Office boom past its peak, but still up

The surge in office development is ebbing, but office construction spending will expand 12% in both 2008 and 2009, on top of 19% gains experienced in the previous two years.

While the value of office construction starts is up 27% year-to-date through October, monthly starts during the last four months have fallen below the late 2006/early 2007 peak. Rapid expansion of office-based industries, especially consulting, software, accounting, and insurance, is fueling the rising demand for office space. The pipeline of planned office projects is stuffed with the value of pending projects, triple the amount since the last building cycle bottomed out four years ago. An increasing share of these projects, however, will be substantially delayed or remain unbuilt because new office supply now matches office space demand, keeping the national vacancy rate at 14.8%.

Real estate investors still project high returns for office projects but expect returns to slip from extremely high to above average over the last 18 months. Rollover leases updating 2002 rental rates are pushing up office rents more than 7% this year, but rental growth will slow in the next few years.