Houston’s second place rank in Fortune 500 headquarter locations, coupled with one of the healthiest population and employment growth rates among major U.S. cities, has resulted in one of the most stable commercial real estate markets in the nation over the past ten (10) years. Houston’s population growth, affordable housing and cost of living, young educated work force and a thriving energy industry, Houston faired the 2008 global recession better than all of the nation’s largest employment bases, and Houston was first to recover all jobs lost in the recession. The overall office market turned positive in 2010 with absorption just under 2 million square feet citywide. The citywide total absorption from 2011 through 2014 totals just over 21,300,000 square feet. This year started positive for the overall market with total citywide absorption at 1,591,797 square feet through year end 2015.
The Houston office market continues to benefit with the growing local economy supported by energy, the Port of Houston and the medical sectors of the economy. The overall citywide vacancy rate is 13.5%, which is up from 10.8% at year-end 2014. We anticipate rental rates level off in the central, northern and western submarkets for the first half of 2016. As shown below, the outlook for positive job growth is projected at 2% for 2016 with decreasing new office supply over the next two (2) to three (3) years.
Houston is the energy capital of the world so with the price of oil decreasing from $100.00 per barrel to below $40.00 per barrel from August 2014 to year end 2015, the industry has reacted quickly. Capital spending for new exploration and production were diminished across the board anywhere from 50%-70% in 2016. This has forced the reduction in new drilling programs and oil service providers to adjust their work forces in a major way. The bright spot in this decline has created an expansion with the midstream companies (storage pipeline) and downstream companies (refining and distribution). In addition, with a continued low natural gas has created a 90 billion dollar renovation and expansion in the petrochemical refining industry along the Gulf Coast.
There is currently 6.7 million square feet of office properties under construction citywide in the first quarter of 2016. Just over 3.4 million square feet is preleased. The remaining 3.3 million square feet that is not preleased is located in the CBD, western submarkets as well as The Woodlands submarket in north Houston. There will be one new office start in 2016 in which Lockton Companies preleased 120,000 square feet in a new 175,000 square foot building located in the Westchase submarket.
Absorption continues to be steady through year end 2015, with an overall absorption of 2,653,459 square feet. Most of the positive absorption occurred in the Energy Corridor and The Woodlands.
Citywide rental rates increased on all asset classes through year end 2014, ending the year at an all-time high of $27.24 per square foot. Through first quarter 2016, rental rates have increased to $28.06 per square foot. Class A rental rates have remained flat at $34.31 per square foot, which is down slightly from $34.51 per square foot at year end 2014. The Class B market had a slight decrease going from $21.35 per square foot at year end 2014 to $21.42 per square foot through first quarter 2016. The Class C market increased from $16.38 per square foot at year end 2014 to $17.17 per square foot through first quarter 2016. With limited and decreasing new supply under construction, expect rent rates to flatten out in all northern and western submarkets through the first half of 2016.
The overall citywide absorption through year end 2014 was extremely strong with over 7.7 million square feet of positive absorption. The submarket leaders in positive absorption were the CBD, Energy Corridor, Westchase and The Woodlands. The first quarter absorption remains strong with just over 1.6 million square feet absorbed in the first three (3) months of 2016, and through year end 2015 the market absorbed just over 2.6 million square feet of absorption citywide. We do not expect absorption at 2015 levels this year as the effects of oil prices and staffing adjustments at local upstream exploration companies continues in the first half of 2016.
Tenants moving into large blocks of space in the first quarter included NOV (415,000 square feet in Westchase), and BMC Software (197,440 square feet in Westchase) and Stage Stores moving into 168,000 square feet at 2425 West Loop in the Galleria submarket. The majority of negative absorption in 2015 was due to Exxon’s relocation to their new corporate campus. They vacated over 1.7 million square feet in the second quarter of 2015 alone.
National and international investors continue to be drawn to Houston due to its strong economic fundamentals, which are being driven by solid future employment, population growth, energy, space and medical sectors as well as one of the busiest ports in the country. The main economic drivers for 2016 will be midstream and downstream energy, petrochemical expansion, the medical sector and the expansion and growth of the Port of Houston.
