Net absorption of office space remains negative as space returns outpaced take-up; average office vacancy rate further climbed to 16.2%
Leasing activity continues to rebound as eased protocols led to improved economic activities. Growth in leasing activity remains elevated and continued to pick up in Q2 2022 on a year-on-year basis. However, on a quarter-on-quarter (q-o-q) basis, office space returns outpaced take-up, leading to a net absorption figure of -34,000 sq.m.
Aside from observed space returns, the number of untaken spaces in newly-completed buildings contributed to the continued increase in vacancy. The estimated overall vacancy rate further climbed to 16.2%, 80 basis points (bps) higher than the revised Q1 2022 figure of 15.4%. This new record-high vacancy rate is also 500 bps higher than the year-ago figure of 11.2%.
Rental Rate Declined by 2.7% Year-on-Year as Vacancy Rate Worsened
Vacancy rates are expected to remain elevated mainly due to renewed construction activities. In Q2 2022, approximately 47,400 sq.m. worth of Grade A office spaces were added to the Metro Manila stock, leading to a total inventory of 9.1 million sq.m.
Due to elevated vacancy rates, average asking rents in Prime and Grade A office developments in Metro Manila in Q2 2022 contracted by 2.7% Y-o-Y and 0.8% q-o-q to PHP 1,037/sq.m./mo. With competition for transactions becoming tighter, even landlords of some of the premium buildings made downward adjustments in their asking rates this quarter.
Tetet Castro, Director and Head of Tenant Advisory Group at Cushman & Wakefield, said, “While market activity is improving, rightsizing initiatives continue to be observed. The financial impact of the pandemic also motivates some occupiers to consider relocating to more cost-effective buildings and even submarkets. This has pushed a couple of landlords to recalibrate their rents in order to remain competitive.”
Claro Cordero, Director and Head of Research, Consulting & Advisory Services at Cushman & Wakefield said, “The eased mobility has undoubtedly improved the number of companies resuming their business operation in physical offices. The office sub-sector is buoyed by the Information Technology and Business Process Management (IT-BPM) industry which continues to attract prospective new entrants that express interest in locating to the country by early 2023. In Q2 2022, fresh take-up from offshore gaming companies was observed.
Nonetheless, other existing occupiers are reevaluating their real estate footprint as they seek to reassess future real estate occupation strategies.”
Foot traffic in shopping malls also observed a notable growth to around 70% of pre-COVID levels, from only 50% last year, as consumers return to their shopping mall habits. However, the recent uptick in prices of basic goods and services, as well as the increase in benchmark interest rates, are seen to erode the consumer s’ purchasing power which could lead to a decline in retail sales in the short- to near-term.
Meanwhile, industrial spaces continue to spur in the CALABARZON area, specifically in Laguna and Batangas, as well as in Tarlac in Central Luzon, amid sustained growth of demand for e-commerce fulfillment and distribution centers. The fresh supply of warehouses, cold storage, and logistic facilities in these key areas curb industrial rent's steep upward pressures while future growth driver is seen to include local and global data center players.
Similarly, residential supply is seen to significantly increase as construction works resumed on a full scale. Nonetheless, increases in benchmark interest rates that would entail an additional cost of capital for property developers/investors could dent the long-term supply of residential projects. Meanwhile, as mortgage rates are also likely to increase, demand for residential developments could slow down as new prospective buyers may holdoff demand in the short- to near-term.
Two years past the pandemic onset, foreign tourist arrivals are seeing slow growth whilst the increased confidence of domestic tourists is driving occupancy rates up, particularly in established tourist destinations. Although optimism is rising, the hotel and accommodation industry will continue to deal with uncertainties in the international markets such as intermittent international border controls and global geopolitical tensions.
Global Market Volatilities to Dampen Investor Sentiment as They Assess Risks Amidst Fluctuating Macroeconomic and Financial Market Conditions
Estimated average office (gross) rental yields in Q2 2022 stood at 6.20%. Year-on-year (YoY), the rental yields declined by about 10 basis points from its level in Q2 2021. Mr. Cordero mentioned, “rental yields are expected to remain flat in the short- to medium-term, as rental rates are expected to remain soft due to supply pressures and expected policy rate hike. The Bangko Sentral ng Pilipinas (BSP) is expected to take on a conservative stance to ward off inflationary pressures due to external shocks such as the continuing geopolitical tension between Ukraine and Russia and supply chain disruptions due to unsynchronized opening of key ports amidst COVID-19 induced border lockdowns.”
Mr. Cordero further added, “The recent volatilities in the global market are seen to dampen investor sentiment in the short to mid-term as investors carefully assess risks amidst fluctuating macroeconomic and financial market conditions. Moreover, prolonged, unregulated growth of the inflation rate poses greater risks to asset classes with intermediate to long-term leases such as office and industrial. The recovery of retail and residential real estate might be dented by the weakened consumer spending in the short to mid-term”.
“In the long-term, however, with the appropriate tools to be implemented by the BSP at the right time to manage inflation growth and minimize damage to the economy, further cap rate compression across property sectors is expected. This will likely entice property investors and buyers to re-allocate and diversify their portfolios in high growth real estate investment markets, including the Philippines.”, Mr. Cordero said.