Looking Toward a Capital Surge in the Office Market

By Nicholas Ziegler, News Editor

While 2010 set the stage, recovery in office investment volumes is set to continue pushing forward in 2011. According to a report by Jones Lang LaSalle Inc., preliminary estimates indicate that 2010 volume increased 140 or more percent year-over-year, with 2011 looking to see a further increase in the 40 – 50 percent range. Last year, the office sector was the most robust of the four major property types, with volume at an estimated $39 billion at year-end.

Lending, too, has seen a rebound in activity. Among respondents to the Federal Reserve’s Senior Loan Officer Survey in the fourth quarter of 2010, equal numbers of banks were in favor of tightening loan standards as were in favor of loosening them — a trend not seen since mid-2006. The survey also indicated that there were more banks reporting an increase in demand for commercial real estate loans than were seeing a decrease. While factors are looking bright, however, 157 FDIC-insured banks failed in 2010, up from the 140 closings in 2009.

And cap rates are dropping, most significantly in the high-end office segment. With a high level of activity, these trophy office properties in top-tier and top secondary markets pushed cap rates down to near 5 percent at the end of 2010, from a national average of near 9 percent in the fourth quarter of 2009. The market at large SAW cap rates fall to just over 6.7 percent in the fourth quarter of 2010.

Such strong performance, however, has mostly been at the higher end of the market. Demand for lower-quality properties has not yet materialized, although capital still exists for distressed assets.

Overall, the market will continue to broaden in 2011, bolstered by economic and employment growth, an expansionary monetary policy and low long-term rates. Jones Lang LaSalle expects that investor confidence will soon return, encouraging greater risk and broadening the accepted definition of attractive investment targets.

According to the JLL report, “We expect demand levels to return back to typical office-using sectors and various regional markets to move from ‘bottoming/stabilizing’ to ‘growing.’ From the purist current office employment perspective, the markets likely to see the biggest swings back to recovery in 2011 include Indianapolis, Charlotte, Orange County, Minneapolis, Hampton Roads, Dallas and Raleigh/Durham, all metros coincidentally demonstrating office employment levels increasing at rates greater than 2 percent annually.”