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Office
Investment Outlook
United States | Q3 2016
OFFICE
Office asset pricing exhibiting signs of plateauing
U.S. Office property market
U.S. Office investment
-60
1.3%
$101.4
-1.5%
12-month change in total vacancy (bps)
12-month net absorption (as % of inventory)
Investment sales (YTD, billions of $US)
YTD investment sale growth
1.3%
5.8%
4.4%
-30
12-month comple tio ns (as % of inventory)
12-month rent growth (p.s.f.)
Average cap rate
12-month change in cap rate (bps)
Stable and growing office leasing markets during the third quarter.
Despite increased labor market volatility over the past six months, there
was no evidence of a summer slowdown, with leasing volumes up 4.4
percent compared to the four-quarter trailing average. With this, markets
are keeping pace and have absorbed space at nearly 100 percent the
rate of new deliveries. However, primary markets welcoming new supply
are nearing an inflection point as supply begins to catch up to demand.
Year-to-date volume declines moderating with a strong third
quarter. While up relative to the third quarter of last year by 5.7 percent,
$35.5 billion of quarterly office investment sale activity brought year-todate volumes to $101.4 billion, 1.5 percent below prior-year levels. This
comes on the heels of calming yet still uncertain investor sentiment
following sustained levels of heightened macro market volatility.
However, if looking at market conditions today, real estate markets are
well positioned to normalize this year, supporting a return in 2017 from
lagging deal flow experienced in 2016.
Office pricing showing signs of plateauing. The overall pricing
landscape nationally for office product remains steady, with cap rates
across primary and secondary markets averaging 4.4 percent. This is
stable compared to the last two quarters while showing a 30-basis-point
compression compared to this time last year. Pricing will be a key factor
to watch heading into 2017, and those markets with higher barriers to
Offshore office investment remains elevated and outperforming
peer sectors. Following a year of sector diversification, offshore capital
remains active and at sustained, structurally higher levels within the
office sector. Preliminary metrics indicate office has captured more than
60.0 percent of inbound capital year-to-date—beyond long-term average
metrics. As a result, nearly 15.0 percent of year-to-date acquisitions were
by offshore investors. This represents a consistent increase when
compared to leading volume years from the prior cycle, which saw
offshore participation between 5.0 and 9.0 percent. This capital continues
to focus on primary office markets—led by New York, San Francisco and
Boston—with selective diversification.
10.0%
Q4
8.0%
10-year Treasury (%)
Primary cap rates (%)
Secondary cap rates (%)
5.2%
6.0%
4.0%
4.1%
2.0%
0.0%
1.6%
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016 YTD
Source: JLL Research, Real Capital Analytics (transactions larger than $5.0M)
Secondary market diversification normalizes; risk sensitivities
sustained at the submarket level. After a pullback in secondary market
transactions in the second quarter, momentum returned this quarter. This
activity was driven by Dallas–Fort Worth, Atlanta and Northern New
Jersey, which collectively drove seven of the ten largest secondary
market transactions of the quarter. With this, however, we have seen a
sustained sensitivity to submarket risk, with non-CBD liquidity reverting to
late-2014 levels. As a result, CBDs are now driving over 55.0 percent of
quarterly deal flow.
Despite year-over-year compression, office cap rates plateauing
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Office investment sale
volumes (billions of $US)
While up 5.7 percent in the third quarter, year-to-date office
investment sales down 1.5 percent at close of third quarter
$250.0
Q1
Q2
Q3
$200.0
$150.0
$100.0
$50.0
$0.0
entry will be more resilient in sustaining current pricing levels.
Source: JLL Research, NCREIF, Board of Governors of Federal Reserve
JLL | United States | Office Investment Outlook | Q3 2016
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TOP
1
5
OFFICE THEMES
Stable and growing office leasing markets during the third quarter
Despite increased labor market volatility over the past six months, there was no evidence of a summer slowdown in the office leasing markets in the
third quarter. U.S. leasing volumes totaled nearly 60 million square feet—4.4 percent higher than the four-quarter trailing average—and expansionary
leases composed the largest share of 20,000-square-foot-and-larger leases at 47.1 percent. As a result of more broad-based growth across industries
and sectors, the top-performing leasing markets year-to-date have ranged from major diversified metros such as Atlanta (+33.5 percent YTD) to
industry- and corporate-driven secondary markets such as Salt Lake City (+136.2 percent YTD), Columbus (+70.6 percent YTD) and Orlando (+68.3
percent YTD), all of which have benefited from a combination of large-block office users in professional services, finance and even tech, as well as
non-office users such as leisure, hospitality, education and health. With this, total vacancy edged downward by 10 basis points as markets absorbed
12.8 million square feet compared to the 12.5 million square feet that were delivered.
