Weak demand hampers commercial property price growth

Article originally posted on CoStar on September 30, 2024

Borrowing costs head lower, but deal activity expected to remain flat, CoStar analysis says

Commercial property prices are still struggling with reduced tenant demand for space, even with an expected interest rate cut from the Federal Reserve this month.

Until tenants start leasing more space than they are giving up, prices are projected to remain flat at best, according to CoStar Group’s Commercial Repeat-Sale Indices report that examined price movement in August. The analysis tracks when a previously sold property trades hands again in a process called a repeat sale.

Hampering price growth is a drop over the past year in demand for office, industrial and retail space combined, according to the report.

An estimated 13.2 million square feet more emptied than was newly leased in the 12 months ended in August. As a result, both investment-grade properties and small-dollar properties are projected to end the third quarter with negative 12-month net absorption.

As the Fed moves forward on cuts in borrowing costs, more expensive and less expensive properties could be affected a bit differently, according to Chad Littell, national director of U.S. capital markets analytics for CoStar and the author of the CCRSI report.

With the rate reductions, the price index for major markets with fewer high-dollar transactions “moves sideways for a while,” while the indicator of more numerous but lower-priced property sales is expected to “continue to soften slowly,” he said.

The CCRSI value-weighted index, reflecting the high-dollar deals often in big markets, increased 0.6% in August over July. August’s performance marked the second positive month-over-month gain out of the past 12 months.

The year-over-year price change in this index is down 12.9% since August 2023 and is 20.8% lower than the all-time high in August 2022. The index has been in negative territory since November 2022.

Meanwhile, the equal-weighted index reflecting the lower-priced deals found in smaller markets fell 0.5% from July.

This index sank 1.5% in the 12 months ended in August, slightly better than the 2% loss experienced since its all-time high in September 2023. August represents the second month in a row the index posted an annual price decline.

The equal-weighted index was slow to respond to the Fed’s interest rate increases beginning in March 2022, Littell said. The value-weighted index responded more quickly and much more deeply.

As demand has slowed, so has the pace of new space opening across the three major property types of office, industrial and retail.

Openings are projected to reach 735.5 million square feet in the 12 months ended in September, down 22.2% from the same time in 2023.

Almost 90% of the space, or 649.9 million square feet, was of investment-grade properties, a decline of 21.9% over the 12 months ended in August 2023.

Only 85.5 million square feet of general commercial properties opened in the 12 months ended in August, a drop of 24.9% over the prior year.

This marked the fourth consecutive quarter that general commercial completions fell.

This month’s CCRSI was based on 1