Leasing activity remained muted during the second quarter as brokers were unable to close deals during the circuit breaker period.
The demand for new office space in the near term is likely to remain weak because remote working is continuing to be the default mode of operation, even after the circuit breaker. Also, corporate occupiers are putting the brakes on expansion plans to handle operational issues arising from the pandemic.
In the long term, there are concerns there could be a structural shift in the market if banks and tech firms opt to save on real estate costs and let a large proportion of their workforce continue remote working post-pandemic, which could lead to lower office demand.
For instance, many banks have indicated there would be an adjustment to their location strategy and they would be re-evaluating their space needs.
Large tech firms have already made public commitments, with Twitter and Square announcing that all employees would be able to work from home indefinitely, while Facebook unveiled a plan for up to half of its 48,000 workers to telecommute permanently within the decade.
Rental reductions are starting, with Grade A Central Business District rents moderating by 2.3 per cent quarter on quarter to $10.37 per sq ft per month in the second quarter of this year. The decline is more pronounced in the most expensive buildings, leading to Marina Bay falling by 3.4 per cent quarter on quarter to $12.20 per sq ft per month.
Due to the limited leasing activity in the second quarter, a larger moderation in rents is expected in the third quarter as landlords compete to attract and retain key tenants.
Nevertheless, the peak-to-trough rental decline is likely to be milder than that of previous recessions, partially due to the Government's unprecedented stimulus package.
Other mitigating factors include the expansion of the pharmaceutical sector, leading to a spillover in corporate space requirements.
Currently, there is also a tight supply situation, with an annual average supply of only 0.7 million sq ft entering the market in the period of 2020 to 2021, significantly lower than the 2010-2019 annual average of 1.2 million sq ft.
In addition, Alibaba is entering into a joint venture with a Perennial-led consortium to redevelop AXA Tower, which will result in the displacement of tenants occupying 700,000 sq ft of space.
Landlords with low vacancy rates and a low number of upcoming leases expiry will be able to retain tenants and maintain healthy rental levels, as tenants tend to be less mobile during uncertain times.
But landlords with low vacancy rates and a high number of upcoming leases expiring in 2020/2021 will be able to retain anchor tenants while maintaining healthy rental levels as such tenants tend to be less mobile, while offering a moderate increase in renewal rent for the smaller tenants.
Those with leases with 12 to 18 months to go would be motivated to offer incentives to attract new tenants. There are likely to be efforts to proactively cross-sell properties within their own portfolio assets.
Landlords with high exposure, high vacancy rates and buildings under construction will need to secure the first anchor tenant and ramp up occupancy rates. To attract new tenants, more will be prepared to offer longer fit-out periods, incentives and resizing opportunities.
Going forward, we see higher levels of renewals rather than new leases, which require large fit-out costs upfront, as companies focus on cost containment.
Currently, renewal rental rates are more resilient, while rents for new leases have experienced a larger decrease. However, the disparity is expected to narrow in the future, especially if landlords start offering incentives for new leases.
The above article originally appeared on The Straits Times on 30 August 2020.