Area Brokers Expect Robust Demand to Continue in 2000
Most of the commercial real estate markets in Southern California will continue to prosper next year--though downtown Los Angeles will probably still struggle--and the long-suffering Mid-Wilshire market might finally turn around.
Meanwhile, Orange County’s office market will outpace all others in the region, and the Inland Empire will further expand its growing role as a center for warehousing and distribution with an industrial space base that now exceeds Orange County’s.
These are some of the conclusions in the annual Los Angeles Basin forecast by real estate brokerage Grubb & Ellis, which expects that demand for office, industrial and retail space will remain robust in 2000.
The Grubb & Ellis outlook, shared in most part by other forecasters, is based on the assumption that the region’s economy will remain sound, prompting existing businesses to expand and new firms to form, thus generating demand for more space. Reports from Cushman & Wakefield, Seeley Co./Colliers International, CB Richard Ellis, Julien J. Studley Inc. and Trammell Crow Co. all sound a similar theme.
“Six years ago when we did this forecast, we were expecting really dramatic improvements,” says Regina Burke, research director for Grubb & Ellis. “But there is not a lot of room for dramatic improvements in any of the markets today because most of them have recovered so much.”
Burke says 2000 will be more like a continuation of 1999. Vacancy rates are not likely to decline much in the healthiest markets, where they are already below 10% in many cases, but they aren’t expected to rise either, because this real estate cycle hasn’t produced overbuilding like that which created a glut of space in the 1980s real estate boom, she says.
Despite strong demand for office space in most business neighborhoods, a few continue to lag. Grubb & Ellis pegs the year-end office vacancy rate at 19.3% in downtown Los Angeles and 22.5% in the Mid-Wilshire submarket, among the highest vacancy rates in the county.
Two percent of the downtown L.A. vacancy is sublease space, available from tenants that either have moved out or are planning to move out. Such a large amount of sublease space is likely to “soften demand for direct space in Class A buildings and dampen lease rate increases for the next several quarters,” the Grubb & Ellis report says.
Conditions in L.A. have “set the stage for back-office users to migrate downtown in search of hard-to-find large blocks of space at lower lease rates, but it hasn’t happened yet,” the report says. “A rebirth is all but inevitable for this market, but when?”
Cushman & Wakefield’s report paints a more positive picture of the downtown market, saying the vacancy rate in the top tier of office buildings declined in 1999 from 13.8% in January to 12.3% in December. It cites the “expansion of the financial, insurance and legal industries in the market” and “explosive” growth in the telecommunications industry, which is leasing office space to accommodate switching equipment.
Both Grubb & Ellis and Cushman & Wakefield are sanguine about the Mid-Wilshire market, where the vacancy rate will drop below 20% for the first time in several years and rents will climb by 5% by the end of 2000, according to the Grubb & Ellis forecast. It predicts that technology companies in search of large blocks of space and low rents will drive much of the growth in Mid-Wilshire, also known as the Wilshire Center district. The Cushman & Wakefield forecast points out that “a strong recovery” is already underway, led by expanding media and entertainment companies.
Fast-growing Internet firms and other technology companies are driving demand in many markets, according to Bruce Schuman, a senior vice president at Julien J. Studley, who described the tech boom as a sort of two-edged sword for the real estate markets.
“Business is good now, but sooner or later there will be consolidations and the tech demand will taper off,” Schuman says. ‘When that happens, it will mean a lot of sublease space on the market, and rents will come down.”
Schuman doubts that demand from tech firms will decline during the first part of the year, but he says demand might begin to decline in the third or fourth quarter.
“I don’t mean to be a doomsayer, because I think the markets will still remain strong. It’s just that with so many young ‘dot-com’ companies taking so much space and so much venture capital flowing into those companies, it’s inevitable that things have to slow down eventually,” Schuman says.
Orange County’s office market, Grubb & Ellis says, “has reveled in an atmosphere of ever-improving economic and commercial real estate fundamentals.” Vacancy rates will remain about 9.5%, according to the forecast, despite a building boom that has risen to “dizzying heights,” with more than 2.1 million square feet of space under construction.
That 2.1 million represents nearly 4% of Orange County’s existing base of 55.6 million square feet of office space. By comparison, 3.4 million square feet of space is under construction in Los Angeles County, or 2% of the existing base of 159 million square feet.
