Weak Demand, Falling Prices and Potential Distressed Activity Predict Muted Sales for 2023  

Key Takeaways: 

• The average U.S. office listing rate stood at $38.04 per square foot, up 1.1% year-over-year  
• Up 80 basis points year-over-year, the national vacancy rate rested at 16.6%  
• Under-construction office space reached 123 million square feet or 1.9% of total stock 
• Office sales totaled $1.9 billion in January, with assets trading at $202 per square foot 
• Remote work and tech layoffs continue to push Denver vacancy rates higher, reaching 18.3% 
• Listing rates in Chicago and the Twin Cities were among the four lowest in the country 
• Dallas led development in the South with nearly 7.4 million square feet underway 
• Boston recorded the highest average sale price at $1,054 per square foot 

In the years since the pandemic unsettled the office market, many have been anticipating an increase in distressed offices. While distressed activity has been muted to this point, weak demand, falling prices and a potential recession could lead to an increase in distressed sales in 2023, as well as one of the smallest sales volumes since the Great Recession, the CommercialEdge U.S. office market report reveals. 

Higher interest rates have already put pressure on owners with floating-rate debt and will provide a substantial challenge for loans that need to be refinanced this year. Remote and hybrid work have become entrenched and the tech industry — which drove much of the leasing of office space in recent years — is now contracting and laying off workers, thus further decreasing demand for office spaces.   

“We know distress activity will increase this year. We are closely monitoring the loans that are coming due and how they are being handled on both the owner and lender side.”

– Peter Kolaczynski, CommercialEdge Senior Manager

Metros with high quality office products might be better positioned to weather the storm, as tenants continue to look for well-amenitized, Class A office space in premium locations. This trend is expected to put downward pressure on older assets, especially those that are not well-located and well-kept, positioning these at a higher risk of distress as well.  

Additionally, with demand for office space continuing to be lower, we expect that many of the distressed properties that are sold may be targeted for redevelopment and conversion into life sciences or multifamily properties. 

Listing Rates and Vacancy: Vacancy Increases Accelerate in Tech-Heavy Metros 

Across the top 50 U.S. office markets, the average full-service equivalent listing rate was $38.04 in January, an increase of 1.1% over the past 12 months. At the same time, the U.S. office vacancy rate continued to rise, reaching 16.6%, up 80 basis points over January 2022. 

Although office vacancy rates continued to climb in most markets, some places have seen rates rise more rapidly than others since the pandemic upended the office market. Metros that owe their rapid growth to the tech sector have particularly felt the pressure of the remote work culture and recent tech layoffs.  

Top Listings by Metro Area: January 2023

Despite the steady rise in vacancy rates over the last couple of years, listing rates are still holding steady, thanks to tenants’ flight to quality. In January, the average listing rate for Class A and A+ office space was $46.70 per square foot, marking a 2.0% increase year-over-year. At the same time, Class B rates fell 0.7% to $30.11 per square foot.  

In terms of location, office assets in CBDs claimed the highest listing rates at $51.43, up 3% over the past 12 months, while suburban assets stood at $30.47, also up 3.1% year-over-year. Urban office spaces, however, continued to depreciate, with rents falling 4.3% below the figures recorded at the beginning of 2022. 

Supply: Five Markets Account for One Quarter of National Construction Pipeline

As of January, there was 123.6 million square feet of office space under construction nationally, accounting for 1.9% of total inventory. The top five markets by total square footage — Boston, Manhattan, Dallas, Austin and San Francisco — accounted for more than a quarter of all new supply being built. 

Office Space Under Construction (Million Sq. Ft) 

The influx of people into Texas in recent years has helped prop up office markets that have been hit by remote work. Dallas has let developers remain active in the market, with 4.1 million square feet started last year and more soon on the way. The Fields — a 180-acre, $2 billion mixed-use project in Frisco — will eventually include four million square feet of office space alongside retail, restaurants, apartments and hotels. 

