Washington, DC 1st Quarter 2006

It Keeps Going and Going…

We’ve got a commercial real estate market that shows no signs of slowing down. Again, demand dominated supply resulting in yet another quarter of declining vacancy rates. The 1st Quarter of 2006 was the 11th straight quarter of lower vacancy rates (9% overall) and the lowest the vacancy rate has registered since 2001. At the same time, sales prices have continued to rise faster than rental rates resulting in increasingly lower cap rates. However, we believe that the investment sales cycle has hit its peak. We project that continued momentum in the stock market coupled with higher interest rates must force cap rates (investor returns) higher. It will be interesting to see how investor demand is affected and where cap rates end up at the end of the year.
For the 1st Quarter, we saw 1,801,530 square feet of total absorption (compared to 2,336,273 square feet in the 4th Quarter and 2,261,223 square feet in the 3rd Quarter) and a year end market wide vacancy rate of 9.0% (down from 9.2% in the 4th Quarter). By market, absorption was 274,873 square feet in DC, 1,234,975 square feet in VA and 291,682 square feet in MD. The vacancy rates were 7.4% (6.4% direct and 1.0 % sublet) in DC, 10.0% (8.8% direct and 1.2% sublet) in VA and 9.4% (8.2% direct and 1.2% sublet) in MD.

But What Does It Mean?

The huge demand in our market for the past 3 years has pumped-up the development business. Thus new office construction is running at peak levels of output. 20 new buildings totaling 1,698,423 square feet of new space delivered in the 1st Quarter and there are another 135 buildings (totaling 16,238,722 rentable square feet) currently under construction. While that’s a lot of space in the delivery pipeline, approximately 49% of that space already pre-leased (up from 47% pre-leasing of space under construction at the end of 2005). As long as job growth remains strong, we believe that supply and demand should stay in balance though at least the 3rd Quarter and most likely for the next year or more.
The bottom line is that as long as the Federal Government continues its spending frenzy and the private sector economy is expanding, demand will continue to drive this market and developers will continue to look really really smart.* At the same time, we don’t see Class A rental rates and sales prices continuing to rise in most submarkets.