Tide is Turning: Re-Evaluating U.S. Office Investments

strategic recommendations

• Take advantage of the generational reset in basis. While timing the bottom is not realistic, the recent upward inflections in office volumes and pricing help to illustrate that this is an attractive entry point. For more modern, well-located office properties in particular, this period of relative dislocation could prove fleeting.
• Resist the urge to write off the entire office sector as appropriate for only opportunistic investors. Occupiers are showing a clear preference for vibrant properties that are continuing to lease well in walkable CBDs and dynamic suburban locations. Kastle Systems data shows that among Class A+ buildings, peak midweek office usage has recovered to a full 93% of pre-pandemic levels. C&W’s proprietary research also demonstrates that half of all Class A U.S. office buildings are 100% occupied or have sub-10% vacancy. In other words, there are compelling investment strategies across the full spectrum of office properties including top tier, core and core plus properties.
• Longer-term core buyers should invest with an eye towards emerging shortages of trophy space. While tenants continue to crowd into the highest quality buildings, new office construction is at rock bottom. Office construction starts over the past four quarters totaled just 0.2% of inventory, falling behind the annualized pace of office demolitions over the past ten years, which averaged 0.3% of inventory. This dearth of development sets the stage for eventual shortages of trophy office space in many markets, which could also benefit today’s commodity A and Class A-minus properties best positioned to benefit from spillover demand.
• Patience and selectiveness should prove more advantageous for buyers targeting distressed, lower-quality properties. Given the large number of outdated office properties/loans struggling to lease/refinance, and the protracted timeline that is typical for borrowers to relinquish ownership, the current distress cycle is still in the early innings. Distressed office sales only began picking up in earnest 18 months ago, whereas distressed sales continued in high volume for more than six years following the onset of the Great Financial Crisis. Buyers seeking to infuse capital into distressed situations will be well served by spending the time to establish new relationships with lenders and workout teams. Opportunities for recapitalization, acquisition, conversion and/or redevelopment of low occupancy properties aren’t likely to diminish overnight.