Although offices in urban locations experienced the sharpest decline in asking rents, developers were most active in these areas. As of January, there were more than 66.5 million square feet of office space under construction in urban locations, representing 4.9% of total stock. Meanwhile, offices in CBDs and suburban areas are set to increase the national stock by 1.4% and 1.2%, respectively.  

Transactions: Distressed Sales Likely to Increase in 2023

CommercialEdge recorded $1.9 billion in office transactions in January, with properties trading at $202 per square foot.  

But taking into account the overall economic uncertainty, the entrenchment of remote work and the upheavals triggered by increased interest rates, office market outlooks anticipate that there will not be much capital for office transactions this year.  

Investors may still be able to find loans for well-located buildings with strong occupancy and cash-flow, but for the most part, deals for office buildings will likely fail to materialize. It’s expected that office transaction volumes in 2023 will be at their lowest levels since the years following the Great Financial Crisis. 

Year-to-Date Sales (Millions) 

Higher interest rates have already put pressure on owners with floating rate debt and will provide a substantial challenge for loans that need to be refinanced in 2023. The national average sale price of an office property fell from $269 per square foot in the first quarter of 2022 to $214 per square foot in the fourth quarter. A flood of distressed office sales could trigger a downward price spiral for offices. 

Distressed sales will most likely increase in frequency this year, but it is too early to say whether it will be a large wave. With demand for office space continuing to be soft, many of the distressed properties that are sold may be targeted for conversions into life sciences or multifamily, with some razed and entirely redeveloped. 

Western Markets: Remote Work Drives Up Vacancies in Denver 

With vacancy rates rising across the nation’s largest office markets, the West also followed suit. For instance, Denver’s vacancy rate in January stood at 18.3%, up 200 basis points (bps) over the last 12 months and 370 basis points over the last two years. Other leading tech markets, such as Seattle, San Francisco, and Portland also saw their office vacancy rates increase by 1.47%, 2.87 % and 3.20% year-over-year in January.  

In fact, all leading western markets experienced continued increases in vacancies over the past 12 months. While Portland’s 3.2% rise was the most significant, even San Diego — with its thriving life sciences sector — saw a year-over-year uptick of 0.27%. This lifted the local vacancy rate to 14.09%, which is still the lowest among leading western office markets. 

Circling back to Denver, the main cause of increasing office vacancy rates in the Mile High City is remote work. According to the Census Bureau’s American Community Survey, 28% of respondents in the market reported working from home, one of the highest shares in the country. Additionally, Denver has benefited from robust growth in the tech sector in recent years, and the layoffs currently hitting that industry will hamper the market. Denver’s sublease rate was 1.8%, a figure that could move upward in the future. 

West Regional Highlights 

Despite a nearly 19% vacancy rate, San Francisco continued to lead the West in asking rents at $67.43 per square foot. Local trends show that listing rates were still growing at a healthy pace here, further widening the pricing gap between San Francisco and other West Coast markets. Those include the Bay Area which at $57.06 per square foot demanded the second highest asking rents. 

Additionally, the West Coast’s top markets also led the region in terms of office development: San Francisco and Seattle both had 6.5 million square feet under construction in January, accounting for 4.2% and 4.7% of their existing stocks, respectively. And while the Bay Area’s office pipeline is set to increase the existing local stock by just 2.9%, that will still add 5.8 million square feet of new offices.

The three markets also had ample new stock in the planning stages, with San Francisco’s under construction and planned pipeline as high as 20%. However, considering the increasing headwinds faced by both the office and tech sectors, much of that planned pipeline may not materialize. In particular, there is growing nationwide concern regarding a potential spike in distressed office sales, due to low occupancy, expiring leases and maturing loans.  

Sale Price by Asset Type 

Tenant flight-to-quality has been taking place since the pandemic, with firms decreasing the size of their footprints but increasing the quality of the space they lease. This puts older assets, especially those that are not well-located and have not been well-maintained, at high risk of distress as well. Yet even trophy towers are not exempt, with Brookfield defaulting on $784 million in loans for two office towers in downtown Los Angeles. 

