California developers report mixed expectations for the state's post-pandemic commercial real estate market in a look-ahead to 2023, says a key state survey that tracked their collective outlook in major metropolitan areas in December for office, industrial, retail and multifamily markets over the next several years. While those polled said they expect industrial and multifamily housing markets to grow in the next two years, retail and office markets are likely to contract.
The outlook for the office market is the most uncertain, says John Tipton, partner at law firm Allen Matkins, which conducts the biannual survey with the University of California-Los Angeles Anderson management school.
“It’s not at all clear that the trend that downsizing the space per person will continue outside of the pandemic,” says Tipton. In Northern California, developers who plan to start new office projects in the coming year dropped to 12%, down from the 40% who started one or more office projects in 2020.
Only 17% of participating Southern California developers expect to start a new office project in the coming year, down from 33% in 2020. Over half of those surveyed report that the pandemic decreased their overall office building plans. The widespread sentiment is “wait-and-see” for the office market, a sign of decline in the rate of new development.
“While survey participants are confident about the growth in demand for office space between 2020 and 2023, they are pessimistic about the return to investment in new space today,” according to the survey. The report notes that panelists were marginally less pessimistic about the 2023 office market than they were last summer, but their sentiment has not risen to optimism.
“Health and safety and the architecture of the office will be important when the first wave of employees now working remotely return," the report authors said.
Meanwhile, sentiment for the industrial space market remains optimistic for the next three years, with respondents reporting current building plans that are marginally higher than pre-pandemic plans. In all California markets surveyed, respondents expect lease rate increases to exceed the rate of inflation and for vacancy rates to shrink further by 2023.
“In both Northern and Southern California, approximately 30% of the panelists stated that the experience of the recession has caused them to consider increasing the amount of development they will undertake,” the report said. “Therefore, our expectation is for a new wave of warehouse building over the coming three years.”
Meanwhile, respondents in all California markets expressed pessimism for retail sectors, reflecting past years’ downward trend and said they expect retail properties to bring insignificantly lower (if any) returns in 2023 compared to 2020. In the Bay Area, 58% of respondents do not plan to develop any retail properties in the next 12 months; 65% of those in Southern California reported the same.
“While this is not good news for retail property markets, it does not mean the absence of solid, targeted opportunities,” said the report. “New housing developments, whether they are multifamily or single-family, generally require nearby retail.”
The outlook for multifamily markets is improving in the East Bay and Sacramento, thanks to significant government employment and their role as bedroom communities for the less-affluent commuters who work in coastal cities. Optimism for the Silicon Valley, Orange County and San Diego multifamily housing markets also increased.
But respondents in San Francisco and Los Angeles were pessimistic because of dramatic declines in rental rates.
“In San Francisco, they have fallen 20% to 30%, and in Los Angeles the decline is about 7%," the report authors said. "Some of this weakness is due to students not coming to campus and some is due to an exodus of households that were contemplating a move to the suburbs to welcome children in a few years, and in the wake of the pandemic and low mortgage rates, they have decided to move elsewhere.”