Offices might not reach pre-covid performance heights until 2025

Vacancy and rental levels could be on a longer-than-anticipated road to recovery, especially in Western markets.

The latest recovery forecast for the office sector looks foreboding. In its Global Office Impact Study and Recovery Timing report, published in late September, property services firm Cushman & Wakefield forecasts global office vacancy to only return to pre-crisis – Q4, 2019- levels of approximately 11 percent by 2025. The crisis-inflicted recession, subsequent job losses and structural shifts in office demand will cause vacancy levels to decline to 15.6 percent in 2022, after which they would start improving, C&W predicts.

Cushman’s outlook for rental growth is also gloomy. The report’s baseline forecast scenario estimates global office rents will decline as much as 10.9 percent peak-to-trough from Q2, 2020 to Q1, 2022. They would revert to pre-covid 19 levels only by 2025 too, the broker says.

Since March, offices have been a particularly thorny sector for real estate investors to handle, with ever-growing questions around underwriting assets, given uncertainty around future demand and the timing of a fully-fledged return to the workplace. Indeed, in its research, Cushman & Wakefield added a caveat about how its forecasts are based on information to hand today, information tinged by “unprecedented level of uncertainty in today’s outlook.”

If leasing activity and rents – two major drivers of office performance – are not bouncing back to pre-pandemic levels for another five years, office investors should brace themselves for a long, sobering road to recovery.

By many counts, the West faces bigger disruptions and long-term structural changes to office demand than Asia-Pacific. The US and Europe have a more ageing labor force and have sustained more pronounced job losses since the outbreak. More crucially, Cushman’s report predicts working from home – one of the biggest threats to the office sector’s recovery – to be less common across Asia-Pacific, especially in populous countries like China and India. Permanent working from home, for example, is estimated to double from 5-6 percent pre-covid-19 to 10-11 percent over the next 10 years in both the US and Europe. In contrast, Asia-Pacific will see it increase from just 2.6 percent to 5.2 percent. Greater China will grow from 0.6 percent to 1.2 percent.

In terms of investment flows, offices have therefore, and predictably, been hit badly in Q2 with $40 billion worth of transactions globally, down 57 percent year-on-year, according to deal data provider Real Capital Analytics. The US, for example, continues to show muted deal activity with only $2.7 billion in office transactions in August.

While current fundamentals and transaction data do not paint an optimistic picture of one of real estate’s most institutionalized asset class, analyzing the office sector’s recovery path in previous cycles offers some hope. Highlighting the “resiliency of office investment flows in global gateway markets,” broker Knight Frank noted in its Forecasting Capital Flows in 2021 report that demand for US office assets ended up recovering by Q3 2009 after the global financial crisis. The UK has also always remained in the top five destinations of global cross-border capital in every quarter except for the two right before the GFC, while office transactions in France and Germany led cross-border capital when the market was recovering from the eurozone crisis. It cannot go unmentioned either, that office transactions, of scale, are still happening. And not all with opportunistic money either. According to UK commercial property website React News, £3 billion ($3.9 billion; €3.3 billion) of offices deals are currently under offer in London alone.

But only once transaction activity fully resumes can the market conclusively determine how pricing has reset to factor in the latest projections of office fundamentals. Until then, and while recovery forecasts continue to stretch out, the big question mark on offices shall remain.

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