For now, however, distressed sales have remained mostly in the realm of future worries. But what has materialized is the decrease in sale prices for office assets: While Q1 2022 averaged $290 per square foot, Q4 ended at $271 per square foot. Moreover, January assets traded at an average $202 per square foot, totaling $1.9 billion, a third of which was concentrated in just two markets: Houston and Miami. On the West Coast, Los Angeles had the highest sales volume with $96 million in office deals, followed by San Francisco’s $73 million sales volume and Phoenix with $57 million.  

Midwestern Markets: Chicago & Twin Cities Off to a Slow Start in 2023 

The Midwest office market remained one of the most sluggish nationwide, with key fundamentals in the region’s leading markets changing little overall. Asking rents in Chicago saw a slight 0.26% uptick month-over-month in January, ticking up to $27.80 per square foot.  

At the same time, the St. Paul – Minneapolis market closed the month at $25.85 per square foot, decreasing 0.8% compared to December. These rates were among the four lowest in the country, accompanied by Phoenix’s $27.58 per square foot and Orlando’s $24.75 per square foot rates.  

At 19.44%, Chicago also recorded the fourth highest vacancy rate across the country in January, remaining flat both month-over-month and year-over-year. In the Twin Cities, vacancy rates did increase somewhat, inching up 0.12% on a month-over-month basis. Year-over-year, however, the metro experienced a higher 0.55% increase in vacancy rates, stabilizing at 15.07%. 

Midwest Regional Highlights  

Considering the region’s fundamentals and Chicago’s recent incentives to encourage office conversions, developers continue to remain wary of bringing too much new supply to the market. As of January, the Windy City had nearly 2.7 million square feet in the pipeline, accounting for 0.9% of its stock. Meanwhile, the Twin Cities had 676,369 square feet of office space underway in January, representing 0.6% of total inventory, outpacing only Tampa’s 382,099 square feet. 

And while Chicago ended 2022 among the top 10 metros for office transactions with $3.2 billion in sales, investors closed a mere $22 million in deals in January. The Twin Cities recorded the same amount in transactions, with the average sale price per square foot coming in at $203.  

Southern Markets: Developers’ Confidence in Dallas Continues to Increase  

Markets in the South continued to reap the benefits of the pandemic-driven worker migration and company relocation trends. Thanks to the more affordable local cost of living and business-friendly environment, Texas markets have especially benefited from the influx of residents, boosting developers’ confidence in the region. 

Although Austin had the largest construction pipeline on a percentage-of-stock basis at 7.6% (both in the region and nationally), Dallas led development in the region in terms of square footage, with nearly 7.4 million square feet underway. Vacancy rates have also been more resilient in the metro, increasing only 0.4% over the past 12 months, underscoring developers’ confidence in the market despite the headwinds faced by the office sector.  

Office Space Under Construction & Planned (% of stock) 

In terms of sales volume, another Texas market, Houston, took the lead nationally, closing $324 million in office deals in the first month of the year. This also broke down to an average price of $184 per square foot. Miami had the second largest sales volume nationwide at $316 million but resulted in a significantly higher sale price of $549 per square foot. 

Moreover, Miami also had the fourth-highest listing rate among the country’s top 25 markets, closing January at $47.24 per square foot. Austin and Washington, D.C. also recorded rates in the $40 range, exceeding the $38.04 per square foot national average. At the bottom of the list stood Tampa ($28.11), and Orlando ($24.43), although both metros saw slight increases on a month-over-month basis. 

South Regional Highlights 

Vacancy rates remained in the high teens in most markets in the South, with the exception of Houston and Atlanta where vacancy rates hit 25.99% and 20.03%, respectively. Austin had the third-highest vacancy rate in the region at 19.13%, up 283 basis points compared to January 2022. Nonetheless, this uptick in Austin office vacancies is negligible, considering the large amount of space that hit the market last year. At the same time, office vacancy rates remained flat month-over-month in Charlotte, with the metro’s 13.21% vacancy still one of the lowest rates in the region. 

