Our buildings are doing well. It’s all the others who are in trouble.
You’ve probably heard versions of this claim from large office owners over the past couple of years, as the shift to distributed working has led many to wonder how these assets might retain their value.
For a while, the office property investment-sale market was on ice, so doomsayers and optimists had to wait. Meanwhile, each new lease was celebrated as a sign that normality was on the horizon. Owners and their boosters have tried every argument in the book to bring people back, from civic duty (Jeff Blau and Mayor Eric Adams) to productivity (Marc Holliday) to vibes (Rob Speyer).
But it’s clear that remote work – frequency and proportion will vary – is here to stay. And a new analysis predicts how devastating this could be for office property values.
“Work From Home and the Office Real Estate Apocalypse,” by NYU’s Arpit Gupta and Columbia University’s Vrinda Mittal and Stijn Van Nieuwerburgh, attempts to reevaluate New York’s commercial office stock by “taking into account the flows pandemic-induced cash flow and discount rate effects”.
It finds that by 2029, the value of the city’s office stock will decline by 28%, or $49 billion, as rental income and the number of new leases decline. Extrapolating to the national office market, the analysis estimates that around half a trillion dollars of value could be wiped out.
“Remote work changes the risk premium on office real estate,” the authors write in a draft published this week. “In other words, returns to the office now incorporate the risk that remote working could be a significant risk for offices.”
The analysis looked at CompStak’s lease-level data across 105 office markets. It found an 8 percentage point decline in rental income from January 2020 – just before Covid – to December 2021. All of the decline, the authors say, came from lower rental volume rather than lower rents .
“Rents may not have bottomed out yet,” the document says, noting that 66% of leases in the United States and 73% in New York have not been renewed since the start of the pandemic, and that vacancy rates are already at 30-year highs in several major markets (20.4% in New York in the fourth quarter of 2021.
The occupancy provides another clue to where things are headed: key card reads in New York metro area offices are down 62% from the start of 2020 to mid-May, according to Kastle Systems data cited by the Wall Street Journal, and an average of 57% in other metros.
There are, however, positives for owners who own the best buildings. The vaunted “flight to quality” is playing out across the horizon, the article concludes. “Their rents on newly signed leases are not going down or [they] even increase, unlike the rest of office stock,” the authors write. “By contrast, lower-quality office stock appears to be a more largely stranded asset, given the decline in demand, raising questions about whether these assets can ultimately be reallocated to other uses.”