While markets are keeping pace and have absorbed space at nearly 100 percent the rate of new deliveries—totaling nearly 35.5 million square feet
year-to-date, some markets are beginning to see vacancy creep as new supply hits the market. Looking ahead, as long as employment continues to
grow, occupancy in the office market should continue to expand. That said, primary markets welcoming new supply are nearing an inflection point as
supply begins to catch up to demand. With more than 60.0 percent of the 105 million-square-foot development pipeline expected to deliver by the end
of 2017, leasing conditions will become much more balanced by 2018, with a shift to more tenant-favorable conditions by 2019.
Leasing volume by market
Completions
Primary markets remain leaders, although Silicon Valley is disproportionately contributing to volume
The remainder of the groundbreaking wave
has boosted 2018 completions to 25.1 m.s.f.
60,000,000
11%
7%
3% 3%
Source: JLL Research (volumes based on total activity)
30,000,000
20,000,000
10,000,000
0
2019
5%
3% 4%
Preleased
Available
40,000,000
2018
6%
6,665,424
4,379,517
3,549,945
3,497,458
3,350,427
2,693,694
2,600,042
1,931,398
1,906,676
1,744,264
27,567,367
59,886,212
2017
6%
New York
Washington, DC
Boston
New Jersey
Chicago
Seattle
Los Angeles
Atlanta
Dallas
Silicon Valley
All other markets
Total leasing activity
2016
6%
46%
Leasing activity(s.f.)
Completions (s.f.)
50,000,000
Market
Source: JLL Research
JLL | United States | Office Investment Outlook | Q3 2016
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2
Year-to-date volume declines moderating with a strong third quarter
While up relative to the third quarter of last year by 5.7 percent, $35.5 billion of quarterly office investment sale activity brought year-to-date volumes to
$101.4 billion, 1.5 percent below prior-year levels. This comes on the heels of calming yet still uncertain investor sentiment following a sustained level
of heightened macro market volatility and thus perceptions of elevated downside risks in markets. This volatility, heightened sensitivities to cyclical
risks and current pricing levels are now increasing investor selectivity on office investment opportunities, especially for higher-risk, less-liquid
submarkets and core opportunities. With this, the majority of markets are seeing annual activity declines, with the exception of those most active
markets: Los Angeles, San Diego, Northern New Jersey and Philadelphia. However, liquidity remains strong in coastal primary markets such as New
York, Boston and Los Angeles, as well as high-growth secondary markets such as Denver and Philadelphia. New York remains the most active market
domestically and globally, accounting for the three largest office transactions of the quarter —all of which were partial interest transactions, with two
being to offshore buyers. In the largest trade of the quarter, Hong Kong Monetary Authority acquired a 49.0 percent interest in 1095 Avenue of the
Americas for nearly $1.2 billion from Ivanhoe Cambridge and Callahan Capital Partners.
Uncertainty has calmed but likely is not yet over. Upcoming elections abroad, slowing job gains and pending Federal Reserve d ecisions are expected
to spur near-term bumpiness. However, if looking at market conditions today, real estate markets are well positioned to normalize this year, supporting
a return in 2017 from lagging deal flow experienced in 2016.
Office investment sales by market
As the majority of markets continue to see year-to-date declines, New York, Boston and Los Angeles lead office investment sale activity; Los Angeles,
San Diego and Northern New Jersey lead gains
New York
Boston
Los Angeles
San Francisco
Seattle-Bellevue
Chicago
Atlanta
Northern New Jersey
San Diego
Philadelphia
Washington, DC
Dallas-Fort Worth
Silicon Valley
Northern Virginia
San Francisco Peninsula
$0.0
-47.7%
-15.9%
24.8%
-17.4%
-25.8%
-65.9%
-39.7%
-47.1%
-34.7%
-29.8%
-47.4%
-47.7%
$5.0
$10.0 $15.0 $20.0 $25.0 $30.0 $35.0 $40.0
2016 YTD
2015 YTD
-100.0%
-50.0%
9.2%
23.5%
4.0%
0.0%
50.0%
Percentage change (YTD)
Source: JLL Research (assets larger than 50,000 s.f.)
