Omicron, flight-to-quality: What’s expected for 2022’s office-market recovery

Omicron, flight-to-quality: What’s expected for 2022’s office-market recovery

It remains too early to tell what the ripple effects from the recently discovered Omicron variant will be but it may impact the office market in early 2022.

Richard Barkham, global chief economist and global head of research at CBRE Group Inc. (NYSE: CBRE), said during a forecast media call on Wednesday the Omicron variant is one potential point of concern in an otherwise fairly rosy economic outlook for 2022.

“It’s not going to derail the economy,” Barkham said. “There’s a powerful recovery underway and we think it unlikely that Omicron will derail that. However, that’s not to say it has no effect.”

Worries about the Omicron variant could result in less spending on dining out, for example, if consumers decide to stay close to home this winter. Omicron is also “clearly” going to delay a return to the office, Barkham said.

But CBRE and others are still forecasting a meaningful return to the office in 2022.

Jeff Eckert, president of U.S. agency leasing at Jones Lang Lasalle Inc. (NYSE: JLL) said in a recent interview C-suite executives across the U.S. are eager to get employees back into the office.

“Generally speaking, we’re expecting a significant return to the office in the first part of next year,” Eckert said. “All indicators are that first quarter is when the magic will start to happen.”

Workers, on the other hand, may be reluctant to return. Forty-four percent of executives working remotely now want to work from the office every day, compared to 17% of employees, according to a report by the Fall 2021 Future Forum Pulse.

Cushman & Wakefield PLC (NYSE: CWK) in an analysis earlier this month said after peaking at 35% of pre-pandemic usage in July 2021, in-office attendance across the U.S. declined through August, in part because of the Delta variant. Since Labor Day, office usage has been increasing week-over-week, Cushman said.

The office-market recovery is dependent on employees going back to the office more than they are today, said Julie Whelan, vice president and head of global occupier thought leadership at CBRE.

“Even with Delta, office occupancy continued to moderately pick up in 2021,” she continued. “There’s no reason to believe that Omicron will reverse course.”

Still, it could mean a muted return-to-office in the first quarter. Google LLC, for example, has already said it would delay a planned Jan. 10 return-to-office.

Part of what’s held back the office-market recovery is not knowing how occupiers will view their real estate long-term as a result of pandemic-induced changes, specifically how remote work might factor in to space usage.

CBRE is estimating the average U.S. office employee will spend 24% less time working in the office post-pandemic, and the firm’s recent occupier sentiment survey found 87% of large companies plan to adopt a hybrid work approach.

Whelan said, even in 2022, it’ll be hard to know what steady office occupancy will be. But, she said, it’s anticipated there will be more consistent and predictable office usage in 2022, which will help companies make firmer, long-term real estate decisions.

Office-leasing activity in Q3 was about 16% down from pre-pandemic levels, which should continue to improve in 2022, Whelan said.

The office market will still face challenges, though. Vacancy is expected to continue to rise in 2022, particularly as new construction that started before the pandemic delivers. That’ll also keep pressure on rents.

Concessions, such as free rent or tenant-improvement allowances, also remain elevated, Whelan said.

“Some of the more deeply affected markets are in downtowns,” she said. “They are seeing rebounds in activity today but they will take time to fully recover because of how deeply they were affected.”

CBRE predicts improvement in office demand will be greatest in markets hardest hit during the downturn, such as Manhattan, Chicago, Seattle and Dallas. Sun Belt markets like Austin, Texas; Miami; San Jose, California; and Charlotte, North Carolina, are among the markets expected to benefit in 2022 from in-migration and tech growth.

Gateway-market leasing activity was up 41% in the first three quarters of 2021 compared to the last three quarters of 2020, Cushman & Wakefield found. That’s compared to a 19% increase in leasing activity nationally in the same time period.

What happens to different types of office properties — namely, newer and more amenitized properties versus older product — will also vary. Industry insiders have pointed to the continued flight-to-quality trend, of tenants picking the newest office buildings with best tech, sustainability, health and safety features.

When asked by The Business Journals the outlook for Class B and Class C office properties amid a preference for Class A space, CBRE executives said outcomes could vary.

Matt Vance, senior economist and head of Americas multifamily research at CBRE, said older or outdated office space may fare differently even by metro area. In San Francisco, for example, he said start-ups frequently look for Class B office space in proximity to big companies because it’s more affordable. But in other markets, tenants are putting a big premium on new or highly renovated office space, Vance said.

Whelan said Class C office space could actually fare OK, as there are always users looking for lowest-cost options.

But middle-class space that’s been around awhile, isn’t renovated or has limited ability to be upgraded to meet tenant expectations may struggle.

“Certainly, I think there will be a higher structural vacancy we’re going to have to contend with in that area of the market,” she said. “I think we’ll see conversions if the pro forma works out.”

Barkham said the trend of conversions of older office into new uses may be more prevalent in older cities with a stock of historic buildings, such as Boston and New York. Certain characteristics are needed to convert office buildings into, say, apartments, and older buildings are more likely to fit the criteria than office buildings of 20 or 30 years ago.

But, Barkham said, conversions or other outcomes for Class B and C office space aren’t a major part of CBRE’s outlook for 2022.

“We’re still adjusting and feeling our way and seeing how the slow recovery of the office sector plays out, but it’s a theme for the longer term,” he said.