Most commercial real estate markets can expect tightening vacancy rates and rising rents, and large investors are pouring funds into commercial sectors, according to a report from the National Association of Realtors.

David Lereah, NAR’s chief economist, said that most commercial market fundamentals are solid. “Commercial real estate markets move in response to changes in fundamental demand, which remains solid as a result of sustained job creation and economic growth,” he said. “Except for some weakness in the retail sector, the commercial market is benefiting from lower vacancies and higher rents.”

Institutional investors have been very active in commercial real estate this year. “Large institutional investors such as pension funds and life insurance companies are considered to be cautious and risk adverse, so their shift of funds into commercial sectors is an affirmation of the wisdom of diversification in commercial real estate,” Lereah said.

Institutional investors and private equity funds accounted for half of all office buildings purchased during the first seven months of 2006, and also purchased one-third of industrial real estate. These institutions spent over $31 billion in all of the commercial sectors so far this year, which is seen to be a record for institutional investment in commercial grade properties.

The NAR forecast for five major commercial sectors includes analysis of quarterly data for various tracked metro areas. The sectors include the office, industrial, retail, multifamily and hospitality markets. Metro data were provided by Torto Wheaton Research and Real Capital Analytics.

Office Market

With a slowdown in speculative construction, office market vacancy rates are expected to drop to an average of 13 percent in the fourth quarter from 13.6 percent during the same quarter of last year, and will be the lowest since 2001. Office rents are likely to rise 5.5 percent for all of 2006.

Areas with the lowest office vacancies currently include Ventura County, Calif.; New York City; Orange County, Calif.; Tucson, Ariz.; Honolulu; and Miami, all with vacancy rates of 8.3 percent or less.

Net absorption of office space in 56 markets tracked, which includes the leasing of new space coming on the market as well as space in existing properties, is projected at 74.5 million square feet this year, compared with 90.3 million in 2005.

Office building transaction volume in the first seven months of this year has risen to a record $55.7 billion, which is 12 percent higher than the same period in 2005. Markets with the highest pricing per square foot are Manhattan, Washington, D.C., and Stamford, Conn.

Industrial Market

Vacancy rates in the industrial sector should decline to an average of 9.7 percent in the fourth quarter from 9.9 percent a year earlier, and will be at the lowest level in five years; rents are forecast to rise 1.5 percent in 2006. Although the greatest demand remains in port markets, new construction is popular in secondary markets and other areas with lower land values and fewer site remediation concerns.

The areas with the lowest industrial vacancies currently are West Palm Beach, Fla.; Los Angeles; Fort Lauderdale, Fla.; Miami; Orange County, Calif.; and Tampa, all with vacancy rates of 5.5 percent or less.

Net absorption of industrial space in 54 markets tracked is expected to be 201.2 million square feet in 2006, down from 295.8 million last year.

Industrial transaction volume so far in 2006 totaled $23.6 billion, with a record possible this year. The highest industrial market rent per square foot is in San Diego; Orange Country, Calif.; and Los Angeles. The highest prices being paid for industrial properties, outside of Manhattan, are in Northern Virginia; San Jose, Calif.; and Las Vegas.

Retail Market

Retail is the only commercial sector currently experiencing a decline in fundamentals. Higher interest rates and fluctuating oil prices are impacting consumer confidence, with some fallout in the retail market. Vacancy rates are likely to rise to 8.1 percent in the fourth quarter from 7.2 percent in the fourth quarter of 2005. Average retail rent will probably decline 1.4 percent this year before gaining traction in 2007. Mergers continue to impact regional malls and main streets in many areas.

Retail markets with the lowest vacancies currently include Las Vegas; Miami; Orange County, Calif.; San Jose; San Francisco; Oakland, Calif.; and Washington, all with vacancies of 3.8 percent or less.

Net absorption of retail space in 54 tracked markets should be 3.9 million square feet this year, down from 30.5 million in 2005.

The highest-priced retail real estate is in Manhattan and Washington, while the highest gross rents are in Riverside, Calif.; San Jose; and Orange County, Calif. During the first seven months of 2006, a total of $22.3 billion was invested in retail real estate.

Multifamily Market

The apartment rental market – multifamily housing – is benefiting from weaker home sales as potential home buyers remain in rental housing. Vacancy rates in the fourth quarter are expected to average 5.2 percent, down from 6.2 percent during the fourth quarter of 2005. Average rent is projected to increase 4.8 percent in 2006, compared with 2.9 percent last year.

There has been a notable decline in condo conversion activity, with some properties reverting back into rentals.

The areas with the lowest apartment vacancies currently include Albuquerque; Los Angeles; Las Vegas; Orlando; Norfolk, Va.; Northern New Jersey; San Francisco; San Jose; and Washington, all with vacancy rates of 2.5 percent or less.

Multifamily net absorption should be 262,800 units in 59 tracked metro areas in 2006, compared with 351,000 last year. So far this year, $41.5 billion worth of multifamily properties changed hands.

Hospitality Market

Hotel occupancies are expected to average 68.4 percent this year, up from 67.6 percent in 2005, and would be the highest since 2001. Just after the events of 9/11, the national vacancy rate was at its lowest on record – 55.0 percent.

Revenue per available room (RevPAR) is forecast to rise to $73.84 in the fourth quarter from $70.43 in the fourth quarter of 2005. RevPAR for all of 2006 is projected to grow 9.5 percent. A record 26,600 hotel rooms will be added to the inventory in 52 markets tracked this year, up from only 4,900 built in 2005.

Markets with the highest RevPAR currently include New York City; Honolulu; Long Island, N.Y.; San Francisco; Boston; San Diego; Seattle and Washington, D.C., all with RevPAR in excess of $102.

The biggest hotel markets by number of rooms include Orlando, Chicago, Los Angeles, New York City, Washington and Atlanta, all with 92,000 rooms or more. Hospitality markets with the highest level of construction include Boston, Denver, Dallas and Washington.

Transaction activity during the first seven months of this year included 956 hotels with a combined value of $30.1 billion, slightly above the total for all of 2005.


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