Office Sales Decline as Prices Remain Stable—For Now

MBA (4/11/2008 ) Murray, Michael
Buyers and sellers of office properties are at a stalemate—and waiting it out—as properties continue to produce cash flow while credit crunch-related cap rate increases.

Real Capital Analytics, New York, reported sales of significant office properties totaled $2.5 billion in February—a 45 percent decline from January and a 95 percent drop from one year ago. Office sales totaled $6.8 billion—10 percent of the $68 billion transacted in the first two months of last year.

Meanwhile, new listings of office properties outpaced closings by 4-1 in February, up from 3-1 in January; and a greater proportion of sales involve core or stabilized assets rather than value-added strategies, RCA reported.

“During the past six months, offerings have exceeded closings for two-thirds of all markets nationally,” said Robert White, president of Real Capital Analytics. “Significant inventories of office properties for sale exist in Sacramento, south Florida, southern California, northern New Jersey, Houston, Dallas and even Manhattan.”

Moody’s Investors Service, New York, reported Los Angeles and New York City as top 10 cities found most frequently in the commercial mortgage-backed securities market based on dollar volume, followed by Houston, Philadelphia and San Francisco .

“In as much as there is some downward pressure in pricing and we are in a tighter credit market, that inevitably is going to make it more difficult for buyers and for sellers,” said Sam Chandan, chief economist at Reis, New York.

RCA reported median cap rates up 50 basis points nationally since August, as yields for top assets increased less than 25 basis points. Cap rates for lowest quality office properties were up by more than 75 basis points in February.

“Investor and property owners may not feel pressure to sell,” Chandan added. “[They] are—all things being equal—less likely to bring their properties to market when they perceive that they may not get full value.”

JP Morgan , New York, reported that most of the commercial mortgages have extension options; RCA said despite more sellers than buyers, there is little evidence of distress selling or “fire sale” pricing.

“Asking prices remain fairly aggressive although sellers are more willing to negotiate, but only to a point,” White said.

Sales price as a percentage of original asking price dropped to 94 percent in February, down from slightly more than 95 percent prior to the credit crunch, RCA reported.

“As the credit crunch draws on, pressure to sell will mount and pricing largely depends on this dynamic,” White said.

“We are also in a period of price discovery, following a couple of years of fairly dramatic decreases in cap rates,” Chandan said. “There are clearly markets not as liquid where there are not a lot of transactions to observe. There are different assessments of where the market should stabilize and what appropriate pricing is.”

Washington, D.C ., sixth in Moody’s list of top 10 CMBS market cities, was followed by Atlanta, Chicago, Dallas and Miami, respectively.

Delta Associates, an Alexandria, Va.-based research firm, said that in the first quarter—on an annualized basis—asking rents grew 4 percent in the Washington, D.C. metro area and 1.6 percent across the region, which included suburban office.

“There aren’t enough transactions to know exactly what’s happening to prices in the Washington metropolitan area, but rents continue to rise,” said Gregory Leisch, founder and chief executive of Delta Associates.
"Sales were pretty anemic in the first quarter."

Based on Delta Associates’ first quarter office report, sales in the Washington, D.C.-metro area grew $543 million compared to $5.7 billion in the first quarter of last year, running nearly 10 percent below last year's volume. Delta Associates forecasts office rents to stabilize this year in Washington, D.C. and for vacancies to increase from 9.1 percent last year to 11.3 percent by December 2009.

"I think prices are going to ease back. I think they will decline for office property, but it's a bifurcated market," Leisch said, noting that trophy properties would keep their prices stable. "I think there will always be buyers for those few 30 or 40 trophy properties in the metropolitan area."

Leisch defined trophy properties as buildings located on 1001 Pennsylvania Avenue NW, K Street NW and in the location that the Mortgage Bankers Association will have its new building on 1331 L Street NW.

"The balance of the office market, I think, will ease back 10 or 15 percent during this softer period that we're heading into before we see the market firm up again in the next couple of years," Leisch said.

Robert Noeldechen, principal at Ernst & Young’s transaction advisory services, New York, said contract rents, leases turning over and local economic implications all factor into the equation.

“Market participants have to focus on what is going on locally,” Noeldechen said. “Real estate is not a spot market. It has historically been a longer-term hold. It’s easy to forget that.”