarter, with Seattle and the Eastside posting the most substantial increases. Seattle’s vacancy jumped to 10.37%, an increase of 200 bps over last quarter’s vacancy of 8.37%. The Eastside saw an increase of 92 bps, going from 5.62% last quarter to 6.54% currently. The Southend, Northend and Tacoma markets experienced nominal vacancy increases over the quarter. Southend vacancy remains the highest in the region at 14.90%, with Tacoma again setting the low mark at 5.94%. The spike in regional vacancy is due in part to a continued trend of negative regional net absorption over the quarter; at -2.55M+ s.f. for the 1st quarter, adding to the -1.46M+ from the 4th quarter 2020. It is also due to the surging levels of sublet vacancy inventory in Seattle (2.67M+) and the Eastside (1.06M+) markets pushing their percentage of respective sublet vacancy percentages to 27% and 31%. The recent negative net absorption at the end of 2020, and thus far into 202, adds to lackluster net absorption of essentially breakeven in 2020. This compares to positive absorption totals of 5.76M+ s.f. in 2019 and 4.45M+ s.f. for 2018. Seattle and the Eastside posted the largest negative net absorption thus far in 2021, at -1.50M+ s.f. and -679K+ s.f. respectively. The regional availability rate ended the quarter at 12.19%, up from 11.06% last quarter and 8.26% from a year ago.
NEW CONSTRUCTION ACTIVITY
At the end of the Q1 2021, there are 19 major office projects under construction in the region, all in Seattle and the Eastside. Over the quarter there were four major deliveries, adding a combined 710K+ s.f. of new office inventory to the region’s supply. These include the Alaska Air HQ, Boren Blocks, Amazon Block 18 and Fremont Crossing. Significant new construction starts included 503 6th Street (136K s.f.) and Spring District-Block 6 (Facebook) at 326K s.f. on the Eastside, and 1280 16th Ave W (Expedia) in Seattle at 750K s.f. Of the close-in office projects, 8 are in Seattle, totaling 3.29M+ s.f. (47% pre-committed), with 11 projects underway on the Eastside, totaling 4.77M+ s.f. (96% pre-committed). The two largest projects overall are in Bellevue, Vulcan’s 555 Tower project at 940K and West Main at 1.02M+ s.f., both fully leased to Amazon. Other proposed office projects loom in both the Eastside and Seattle, but it remains to be seen what will push through. Fortunately for the region, the 19 projects underway are 76% pre-committed.
Of the five market areas, three posted average rent quote increases over the 1st quarter while the other two show declines. The largest increase was the Eastside jumping from $39.50/s.f./yr last quarter to $41.11/s.f./yr currently, a 4.1% increase. The Northend and Tacoma also had more moderate rent increases in the 1st quarter. The biggest decliner was the Southend going from $31.65/s.f./yr last quarter down to $29.75/s.f./yr currently, a 6.0% slide. Seattle also dropped its average rent quote from $40.55/s.f./yr last quarter to $39.77/s.f./yr currently, a decrease of 1.9%. The Eastside has the highest average rent in the region, followed closely by Seattle. The floor is set by Tacoma with an average rent quote of $26.66/s.f./yr., then the Northend at $26.86/s.f./yr. At the end of the 1st quarter, the Bellevue CBD has the highest quoted average full-service rent of any submarket at $55.03/s.f./yr, due to continued demand and short supply. The average rent quote for the Seattle CBD is $44.67/s.f./yr, with the Tacoma CBD at $27.07/s.f./yr, about half the Bellevue CBD rate.
The Q1 2021 continued the trend of nominal office investment sales activity compared to historical regional volumes. The impact from both the pandemic and 2020 REET increases continue to impact investment sales, with uncertainty remaining in the eyes of buyers, sellers and lenders. There is a steadier pipeline of smaller investment and owner-user office sales fueled by the repositioning of many local businesses. During the 1st quarter, there were seven sales above $10 million that closed. Examples of significant transactions over the quarter include: the Star Building at $21M ($392/s.f.) in Seattle and three Bothell sales, Creekside Bldg ($11.7M+), Canyon Park East ($75M) and Canyon Park Heights ($45M). Significant Eastside transactions include Talon’s acquisition of Advanta Office Commons at $169M+ ($281/s.f.), Ednetics at $11.2M+ ($526/s.f.) and Redmond East for $80M ($276/s.f.). Total office sales volume for the quarter was $464M (among 76 transactions) compared to last quarter at $2,747.6M and $801.5M in the 3rd quarter of 2020.