Webster Collins, CBRE/New England

Real estate texts when talking about market demand use big words like “inferred analysis,” “fundamental analysis” and levels of demand (i.e. A, B, C, etc.). The here and now market of Boston office properties throws these phrases out the window. It’s all about tenants in the market. This article will address the here and now of tenant issues, their impact on two sections of Boston’s market in particular, and present my prediction of tenant impact on the current market cycle.

The reason I wish to provide commentary on the current market cycle is because the words now part of real estate conversations are saying that within the next 2 ½ years we will be facing a recession.

Market View

When CBRE’s Q3 market statistics landed on my desk the beginning of October 2015, the numbers took my breath away. For the entire year in 2013, total absorption of office space in the greater Boston office market was 1,855,305 s/f. For the first 9 months of 2015, total absorption was 3,697,583 s/f. This is double that of 2013; the year as a whole. This is explosive.

When you peel back on the market and quantify where demand is located what is clear is that the market where the largest impact continues to be felt is Cambridge. Cambridge represents, by itself, 55% of total absorption in Boston. As of Q4 2013, the average asking office rent in Cambridge was $43.32 per s/f gross and for lab space, $49.95 per square foot NNN. As of Q3 2015, 21 months later, average asking rent is $62.73 per s/f gross for office and $67.95 per s/f NNN for lab. This is a huge increase and is a key component on my predictions outlined below. The story of Cambridge is a lifting market story. Other sectors of Boston are not as buoyant and require an explanation.

Boston’s 495 North Market

On September 22, 2015 I had the opportunity to listen to my former CBRE partner John Power “peel back” on the 495 north office market. This market contains 9 major office parks totaling 6,984,223 s/f. Within these parks 2,718,509 s/f is vacant for a vacancy rate of close to 40%. In a strong Boston office market, 495’s large facilities have seen vacancy rates double the suburban market as a whole.

The central theme provided by John Power was that the 495 North market is occupied by old/obsolete tenants. These tenants have been in place for years and do not represent leading edge thinking that is filtering through the Boston market. He used as an example Millipore who is moving out of space upon lease renewal where they could have stayed at a rent of $15 per s/f NNN. They wished to change their image and are moving into the “hot” Burlington market where their rent will be $33 per s/f NNN in a built-to-suit transaction.

What is happening in the 495 North submarket is that prices are in decline. Mr. Power gave as an example the Cross Roads Center in Lowell. This 883,900 s/f complex sold in June 1996 for $14.5 million during the 1991± recession. 19 years later it sold for $15.5 million with term still on its underlying lease. The price is the equivalent to $18 per s/f of building. Asking rent is $2.99 per s/f NNN for an effective 20%+ return. The far suburbs which at one time were looked at as the next 128, are now the feeding grounds for speculative buyers seeking venture capital returns.

Conclusions

The story of large Rte. 495 North facilities and its differences with Cambridge present two contrasting views. The message is the importance of Boston’s urban push. A 6,984,223 s/f Rte. 495 problem carries no relationship to what is going on close to Boston.

I am part of Lehigh University’s real estate program whose theme in their high level Real Estate Today program at each market turn has been “show me the money.” It is the flow of money that drives the future of Boston’s market. Boston is one of the top money magnets in the world. Where capital is flowing is to the cities of Boston and Cambridge plus Waltham and Burlington.

I have been reading recently about the flow of worldwide capital. The cities of Boston and Cambridge are clearly in the target for that capital. Normal ebbs and flows of employment growth, automobile sales and traditional predictions do not address the real issue of market change. In my opinion, the capital markets i.e. “the money” is what will govern. For a recession to occur, I believe that a black swan event is required as took place in September 2008. The current cycle, I believe, has none of the characteristics that would cause an event of black swan proportions. I believe that capital flows and tenant driven market demand will continue to be the controlling indicator and will strongly push our market in to the 2020 time frame.

Webster Collins, MAI, CRE, FRICS, is an executive vice president, partner in the valuation and advisory services group for CBRE/New England, Boston.