3
Office pricing showing signs of plateauing
The overall pricing landscape nationally for office product remains
steady, with cap rates across major primary and secondary markets
averaging 4.4 percent. This is stable compared to the last two quarters
while showing a 30-basis-point compression compared to this time last
year. 65.6 percent of the 32 largest office markets are seeing cap rates
compress year-over-year, but primary markets continue to drive annual
cap rate declines, with all of these markets seeing further compression,
on average by 34 basis points. However, there has been an uptick in
those markets which are softening, a trend evidenced in 22.0 percent of
markets. All of these are secondary office markets. With this, the overall
pace of cap rate compression is declining as well, most notably and
similarly in secondary markets. Softening cap rates have been most
evident in Sacramento, Houston, Raleigh-Durham and Oakland–East
Bay. On the other end of the spectrum, compression remains strong and
at leading paces in Salt Lake City, Philadelphia and Portland, as well as
in Boston and Washington, DC—all of which have seen annual declines
greater than 50 basis points, sustaining those primary markets at sub4.5 percent levels and those secondary between 5.0 and 6.0 percent. As
a result of these dynamics, the yield discount for secondary relative to
JLL | United States | Office Investment Outlook | Q3 2016
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primary markets remains at historically elevated levels of 110+ basis
points, nearly 40 basis points wider than expansionary cycle norms.
With cap rates below prior peak levels—notably, in the primary
markets—yet liquid real estate capital markets across debt and equity,
pricing will be a key factor to watch heading into 2017, with select
markets seeing pricing disconnects emerge between buyers and sellers.
Those markets with higher barriers to entry will be more resilient in
sustaining current pricing levels.
Overall office annual cap rate fluctuations
While 65.6 percent of markets are seeing cap rates compress, signs of
plateauing begin to emerge, with 22.0 percent of markets seeing a yearto-date softening of cap rates
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016 YTD
16%
19%
3%
9%
56%
97%
34%
9%
22%
22%
16%
6%
22%
0%
20%
40%
Compressing
60%
Stable
80%
100%
Softening
Source: JLL Research, NCREIF (includes 32 major office markets; stable defined as
markets seeing fluctuations within 10 basis points year-over-year)
Primary-to-secondary market cap rate differential
120
105
With this, however, we have seen a sustained sensitivity to submarket
risk. Since early 2014, there has been a continued expansion of liquidity
for non-CBD assets, whether those fall within urban or suburban
submarkets. This peaked in the first quarter of 2016, in which nearly 60.0
percent of transactions fell within non-CBD submarkets—71.8 percent of
which fell within suburban submarkets. This was the highest level of this
activity seen in the current cycle. However, with uncertainty in early
2016, non-CBD liquidity has reverted to late-2014 levels, with CBDs now
driving over 55.0 percent of quarterly deal flow. Despite this pullback,
best-in-class assets in suburban-centric markets such as New Jersey,
Atlanta and Dallas continue to see strong suburban transaction volumes,
with buyers primarily being private equity investors or local/regional
players and institutional players less active. Looking ahead, liquidity is
expected to remain intact for secondary markets. However, current
investor selectivity is expected to limit liquidity for inferior, outlying
suburban product due to an increased focus on cycle assurance and
longer-term repositioning strategies.