Northeastern Markets: Boston Leads the Nation with Largest Construction Pipeline by Square Footage 

Among the 25 largest office markets in the U.S., Manhattan remained on the top for office asking rates at $75.74 per square foot, well above the second-highest rate recorded in San Francisco ($67.43) per square foot and the third-highest rate of $57.06 per square foot in the Bay Area. Overall, most office markets in the Northeast registered rates below the national average of $38.04 per square foot, with Philadelphia’s the lowest at $31.42 per square foot. 

In terms of vacancies, Brooklyn still had the largest amount of vacant space in the Northeast in January, with rates at 19.71%. On the national level, this rate was exceeded only by Atlanta’s 20.3% and Houston’s 25.99%. But Manhattan’s average vacancy rate grew at the fastest pace in the region, increasing by 2.59% compared to January 2022. 

Northeast Regional Highlights 

Developers were most active in Boston, with 12.9 million square feet of office space underway as of January, accounting for 5.4% of its total stock. Looking at it in terms of square footage, Boston had the highest pipeline nationwide, but also the second highest on a percentage-of-stock basis. Conversely, New Jersey had the lowest pipeline in the region, with roughly 1.5 million square feet or 0.8% of its total inventory under construction. 

In line with national trends, sales activity was muted across leading Northeastern markets: New Jersey was in the lead with $96 million in office transactions, followed by Philadelphia’s $69 million sales volume and Boston’s $56 million. Nonetheless, Boston saw the highest average sale price at $1,054 per square foot. 

Office-Using Employment: Washington D.C. Struggles to Add Jobs 

Office-using sectors of the labor market grew 3.1% year-over-year in January, with professional and business services adding 82,000 workers in the month and financial activities adding 6,000 according to the Bureau of Labor Statistics (BLS). However, the information sector lost 5,000 jobs per the same source. 

Office-Using Employment Growth by Sector  

In the nation’s capital, office-using employment growth remained sluggish. Metro employment data for December showed Washington, D.C. growing at just 0.4% year-over-year, the lowest rate of growth among the top 25 office markets covered by CommercialEdge.  

Yet slow growth in traditional office-using sectors only paints a partial picture of the struggles in D.C.’s office industry. Unlike other markets, much of D.C.’s office employment is made up of government workers, and BLS data shows that employment in the federal government sector fell 3.5% in 2022. Further compounding issues for the market, the federal government has embraced remote and hybrid work as well, considering it a competitive advantage in a tight labor market. 

Download the PDF report to view more, including the map for office-using employment growth. 

You can also see our previous office reports. 

Methodology 

This report covers office buildings 25,000 square feet and above. CommercialEdge subscribers have access to more than 14,000,000 property records and 300,000 listings for a continually growing list of markets. 

CommercialEdge collects listing rate and occupancy data using proprietary methods. 

Listing Rates — Listing Rates are full-service rates or “full-service equivalent” for spaces that were available as of the report period. CommercialEdge uses aggregated and anonymized expense data to create full-service equivalent rates from triple-net and modified gross listings. Expense data is available to CommercialEdge subscribers. National average listing rate is for the top 50 markets covered by CommercialEdge. 

Vacancy — The total square feet vacant in a market, including subleases, divided by the total square feet of office space in that market. Owner-occupied buildings are not included in vacancy calculations. 

A and A+/Trophy buildings have been combined for reporting purposes. 

Stage of the supply pipeline: 

Planned — Buildings that are currently in the process of acquiring zoning approval and permits but have not yet begun construction. 

Under Construction — Buildings for which construction and excavation has begun. 

Office-Using Employment is defined by the Bureau of Labor Statistics as including the sectors Information, Financial Activities, and Professional and Business Services. Employment numbers are representative of the Metropolitan Statistical Area and do not necessarily align exactly with CommercialEdge market boundaries. 

Sales volume and price-per-square-foot calculations for portfolio transactions or those with unpublished dollar values are estimated using sales comps based on similar sales in the market and submarket, use type, location and asset ratings, sale date and property size. 

Year-to-date metrics and data include the time period between January 1 of the current year through the month prior to publishing the report.   

Market boundaries in the CommercialEdge office report coincide with the ones defined by Yardi Matrix and may differ from regional boundaries defined by other sources.