Even with so much construction of new space in Orange County, Grubb & Ellis says, “lease rates will continue to set record highs throughout the year 2000, especially in the high-profile Airport Area and South County submarkets.”
Industrial space will remain a precious commodity in all Southern California counties and submarkets, all of the forecasters agree.
“The story in the industrial markets will continue to be the shortage of space,” says Steven Craig, an information manager at CB Richard Ellis.
Trammell Crow’s forecast for 2000 calls industrial market conditions in the region “as strong as possible.” The report says industrial property values have reached record highs in most markets, climbing to an average of more than $47 per square foot in Los Angeles County, more than $64 per square foot in Orange County and nearly $44 per square foot in the Inland Empire.
Trammell Crow predicts real estate investment trusts will continue to sell nonstrategic assets next year, Japanese property owners will continue to liquidate Southern California assets, and some pension and opportunity funds will sell according to planned exit strategies.
The most active buyers in the region will be private and public pension funds and their advisors, as well as local private investors and developers aligned with Wall Street capital, the Trammell Crow report says.
Industrial vacancy rates traditionally tend to run lower than office vacancy rates, in part because industrial space takes less time to build and developers have a somewhat easier time estimating how much to build and when to build it.
Even so, the growing demand for industrial buildings has pushed vacancy rates to levels considered remarkably low by industry observers.
Only 4.1% of the 858 million square feet of industrial space in Los Angeles County was available for lease at the end of December, including both direct and sublease space, the Grubb & Ellis forecast reports.
Orange County’s industrial availability rate was 7.3% out of a base of 177 million square feet, and the Inland Empire rate was 7.9% out of a total inventory of 216 million square feet. Much of the Inland Empire inventory has been built during the 1990s as companies hungry for huge blocks of warehouse and distribution space have taken advantage of the cheap, plentiful land.
Demand for more of this space and for more office and retail space will continue well beyond 2000, according to a study by Seeley Co.
Called “Demographic and Economic Trends Impacting Commercial Real Estate--2000 and Beyond,” the report says the Los Angeles Basin will add the equivalent of the existing population of Orange County during the years 2000-2010.
The growth will generate tremendous demand for office, industrial and retail space, according to the study, which says the L.A. Basin is projected to add about 2.5 million people and 1.1 million jobs.
The Seeley study says about 300 million square feet of industrial space will be required, as well as 45 million square feet of research and development space, 125 million square feet of office space and 100 million square feet of retail space.
The growth in demand for industrial space works out to 30 million square feet per year, most of it for warehouse and distribution space in outlying areas, including the Inland Empire and north Los Angeles County, according to the report.
The report says a shift toward an information-based economy will add 50,000 office jobs a year, requiring an additional 123.5 million square feet of office space during the decade.
The predictions of all of the forecasters are based on the assumption that the regional economy will keep chugging along.
In an introduction to the Grubb & Ellis forecast, for example, Jack Kyser, chief economist for the Los Angeles Economic Development Corp., foresees more moderate growth in the regional economy after three years of solid gains and cites “a variety of countervailing forces” that may affect the real estate markets.
Positive forces at work include the Asian economic recovery, improved European economies, a boost to U.S. exporters from a weak U.S. dollar and the effect of such new projects as the Alameda Corridor and the Metro Rail line to North Hollywood.
Among the negative forces that could emerge are a rise in interest rates, a possible tightening of credit by lenders and the potential for a stock market “correction,” according to Kyser.
(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)
Strength in Numbers
The strength of the commercial real estate markets in the Los Angeles Basin is reflected in low vacancy rates in almost all office and industrial markets in the area. The year-end rates are lower than 10% for Los Angeles County and Orange County office and industrial space as well as Inland Empire industrial space. Real estate experts consider a vacancy rate less than 10% to be a sign of a healthy market.
Los Angeles County
*--*
Total space Total vacant % (square feet) (square feet) vacant Office market 158,812,000 20,965,000 13.2% Industrial market 857,583,000 35,327,000 4.1
*--*
Orange County
*--*
Total space Total vacant % (square feet) (square feet) vacant Office market 55,631,000 5,452,000 9.8 Industrial market 176,731,000 12,901,000 7.3
*--*
Inland Empire
*--*
Total space Total vacant % (square feet) (square feet) vacant Office market 13,334,000 2,368,000 17.8 Industrial market 215,952,000 17,125,000 7.9
*--*
Source: Grubb & Ellis
