On the surface, U.S. office metrics for Q2 2024 might seem grim, with continued double-digit vacancy, ongoing negative absorption and sluggish rent growth. “The U.S. office market continued to experience the post-COVID slowdown that started in 2020,” according to Colliers’ Office Market Statistics Q2 2024 report. Fundamentals remained soft, new construction starts stopped in most cases, and concession packages were at an all-time high.”

Now, for some good news. Analysts issuing reports discussed an increase in overall absorption, a decrease in construction and a slow but steady rebalancing.

The Hybrid Work Scenario

One thing that’s taking place is that hybrid work recalibration is finally settling down. “Return-to-office rates continue to stabilize as most private employers have solidified office attendance over the past two years,” JLL’s U.S. Office Market Dynamics for Q2 report noted. The result is that the sector is approaching a new equilibrium.

JLL also commented that leasing strategies are shifting “as both tenants and landlords seek to avoid higher costs of capital associated with elevated interest rates.” This is leading to lower TI allowances, meaning an uptick in tenant renewals. “Other pre-built spaces, including spec suites and high-quality sublease listings, are also leasing up at an accelerated pace as tenants avoid upfront costs,” JLL said.

Another positive aspect of hybrid work stabilization is that it’s providing a baseline for space requirements, according to Cushman & Wakefield’s U.S. National Office Marketbeat for Q2 2024. The report indicated that attendance is stabilizing in the 60%- 70% range on peak attendance days. “Cushman & Wakefield’s current base case calls for occupancy to begin to stabilize in the second half of 2025, as hybrid space recalibration slows down and both headcount growth and new business formation create office demand,” Cushman & Wakefield analysts added.

Negative Absorption on the Wane

Most of the Q2 office absorption totals had a “negative” sign before them. On the positive side, negative absorption is declining. Lee & Associates’ Q2 2024 Market Report said that absorption improved by 28% year-over-year, while JLL’s figures were closer to a 50% YoY improvement. Cushman & Wakefield added more positive news, pointing out that Q2 absorption was positive in one-third of the U.S. office markets.

Cushman & Wakefield also pointed out that the market is no longer bifurcated, but trifurcated when it comes to performance and rents. “The best product is performing well with minimal vacancy,” the analysts commented. “Obsolete product may require investment or conversion, and the middle market faces a highly nuanced outlook with both opportunities and challenges in the years ahead.”

Also on the Wane: Construction

One factor helping with absorption is a construction reduction. Supply has dwindled across all CRE product types because of inflation, market fundamentals and the ongoing high cost of capital. As a result, “new construction is down,” with new added inventory at its lowest rate since 2013, according to the Lee & Associates analysts. JLL analysts agreed, pointing out that “over the past 12 months, the U.S. has seen the lowest volume of office construction starts on record,” with the pipeline falling nearly 70% since 2019.

Cushman & Wakefield analysts believe deliveries will likely dwindle in the near term, though strong demand continues for new, high-quality space. While the pipeline suggests that underbuilding could be a factor, “lower delivery totals should help the broader market recover, giving existing buildings time to stabilize occupancy with less competition from new construction,” the analysts said.

Absorption of office space is expected to remain negative through 2024 and 2025, though the rate of negative absorption is expected to slow to a near halt by the second half of 2025, according to the NAIOP Research Foundation’s Office Space Demand Forecast.

“The office market performed worse in the first quarter of 2024 than previously forecast, with national office net absorption totaling a negative 13.4 million square feet,” according to the report. “Office utilization has remained relatively flat since the beginning of the year, possibly due to a reversal in optimism about the economy in late 2023 that may have led firms to pause expansion plans. Elevated interest rates are constraining corporate earnings and firms’ ability to expand their operations, which appears likely to continue, at least in the near term.”

“Given these trends and the possibility of a recession in 2024, net office space absorption over the last three quarters of 2024 is expected to be negative 11.8 million square feet. Moving forward, the forecast projects that net absorption in 2025 will total approximately negative 4.5 million square feet.”

The NAIOP reported noted that once the economy returns to a trend of sustained growth and lower inflation, office demand should increase as firms need to lease space to grow their operations. Although such a scenario once seemed likely to occur in 2024, now it’s unlikely to materialize until 2025 at the earliest.

“The interest rate environment is one that has remained stubborn, though commercial real estate sentiment overall remains positive, and industry-wide, we are still looking for conditions to improve into 2025,” said Marc Selvitelli, CAE, president and CEO of NAIOP. “Office has been most severely impacted by changes in work patterns driven by the pandemic. As overall economic conditions improve, we expect to see a corresponding increase in office space utilization.”

Amid this backdrop, Trepp reported that a total of $75.74 billion of CMBS loans against office properties mature by the end of 2025, or more than half the $135 billion of all CMBS loans that were slated to mature this year and next. Meanwhile, $1.08 trillion of the total $5.54-trillion universe of commercial real estate loans come due this year and next.