Office Vacancy Rate Rises
For First Time in Four Years

For the first time in four years, the national vacancy rate for office buildings rose in the fourth quarter, as an unusually large amount of new space came on the market and tenants shied way from signing new leases.

Demand for commercial buildings has begun to slow and vacancy rates to climb in several markets, such as Orange County, Calif., and Las Vegas, that have been particularly hard hit by the nation's housing slump and turmoil in the residential mortgage market.

Coupled with last week's disappointing employment report, the weak office-market figures are another signal the nation's economy is weakening and possibly heading for a recession. Only last summer, commercial brokers were warning tenants that they needed to sign leases quickly at top rents because space was scarce. Now businesses in many markets are delaying leasing decisions in expectation that rents will fall.

Nationally, the office vacancy rate -- as measured by 79 metropolitan markets -- rose to 12.6% at the end of the fourth quarter from 12.5% at the end of the third quarter, according to Reis Inc., a New York real-estate research firm.

Though the vacancy-rate increase is slight in percentage terms it comes after 16 consecutive quarterly declines. "The impact of a slowing economy, in the big picture, is coming to light," said Steve Coutts, senior vice president of national research for Studley Inc., a tenant-representation firm.

Continued nervousness about the possibility of recession and the prospects for business in 2008 is likely to push vacancy rates higher. In 2003, at the height of the last major downturn in the office market, vacancies topped out at 16.9%. "I think we're going to see the market continue to slow in 2008," said Sam Chandan, chief economist at Reis.

Net absorption -- the change in the amount of occupied space -- dropped slightly below 4.4 million square feet in the fourth quarter. By contrast, 16.2 million square feet were absorbed in the previous quarter. In 2000, when the office market was roaring at the end of the technology boom, the figure topped 36 million square feet in a single quarter.

Even as tenants began to pull back on leasing in the fourth quarter, developers added more space to the market. More than 19 million square feet of new office space was completed -- the most since the fourth quarter of 2000, at the height of the last boom.

This year, about 75 million square feet of new office space is scheduled to come online in the 79 markets Reis tracks, up from about 53 million square feet finished in 2007.

Not all markets are showing signs of suffering. Landlords were able to raise rents substantially in some cities on the East and West coasts. Boston saw average effective rents -- or the price tenants pay after concessions -- jump 4.9% in the fourth quarter, and New York City's average rose 3.9%. Denver and Houston showed similar gains.

The Southern California markets of San Bernardino/Riverside and Orange County -- suburban areas east and south of Los Angeles that have been hard hit by problems with subprime-mortgage lending -- saw office vacancies increase 1.9 and 1.7 percentage points, respectively, during the quarter, leading the nationwide rise. Similarly, Fort Lauderdale, Fla., a market swollen by failed condominium projects, saw office vacancies increase by 1.7 percentage points during the quarter.

In Las Vegas the office-vacancy rate rose 1.6 percentage points, to 13.4% in the fourth quarter. Those numbers don't reflect sublease space available due in part to mortgage companies going out of business.

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