• Houston is the fifth largest office market in US
• Citywide net absorption totaled positive 1.6 million square feet through the first quarter 2016
• Citywide average rental rates are $28.06 per square foot, up from $27.46 per square foot at first quarter 2015
• Citywide sublease space totals 9.4 million square feet
• 4.6 million square feet delivered in 2015, and 1.7 million square feet delivered in the first quarter 2016
2016 Office Market Outlook
• Protecting occupancy and maintaining quoted and effective rental rates is the focus for 2016
• Landlords are holding onto face rental rates and offering increased rent abatement and higher than usual tenant allowances
• The main driver for office demand is job growth, estimated to be 20,000 new jobs in 2016
• The petrochemical sector, healthcare and the Port will be main drivers for job growth
• Fundamentals remain stable in major submarkets, except in the Energy Corridor and Woodlands submarket
• Positive job growth and preleased space will drive positive absorption in 2016 (estimated 2.5 million square feet)
• Increase in property valuation have increased operating expenses across all asset classes
• Concessions will increase in the submarkets most effected by the oil correction
2016 Office Market Highlights
• Hilcorp moves into new CBD corporate headquarter (400,000 square feet)
• BP puts Westlake Four on sublease market (540,000 square feet)
• Statoil puts 300,000 square feet on sublease market in Westchase – 8 years remaining
• Conoco to buy Energy Center III – 5% cap
• Stage Stores moves into 168,000 square feet at 2425 West Loop South – Galleria
• BMC Software moves into 197,000 square feet at CityWestPlace 4
• National Oilwell Varco moves into 400,000 square feet at Millennium II
Houston Economy Trends
• Metro Houston led the nation in population growth last year, adding more than 159,000 residents, according to recent estimates by the U.S. Census Bureau.
• The region’s unlikely to experience such robust growth in ’16.
• The region will add another 60,000 residents this year through the “natural increase.” The natural increase is the number of resident births in the region minus the number of resident deaths.
• In a typical year, Houston experiences about 95,000 births and 35,000 deaths.
• Among all U.S. counties, Harris County led the nation in population growth, adding 90,451 residents.
• Among U.S. counties with populations of 250,000 or more, Fort Bend grew the fastest, its population climbing 4.3 percent in one year.
• Foreign-born residents accounted for two of every five newcomers in the past five years.
• Houston absorbed between 3.9 and 4.8 million square feet of office space last year and another 200,000 to 1.0 million the first quarter of ’16.
• United Airlines leases 225,000 square feet at 609 Main
• Linde North America leases 50,000 square feet at 12140 Wickchester
• The Houston-The Woodlands-Sugar Land metro created 10,100 jobs in February, according to the Texas Workforce Commission (TWC). The 25-year February average is 17,100 jobs, so this year’s performance reflects the overall weakness in Houston’s economy.
• The Partnership announced the release of the Houston Metro Export Plan on April 6. The plan’s goal is to grow Houston’s economy and create jobs by expanding exports and trade through connecting existing and potential exporters to re-sources which assist them in accessing global markets.
• Developers offering more concessions on new projects in West Houston, mainly rent abatement and higher than proforma tenant allowances
• Protecting rent roll with early renewals taking larger tenants out of the market now
• Quoted rents are holding in major submarkets and slipping on secondary submarkets
• Spread between quote and lease comps are expanding
• Capital improvements focused on curb appeal and amenities to compete with new construction
• Focus on operating cost reductions
o Purchasing future energy contracts and locking rates
o Aggressive tax protest and litigation due to current strategies and aggressiveness of the appraisal districts
o Reduction in premiums via insurance pools or master policies
o Next wave of energy efficiency upgrades – Advanced BAS, Lighting Controls, LED technology, new HVAC equipment
• Due to oil correction, all tenants think rental rents should decrease in the near term
• Consolidations in upstream energy sector to be more efficient coming out of this cycle
• Expansions in financial sector (BBVA, Amegy, Regions) continues
• Leveraging sublease space opportunities on renewals
• More flexibility in lease terms and future options and rights