Low vacancy and a limited pipeline coupled with one of the most diversified workforces in America makes Boston’s central business district office market unique among its peers, and well placed to see out the end of the current cycle.
Boston’s CBD is sitting at just 6.8 percent vacancy as of the fourth quarter of 2018. That’s well below the national U.S. CBD average of 10.7 percent and far below the CBD vacancy rate of other leading American cities like Los Angeles (14 percent vacancy) and Seattle (7.6 percent). It’s only a touch higher than San Francisco’s 6.5 percent CBD vacancy rate – a much denser city that is seen as one of the most competitive office markets in the world.
Vacancy is so tight that rents are rising. While some CBDs saw rents decrease in the fourth quarter, Boston CBD rents grew by 1.3 percent from the third to the fourth quarter of 2018, proof that the market still has room to run after rents grew by a steeper 5.5 percent in the third quarter. However, the rent hikes in Boston are still conservative relative to the strength of the city’s fundamentals, and could grow farther, says Ben Heller, who leads the Downtown Boston brokerage for JLL.
“Out of the global gateway cities, there is no other market positioned the way Boston is this late in the cycle,” says Heller. “We don’t have the potential for a glut of vacancy even with the current lease roll. There is so much demand and there are very few large blocks of space and nothing much slated for delivery.”
With just 2.1 percent of inventory under construction in the CBD, Boston is developing new supply at the lowest rate among U.S. gateways markets. To put that into perspective, New York, San Francisco, Seattle and Silicon Valley all have anywhere from 4 to 6 percent of CBD inventory under construction.
“Usually, at this point in the cycle we’d have more supply,” says Julia Georgules, New England Research Director at JLL. “We have a development pipeline, but we haven’t seen the propensity to develop like we have in other markets which have millions more square feet under construction. For investors, it puts Boston in a great spot.”
The little supply that Boston does have coming down the pipeline in the next two years is already 87 percent pre-leased. This is not the case in many other markets. The CBD in Washington, D.C., for example has only 30 percent of its 1.8 million square feet under development pre-leased.
Some of this is owed to a “late cycle” mentality where investors and developers are more cautious given the economic landscape, Georgules says. But a lot of it is the culture of investment in Boston, which is largely driven by institutional landlords who control the majority of the space, and are more conservative in nature, holding properties for 50 years, rather than focusing on short term gains.
“It used to be the only people that lived here were from here, went to college here, or their parents were here,” she says. “Now everyone wants to be here, but real estate development has not yet caught up.”
It’s also owed in part to a mentality that has not yet shifted to reflect the dynamism of the city today, she says.
“We should be thinking with more of an Apple mentality and what they’ve done with the iPhones – we have something that’s in limited supply that everyone wants and in turn can command premium prices for it,” Heller says.
Such a limited pipeline has a downside, particularly for tenants, who struggle to find space. A bigger development pipeline would introduce large blocks of space to the market where there is currently very little available over 100,000 square feet.
“Tenants have to make decisions quicker than they’re ready to and if they analyze too deeply they risk missing the opportunity because there is such major competition,” Heller says. “It can feel unhealthy to them.
Compounding the supply shortage is the fact that Boston has the second highest percentage of population growth among innovation markets in the U.S. at 10.5 percent, behind only Seattle and ahead of the Bay Area, according to the U.S. Census Bureau. It has seen 24 percent job growth over the last three decades.
Innovative companies like Wayfair are scooping up space amidst intense competition.
Wayfair, which is headquartered in Boston, grew from less than 100,000 square feet to over 1,000,000 square feet in just five years.
Boston’s office market is also more diversified than many other cities. Being less reliant on one sole industry leaves the city potentially less exposed to any future downturn.
“Other cities across the country are thriving too, but most of them are dominated by a single industry,” says Frank Petz, who leads a Capital Markets team in Boston for JLL. “In Seattle, San Francisco and Austin, it’s technology. In New York, it’s finance. In Washington, D.C., it’s government. Here in Boston, it’s everything from tech to life science, finance, healthcare and higher education.”
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