Windy City's Office Sector
Shows Signs of Slowing

Although the second chunk of one of the largest real-estate portfolio sales in Chicago's history was recently completed, some say the air could be leaking out of the investment-sales market in the Windy City region.

Tishman Speyer, one of New York's largest real-estate companies, acquired five office properties in downtown Chicago from an affiliate of the Blackstone Group as part of a deal completed last month that was worth some $1.7 billion. The Tishman deal closed shortly after GE Real Estate paid Blackstone about $1 billion for a group of suburban Chicago buildings.

The Tishman transaction, which closed within the roughly 60 days allotted, was closely watched by many in the real-estate industry well beyond Chicago for signs of the effects of the waning availability of easy credit.

"The fact they were able to close it in a timely fashion and in the price range expected is positive," says Delores A. Conway, director of the Casden Real Estate Economics Forecast at the University of Southern California's Lusk Center for Real Estate.

The optimism was overshadowed by other indications that Chicago's office-sales market could be slowing, even as the office rents and vacancies are largely improving.

The Chicago-area office market has seen its previously stubborn vacancies fall nearly two percentage points over the last year to 16.5%, according to Property & Porftolio Research Inc., a Boston-based real-estate research firm. Still, further tightening could be partially offset by new construction and job growth just below the national rate and the area's annual rent growth is forecast to be 3% for the next five years compared with the 3.8% average for 54 major U.S. markets, PPR says. The region, home to about 8.9 million residents and one of the country's largest warehouse markets, also saw industrial vacancies tighten, though retail vacancies are moving up, PPR says.

Office towers that were included in a large portfolio sold by an affilliate of The Blackstone Group.

In contrast, the average price paid for office space per square foot for deals valued at $5 million and more in the Chicago area edged down slightly for the 12 months ended in the second quarter to $191 a square foot, from $201 a square foot in the 12-month period ended in the first quarter, according to Real Capital Analytics, a New York-based real-estate research firm. The flattening comes after a surge of buyers bid up average prices paid per square foot on office by about 13.6%, to $191, in 2006 from the year earlier, Real Capital says.

Many in the industry have noted that Tishman held on to two of the Blackstone properties that it had unsuccessfully tried to sell to third parties, while one building from the Blackstone portfolio was sold immediately to the Hines U.S. Office Value Added Fund II L.P., which is affiliated with the privately-owned real estate firm known as Hines. Tishman declined to comment on the matter. Some say the failure to sell the two other properties wasn't a sign of a weakening market but rather partly related to such issues as the older age of one of the buildings and the short turnaround that would have been difficult to pull off in the dog days of summer.

But others say the weakness could be broader. Separately from the Tishman deal, one high-end office building for sale in downtown Chicago was taken off the market recently as the owners decided it was better to hold on and lease up some vacancies than to sell when prices are under pressure due to debt-market concerns, according to Tom Danilek, senior vice president in the Chicago office of Hines.

Dan Fasulo, managing director at Real Capital, also says office-building prices in Chicago are more susceptible to the debt concerns than coastal markets like New York that have posted eye-popping rent gains in recent years. Chicago sellers can't point to a history of fast-rising rents that make premium price tags palatable in the current environment. "That story doesn't fly in Chicago," Mr. Fasulo says.

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