Is Office Leasing Rebounding? The Factors Driving Leasing Growth

This quarter witnessed the fastest growth in the office leasing rate in two years. The impressive jump has sparked rumors of a rebound for the office market and overall commercial real estate industry, which has been on the verge of collapse.

But not so fast. The road to a pre-pandemic level of recovery is still a long one with indefinite challenges. Still, it is a hopeful hint of what’s to come should return-to-office mandates continue. Let's discuss the potential comeback of the office sector. 

Hopeful Office Leasing Gains

The second quarter of 2023 witnessed a notable surge in office leasing, experiencing its fastest growth rate since the second quarter of 2021. This positive momentum is especially significant given the challenges faced by the office sector in recent times. With an estimated 1.5 million office-based workers already affected this year, this upward trend is expected to impact at least 1 million more individuals by the end of the year, signaling a gradual recovery in the office market.

Emphasis on “gradual recovery" in the office market. Because while return-to-office mandates are gaining momentum, we are not seeing the same occupancy levels across the board. This overall lower demand is reflected in leasing levels still well below pre-pandemic averages.

Learn how to take advantage of the cooled demand and find the best office space for the best price. 

Large-Scale Lease Demand is Recovering

But regardless, recovery still is on the horizon. And this is evidenced by the climbing leasing rate of offices over 100,000 square feet.

In Q1, there were 38 leases over 100,000 square feet signed while in Q2, the number rose to 46. 

These larger-scale leases helped to drive the overall growth in signed lease transactions. And this is especially impressive because in a post-pandemic leasing environment, the trend thus far has been towards streamlined footprints. Therefore, there was a notable drop in larger-scale leases as businesses took advantage of the implicit money-saving potential of reductions according to a hybrid or remote dominant workforce.

And just for reference, the issue has gotten so severe for regions that used to be dominated by tech leasing that in Q1, there were zero tech leases signed over 20,000 square feet in hotspots: Atlanta, Denver, Los Angeles and Austin. Read more about what the pullback in tech leasing means for the office market. And with the advent of artificial intelligence, companies will be able to do more with less white collar labor. This will most assuredly impact the demand for office space in the future and continue the trend towards smaller footprints. 

So, the rise in large-footprint buildings is a reason to be (cautiously) hopeful. Because that asset class represents some of the hardest hit buildings of recent years. From the first quarter of 2020 to the fourth quarter of 2022, there was a dramatic raise in vacancy rates among buildings between 100,000 and 300,000 square feet. And when we say dramatic, we mean dramatic, try going from 9% to 57%. Now, net absorption is still in the negative, but it has largely cooled off.

The performance of large buildings has been indicative of the overall market’s health and their rebound is a promising sign. 

Premium Properties Continue to Dominate Leasing

The other trend to mention that’s dominating the growth of office leasing is the “flight-to-quality.”

As existing leases expire, tenants have overwhelmingly opted to direct their corporate real estate capital into streamlined properties with premium features. And the growing preference among tenants and investors for high-quality, modern, and well-equipped office spaces has rapidly devalued older or less desirable alternatives.

And this is reflected in overall higher demand for newly constructed buildings.

Older and outdated buildings are also among the buildings hardest hit since the pandemic. There has been a nosedive in the demand for buildings constructed from 1980-2008.

The flight-to-quality doesn’t show signs of showing and it is driving the leasing volume in key cities like Manhattan and San Francisco. Read more about how the flight-to-quality is affecting the office market.

Leasing Growth According to Region

As discussed, leasing growth is not uniform across the board. Certain pockets of standout activity are driving the overall increase in numbers. This trend is also notable in a regional sense.

While some office markets are rapidly becoming ghost towns, others are witnessing incredible growth.

The most impressive gains this quarter were observed in Baltimore, Maryland. Leasing rose in a quarter over quarter basis by 182%. And while this may seem random at first, it doesn’t exist in a void. The flight-to-quality has largely driven tenants to tertiary markets where premium features (and large footprints) are affordable.

Baltimore and the Mid-Atlantic region in general are an attractive prospect, offering businesses a strategic location, competitive costs of living and business, and diverse economic landscape. Just for reference, Class A office space in Baltimore averages around $29 per square foot.

But it wasn’t just Baltimore that witnessed dramatic gains. There were six markets which grew by over 100% and twelve that grew from 25% to 99%.

Other standout locations included Texas, which has seen an uptick in leasing due to the expansion of the energy industry. Texan cities also witness dramatically higher occupancy rates across the board than the Northeast which shows hope that leasing rates will remain consistent when pre-pandemic leases expire. Read more about why businesses are moving to Texas.

Things May Continue to Get Worse Before They Get Better

So, we gave the positive and the negative of it, but the truth is that while office leasing is showing signs of life, things will likely get worse before they get better.

There’s still intense over-saturation to be dealt with and until the market absorbs the excess, vacancy rates will not level out. And at this current rate that may take some time. But there’s hope on the horizon as the industry attempts to tackle the wasted space crisis.

Therefore, it’s been predicted that vacancy rates will continue to peak in the next 24-36 months before they truly stabilize. But in the meantime, the growth this quarter is a positive indicator of the performance to come.

What Leasing Growth Means for Office Tenants

For tenants, the time to strike is now while there’s still a glut of office space. Your actions in the next two years will make or break your portfolio. Because a tidal wave of CMBS loans is set to hit the market by 2025. Prepared tenants now are in a position to slash rent costs while finding the building the building of your dreams and optimal terms. And those who don’t act may miss out on the opportunity of a lifetime to optimize their commercial real estate.

So, if you want to right-size, renegotiate, or relocate any of your leases, there is no time to waste.

The True Tenant Rep™ experts at iOptimize Realty^® have weathered 30+ years in the CRE world. This means, we’ve seen it all when it comes to trend. This latest opportunity for tenants represents a tangible method to take millions off their CRE spending. This is not the time to use the landlord’s broker. You want the representatives that actually have your back. Get the best deal by working with a True Tenant Rep™ at iOptimize Realty^®.  

To empower you to take advantage of the leasing environment and find the best office space for the best price, we have inserted all the tips from the True Tenant Rep™ experts at iOptimize Realty^®   in the free course below. Enroll for exclusive access.