Optimism ran high across the Houston office market in the first quarter of 2017. Fresh off an OPEC production freeze and considering the prospect of an awakening oil & gas industry, many were hopeful that oil prices would reach the 60’s or higher, and job growth would strengthen.
Through the second quarter optimism dimmed somewhat as oil prices failed to sustain much real gain. The U.S. rig count has steadily risen and surpassed the 750 mark, representing a 45% increase since this time last year. Reduction in OPEC output has mostly been neutralized by U.S. production increases.
The mid-year report for the Houston office market reflects this reality as the citywide vacancy rate rose yet again to 16.1%. Net absorption has been negative for three straight quarters meaning more space has been left vacant. The trend could continue as more of the 11 million square feet of sublease space expires and trades hands back to landlords. Class A office properties attributed most to the losses with 850,000sf additional vacant space. Vacancy decreased among Class B office buildings suggesting some companies relocated to reduce rental expense in the tough economic climate.
Best & Worst Performers
Very few sub-markets posted strong performance in the previous quarter, but a few managed to reduce overall vacancy. These include Bellaire, Richmond/Fountainview, and San Felipe/Voss. The worst performers included the North Belt, West Loop, and Greenway Plaza. Overall vacancy rates increased in 12 of the largest 20 sub-markets in Houston this quarter.
What About Rental Rates?
Yet again average rental rates increased across the Houston office market in Q2. This despite continued concern around the prolonged oil & gas recovery, significant levels of sublease space available, and 3 straight quarters of net negative absorption. The gains were fairly tepid though, and we expect to see rates drop over the next few quarters if absorption losses continue.
Upcoming Construction Deliveries
A total of 19 office buildings completed construction and delivered to the market in Q2 2017 adding about 350k square feet of space. Remaining construction to be delivered still exceeds 3 million square feet, with 42% of that space already preleased. Downtown/CBD accounts for a quarter of the remaining under construction office space with Sugar Land accounting for another 13%. Two thirds of the under construction projects are anticipated to deliver in 2017 with the remainder delivering in the first half of 2018.
The office market continues to soften as the oil recovery has lagged and market equilibrium has remained difficult to attain. Many commercial real estate professionals across Houston are voicing optimism that we’ve reached bottom. This may be true in terms of oil prices and layoffs, but for the office market we believe there is room to go. At the end of the day deals are being negotiated well below the quoted rental rates as rental abatement and generous tenant improvement allowances abound. For companies weathering the storm or in industries less affected by oil now is a great time to consider finding new office space.
View the full market report here.