For the most part, Metro Denver commercial real estate owners and investors have the luxury of waiting out a short-term economic downturn since markets here have been, and will likely remain, relatively strong compared to many areas of the U.S.
Rising Federal Reserve interest rates haven’t significantly impacted commercial real estate deals and markets yet. We have every reason to believe that even if the Fed continues its attempts to slow the economy, markets here will only decelerate, not necessarily decline.
Market rents have increased over the past year in both the office (albeit slightly) and industrial sectors, and they’re likely to continue to grow in the foreseeable future.
Commercial Office Real Estate Data Highlights
The vacancy rate for office space remains high, compared to the past 10+ years, at 14.8%. Factoring in the sub-lease space in the market brings the overall availability rate is closer to 20%. Office vacancy rates are expected to peak in Q4 and then begin to drift lower throughout 2023, thanks to new companies moving into the area and additional employees returning to the office after working at home for the last two years. It will take several more years at least, though, for office vacancy rates to fall to their historical equilibrium of roughly 10%.
Denver’s major employers are resilient, especially those in the tech and life-sciences sectors. As the labor market softens, employee work-from-home (WFH) allowances will moderate, and employers will increasingly bring their staff back to the office full time or in hybrid WFH/in-office arrangements.
Market sale prices for office space, currently inching up with just an $8/sq. ft. increase over the last year (which equates to 3.2% year-over-year), are expected to slightly increase in 2023.
Commercial Industrial Real Estate Data Highlights
The industrial real estate sector is still strong and still growing. But those trend lines are showing signs of flattening out, even though industrial real estate remains a strong landlord market. The demand for biotech industrial space is still a significant bright spot along the north Denver-Boulder corridor.
In the critical small-to-medium size industrial space, rising interest rates and economic uncertainties are not having an impact yet. Anecdotal reports indicate that deals in progress are proceding and few investors/landlords, if any, are defaulting.
Rent growth for industrial space is robust, up 7.4% over the past 12 months. As would be expected, sale prices are continuing to increase as well. The $19/sq. ft. sale price increase for industrial space over the past year is remarkable (equating to 11.3% year-over-year), but not as noteworthy as the annual increases registered in Q2 and Q1 of this year: $25/sq. ft. and $23/sq. ft respectively.
Although roughly 9.5 million sq. ft. of industrial space is under construction in Metro Denver (much of it in the east and northeast corridor toward Denver International Airport), well under half of that new space is pre-leased – significantly less than developers enjoyed in recent history. Investors seem more eager to buy vacant buildings, even at a small premium, to avoid uncertainties caused by construction costs, labor shortages, and supply chain issues.
Future projections indicate that industrial vacancy rates are close to bottoming out at 5.7%. More industrial properties are coming on line, and the economic slowdown will reduce consumer demand for products, contributing to a modest reduction in demand for distribution warehouse space.
Final Thoughts
Federal Reserve actions will undoubtedly put downward pressure on the commercial real estate market across all segments – in Denver and everywhere else. But Denver remains a desirable commercial real estate location and this metropolitan region will experience a shorter and shallower commercial real estate market downturn – if history proves to be a reliable guide.
Deals that are currently in progress will proceed; however, the investors and tenants that can remain on the sideline will stay there until we have greater clarity related to the U.S. political situation and monetary policy.
Some opportunistic buyers have the luxury of waiting for prices to fall. Some sellers have the benefit of knowing they might not be significantly impacted by an economic slowdown – but they’ll still need to be flexible on price if they must sell at this time and/or they don’t have an exceptional roster of tenants.
It all adds up to lower volume and less turnover for the foreseeable future.
If you’d like to dig deeper into this data or if you have questions about what all of this might mean for your commercial real estate investment plans or your tenancy situation, please contact us