Investment sale volumes by market type
Secondary investment volumes normalize after an atypical slowdown
last quarter; as a result, these markets have now driven > 41.0 percent
of quarterly deal flow in three of the last four quarters
80%
60
15-year
expansionary
cycle average
40
20%
27%
31% 23% 34%
37% 37% 29% 34% 35% 41% 41%
41%
60%
40%
Source: JLL Research, NCREIF (includes 32 major office markets)
Primary markets
2016 Q3
2016 Q2
2016 Q1
2015 Q4
2015 Q3
2015 Q2
2015 Q1
2014 Q4
2014 Q3
2014 Q2
2014 Q1
0%
2013 Q4
20%
20
0
After a pullback in secondary market transactions in the second quarter
at a level we had not seen since 2014, momentum in secondary markets
returned this quarter, with 41.4 percent of transaction volumes in this
market set. In the third quarter, this activity was driven by Dallas–Fort
Worth, Atlanta and Northern New Jersey, all of which saw over $500
million of quarterly deal flow and drove seven of the ten largest
secondary market transactions of the quarter. This is a return to levels
experienced in two of the last three quarters and reflective of a strong
and sustained appetite for higher-yielding opportunities outside of
expensive primary markets from Core-plus and even more so valueadd capital. In the largest value-add, secondary market transactions of
the quarter, Fortis acquired the Chase Tower in the Dallas CBD for
$273 million, or $219 per square foot, from Hines, and Rubenstein
Partners acquired Sanctuary Park in the North Fulton submarket of
Atlanta from JP Morgan. Both furthermore represent transactions of 1.0
million+ square feet.
100%
80
Secondary market diversification normalizes;
risk sensitivities sustained at the submarket level
2013 Q3
100
111
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016 YTD
Secondary market yield discount
(basis points)
Secondary market cap rates at an atypically high discount relative to
primary markets, having reached 111 basis points this quarter and now
beyond levels seen at the prior peak
4
Secondary markets
Source: JLL Research (assets larger than 50,000 s.f.)
JLL | United States | Office Investment Outlook | Q3 2016
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Foreign office investment activity
Submarket selectivity continues with heightened levels of activity in
urban CBD submarkets for the second consecutive quarter—the highest
relative level of activity in these submarkets since 2014
Office continues to outperform peer sectors and at a sustained, structural
pace relative to prior cycle: nearly 15.0 percent of year -to-date
acquisitions by offshore investors
18.0%
36%
37%
34%
35%
32%
36% 44%
37%
43%
78%
CBD—Suburban
Non-CBD—Suburban
63%
56%
2016 Q3
2016 Q2
39%
2016 Q1
2015 Q4
2015 Q3
2015 Q2
55% 50% 54% 50%
2015 Q1
2014 Q4
2014 Q3
59% 57%
2014 Q2
2014 Q1
59% 62% 57%
CBD—Urban
Non-CBD—Urban
Foreign office investment (billions of $US)
20%
37% 33% 37%
15.6%
14.9%
$25.0
13.5% 13.6%
$20.0
11.0% 11.1%
10.5%
8.5%
10.6%
11.0%
8.4%
7.4%
$10.0
Following a year of sector diversification, offshore capital remains active
and at sustained, structurally higher levels within the office sector. At the
close of the third quarter, preliminary metrics indicate office has captured
more than 60.0 percent of inbound capital year-to-date—in line with and
in fact beyond long-term average metrics. Largely the result of significant
global capital flows into the industrial sector in 2015, the office sector
captured a minor 27.0 percent of this capital in full-year 2015. However,
as foreign participation metrics across sectors have normalized in 2016
to levels seen in the prior cycle, the office sector continues to see growth
in participation both in dollars and in relative terms: at the close of the
third quarter, nearly 15.0 percent of year-to-date acquisitions were by
offshore investors. This represents a consistent increase when
compared to leading volume years from the prior cycle, which saw
offshore participation between 5.0 and 9.0 percent. This capital continues
to focus on the primary office markets with selective diversification: New
York has captured 45.5 percent of this capital year-to-date, followed by
San Francisco (8.4 percent), Boston (7.1 percent) and Washington, DC
(6.8 percent). Canadian, German and Chinese investors continue to lead
inbound volumes, accounting for 57.3 percent of year -to-date offshore
office acquisitions. As we move to year-end and into 2017, the foreign
buyer pool remains active yet selective overall, with office investment
levels expected to remain high relative to peer sectors given the global,
institutional nature of the asset class.
8.0%
6.0%
4.0%
$5.0
2.0%
0.0%
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
$0.0
Offshore office investment remains elevated and
outperforming peer sectors
10.0%
5.2%
Source: JLL Research (assets larger than 50,000 s.f.)
