Is the Houston Office Market Improving?

by CoyDavidson on December 9, 2010

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When will the recovery begin in the Houston office market, or has it already?

The 4th quarter is about to conclude putting an end to what has been a lackluster year for the Houston office space market. In the Houston office of Colliers International our research team will soon begin crunching the numbers on the final market indicators for the year. The sentiment in the marketplace and among our office market professionals is that leasing activity picked up during the 4th quarter of this year. This perceived increase in leasing activity while not dramatic was noticeable when benchmarked against the first three quarters of 2010.

This begs the question “Is the Houston Office Market entering the recovery phase of the market cycle?” Before I speculate as to whether the recovery has begun and offer up my prediction as to how the 4th quarter and year-end statistics shake out, let’s take a look at how the Houston office market has performed going back to the peak of the market cycle.

The peak of the Houston office market in terms of the overall occupancy was at the end 2007 when all classes of office space city-wide recorded an occupancy rate 88.2% as compared to 83.4% at the end of the 3rd quarter of this year. As we entered 2008 many markets around the country were starting to feel the impact of the Great Recession and leasing activity began to dramatically slow down. In Houston, we kept on trucking propped up by the strength of the Energy industry, and while we were reading and hearing about the nation’s economic woes, Houstonians were asking the question, What Recession?

Houston: Overall Office Occupancy Rate

In September of 2008, Hurricane Ike slammed ashore near Galveston and ripped through Houston, and while the serious damage was limited to the coastal areas, it shut down the city for a short period time. Houston is resilient and we recovered quickly from the impact of the storm, but as we got back to business we awoke to a new reality. Hurricane Ike had come and gone, but in the meantime the recession had arrived in Houston and this storm was not going to exit so quickly. In the first quarter of 2009 the economic downturn began to make its impact on the Houston office market.

Houston: Office Space Net Absorption

4th Quarter Forecast and What Lies Ahead?

Like any good economist would do in forecasting economic indicators, I am going to leave myself a little ‘wiggle room.” I believe we are going to a see a positive net absorption number posted in the Houston office market for the 4th quarter. My expectation is around 400,000 square feet and we could end up slightly on either side of that number.  Should this prediction, be relatively accurate, then the occupancy rate will remain basically unchanged on a year-over-basis. However, I do believe the strength of the 4th quarter’s numbers will be more apparent in the Class A sector, as tenants continue the “flight to quality” and take advantage of attractive leasing terms.

In essence, like many other cities around the country we are seeing a bifurcated market where the Class A sector is entering into recovery phase, while market fundamentals for lesser quality properties continue to deteriorate.

The Houston office market experienced some question marks in 2010 beyond the national economy, that to some degree have played out without the worst case scenario result in regards to Gulf Drilling moratorium and the NASA budget battle. The offshore drilling industry will say that even though the moratorium has been lifted, that this issue is far from resolved as the current regulatory environment is too onerous. The net impact of the NASA budget compromise is still fuzzy and in the CBD, beyond the Continental-United merger, several large Energy concerns are candidates for space reductions as well.

Job growth in Houston has returned, albeit slowly with help primarily from the Healthcare and Energy sector. The wounds of the recession were not as deep on the Houston office market compared to many cities around the country.  The Houston office market is more likely to record several quarters of modest positive absorption in order to return to the occupancy rates comparable to 2008, but to use a football analogy, “we don’t have to drive the entire length of the field” as we have better field position than most markets.

Presently Energy prices are stable and many industry analysts are predicting higher prices. Should energy prices elevate for a sustained period, coupled with growth in the national economy better than projected in 2011. Then the office market could begin a much more rapid ascent through the recovery phase to expansion.

Looking at the market cycle graph above, Houston is likely at point 3 at the bottom of the cycle. The safe prediction is to go with the crowd and forecast only modest improvement to the office market at least until the latter of half of 2011. More importantly, for the office tenant who has yet to take advantage of the window of opportunity provided by an unbalanced market, it is important to do so while you can, because it might close quicker than expected.

Stay tuned, the end of the year office market reports will be released in early January. Where is your city in the market cycle?

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