At least $6 billion worth of unsatisfied capital is looking at Australian office markets: JLL

The divergence between the investment and physical office markets over the 2012/13 financial year is marked, reports Jones Lang LaSalle.

The estate agency says it clinched $12.3 billion worth of office transactions (above $5 million) in a year characterised by the number of large deals - 26 - over $100 million.

Yet the national CBD office market vacancy rate was now at the highest level since June 1999 at 11.1%.

A buoyant head of office investments – Australia, Rob Sewell said, “Most of the buyer groups for core product – A-REITs, domestic wholesale funds, superannuation funds and offshore investors – are engaged in the market at the moment.”

In contrast, the head of capital market research, Andrew Ballantyne, said the company recorded negative net absorption of -191,900 square metres and a rise in the national CBD office market vacancy rate to 10.9%.

‘’It’s been an annus horribilis,’’ he says.

To put the vacancy figure in context, the 2012/13 financial year net absorption result was weaker than the 2008/09 figure (-117,800 square metres), which covered the global financial crisis.

Sewell said strong investor demand for core product resulted in pricing tension and yield compression over the 2012/13 financial year. “Yield compression was concentrated in modern assets with long-dated leases. We recorded about 25 basis points of compression at the tighter end of the yield range in the Sydney, Melbourne and Brisbane CBDs,’’ he said.

“In contrast, those assets with upcoming leasing risk or capital expenditure requirements were priced according to physical market conditions. As a result, we saw a widening of the yield spread between core and lower quality A Grade assets in most CBD office markets.”

An analysis of under-bidders in large transactions shows that at least $6 billion worth of unsatisfied capital is looking to be placed into core product.

While new capital sources are emerging from offshore to supplement the competition for core CBD product, there is a shortage of available assets to satisfy these mandates, Sewell said.

On the down side, Ballantyne said, ‘’there is no precedent for what is occurring in Australian office markets’’ although investment activity remains robust.

“It is important to note that this is not solely an Australian story. The mature office markets of Western Europe and North America are recording strong capital inflows and pricing tension, despite higher vacancy rates.”

Five of the six CBD office markets have double digit vacancy rates. Brisbane (14.3%), Adelaide (12.7%) and Canberra (11.6%) recorded higher vacancy over the quarter, while Sydney (10.2%) and Melbourne (10.0%) moved above 10% for the first time in the current cycle. Perth (7.9%) is the only CBD office market now recording vacancy below 10%, the company says.

“Corporate Australia is adjusting to a lower growth outlook over the short-term and rationalising their cost base in order to protect and maintain margins. As a result, sub-lease availability has increased over the 2012/13 financial year,” Ballantyne says.

About 75% of the negative net absorption figure in 2012/13 can be attributed to a rise in sub-lease availability. Over the course of the financial year, sub-lease availability has increased from 1.02% of total stock to 1.88% of total stock.

“Recent surveys of business confidence and job advertisements remain a bit below-trend, highlighting that the demand environment will remain challenging over the remainder of 2013 and potentially for the first part of 2014,’’ Ballantyne says.

“The medium-term demand prognosis, however, is firmer. The Reserve Bank has adopted an accommodative monetary policy setting, supporting interest rate sensitive sectors of the economy and assisting the transition from mining to non-mining sectors.”

The supply-side is reportedly well managed for the next 18 months. The agency says the development pipeline across CBD office markets is 384,400 square metres, equating to 2.3% of total stock, with almost two-thirds pre-committed.

Net supply additions, which are adjusted for stock withdrawals, will be significantly lower over the next 18 months.

“A higher vacancy rate will precipitate a flight to quality and further widen the rental spreads and yield profile between prime and secondary grade assets. As a result, a number of withdrawals for refurbishment or conversion will occur and net supply additions are projected to be around 200,000 square metres, or 1.2% of total stock, over the next 18 months.” Ballantyne says.