5
14.0%
12.0%
11.7%
$15.0
16.0%
Foreign participation (as a % of total office volumes)
$30.0
2013 Q4
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
2013 Q3
Transaction volumes by submarket
characteristics
Investment sale volumes by submarket characteristics
Source: JLL Research, Real Capital Analytics (transactions larger than $5.0M)
Foreign investment by destination market (as a percentage of total,
2016 YTD)
Primary markets continue to capture the lion’s share of inbound capital,
receiving 78.2 percent of this capital year-to-date, with selective
diversification evidenced
San Diego
Philadelphia
Austin
Atlanta
Chicago
Northern New Jersey
Miami
Seattle-Bellevue
Los Angeles
Dallas–Fort Worth
Washington, DC
Boston
San Francisco
New York
1.1%
1.1%
1.4%
1.6%
1.9%
2.1%
2.8%
4.8%
4.8%
5.6%
6.8%
7.1%
8.4%
45.5%
Source: JLL Research, Real Capital Analytics (transactions larger than $5.0M;
includes all office markets which received > 1.0 percent of offshore capital as of Q3 2016)
JLL | United States | Office Investment Outlook | Q3 2016
6
Notable primary market transactions, Q3 2016
Market
Property
Buyer
New York
1095 Avenue of the
Americas
Hong Kong Monetary
Authority (49.0% interest)
New York
11 Madison Avenue PGIM (40.0% interest)
New York
10 Hudson Yards
Allianz (44.0% interest)
San Francisco
2-property portfolio
(303 2nd Street;
100 1st Street)
San Francisco
Chicago
Chicago
Boston
Price ($)
Size (s.f.)
Price (p.s.f.)
$1,152,970,000
1,036,534
$2,270
$1,040,000,000
2,285,846
$1,137
Coach Inc.
$946,000,000
1,809,073
$1,188
Norges Bank Investment
Management
(44.0% interest)
Kilroy Realty
$452,900,000
1,213,000
$849
760 Market Street
Confidential
Thor Equities
$374,000,000
298,124
$1,200
321 N Clark Street
Diversified Real Estate
Capital (95% interest)
Hines
$358,000,000
896,000
$400
American Realty Advisors
Sterling Bay
$305,000,000
531,190
$574
Clarion Partners
Jamestown
$295,000,000
278,212
$1,060
Conway Capital
Brickman/Allied
$295,000,000
172,000
$1,715
Google
$285,961,215
397,510
$719
1K Fulton (1000 W
Fulton Street)
Riverview Center
(245 First Street)
Seller
New York
1619 Broadway
Silicon Valley
1101 W Maude Ave LinkedIn
Ivanhoe Cambridge/
Callahan Capital
Partners
SL Green Realty
Corp.
Notable secondary market transactions, Q3 2016
Market
Property
Buyer
Seller
Price ($)
Size (s.f.)
Price (p.s.f.)
Northern New Jersey 800 Scudders Mill Rd
Hana Asset Management LCOR/Ivy Equities
$305,000,000
761,824
$400
Dallas–Fort Worth
Chase Tower
Fortis
Hines
$273,000,000
1,248,230
$219
Atlanta
Sanctuary Park
Rubenstein Partners
JP Morgan Asset
Management
$265,000,000
1,541,723
$172
Clarion Partners
DivcoWest
$235,500,000
535,253
$440
Mack-Cali Realty Corp.
Equity
Commonwealth
$235,000,000
521,410
$451
Mesirow Financial
Verizon
$231,168,605
1,150,000
$299
Lake Merritt Plaza
(1999 Harrison Street)
Waterfront Corporate
Northern New Jersey Center I
(111 River Street)
Verizon Irving Regional
Dallas–Fort Worth
Headquarters
(600 Hidden Ridge)
Oakland–East Bay
Dallas–Fort Worth
2000 McKinney Ave
Union Investment
ADIA/Lincoln
Property/Corrigan
$225,836,000
442,355
$511
Fort Lauderdale
Bank of America Plaza
Deutsche Bank
JPMorgan Chase
$219,946,496
408,064
$539
Minneapolis
Ameriprise Financial
Center HQ
Morning Calm
Founders
Management/Axar Capital
Properties
Management
$200,000,000
848,000
$236
Atlanta
2475 Northwinds Pky
Brookdale Group
$186,900,000
1,037,678
$180
Blackstone
JLL | United States | Office Investment Outlook | Q3 2016
7
For more information, please contact:
Investor
Sean Coghlan
Director, Investor Research
[email protected]
Office
Julia Georgules
Director, Office Research
[email protected]
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