Office sector to suffer from rising headwinds in 2012

The office sector is facing rising headwinds from an increasingly uncertain global macroeconomic outlook. Given Singapore’s open economy, this is likely to have negative near term repercussions on the city-state’s economic activities.

The government had recently lowered its 2012 GDP growth projections to 1-3%. While we do not expect a repeat of previous global financial crisis conditions, office demand being a derivative of economic activity, will be adversely affected. In addition, as with the residential sector, the rising incoming commercial supply over the next 2-3 years would dampen occupancy and landlords’ ability to price up rents.

Rents have increased 8% for 9M11, with greater appreciation in the fringe areas while capital values have risen 12.7% for 9M11, led by properties in the Central area. However, the momentum of rents had moderated significantly on a q-o-q basis, up only a modest 0.7% in 3Q. While average rents have risen, at this point, the level is still 14%below the 2008 peak.

According to CBRE, Grade A rents have risen by 14% post GFC but are still 41% below the S$18.80psf peak. Hence we do not expect any rental correction to be as drastic as during the global financial crisis.

There was 0.59msf of net demand for office space in 3Q, bringing total net absorption to 1.76msf for 9M11. This was slightly lower than 2Q’s take up of 0.66msf and came largely from earlier pre-commitments as well as some expansion demand. With the completion of MBFC Tower 2 and Tokio Marine Centre, new supply was a larger 0.9msf. However, with some office stock taken out of supply due to demolitions and redevelopment activities, vacancy levels actually dipped to 11.7% islandwide from 12.5% in the previous quarter.

According to CBRE, Grade A vacancy rates crept up from 9.5% as at 2Q11 to 10.9% as at 3Q11, while monthly rents rose 4.3% q-o-q to S$11.06psf/mth. Generally, landlords are reluctant to lower asking rents, giving support to the overall rental market, thanks to the current healthy pre-commitment rate. However, we note that landlords in newer buildings are giving large occupiers a longer rent free period to maintain face rents and drive occupancies.

Demand to soften but will be a repeat of GFC. Going into 2012, we expect office demand to soften to c1.2msf vs a 2msf take up for this year as major tenants slowdown new hirings in tandem Central area office price and rental index with the slower economic climate. We expect prime office rents to retrace by an average 10-15% in 2012 to cS$8psf/mth and Rental Index capital values to decline by 5-10% to S$2,200-2,300psf.