This hasn't been quite the recession people called for but rather correction in many parts of the sector. I'm primary focused on multifamily but it hasn't seemed like a complete crash like a lot of people thought. A lot of the "distressed" deals are getting bid by a lot of groups still, that raised "buy low, sell high" capital.
With the 10-year being where it is it doesn't make a lot of sense for core capital to pursue historically low cap asset classes like industrial and multi family. Which means all upstream risk investments like value add and development with sort term hold exits plans (I.e merchant build, BTS industrial, and mark-to-market-value add - think buy and change out appliances to stainless steel thesis, not true blood and guts renovations) will likely will take a little time to work out (rate cuts or a broader macro economic headwinds that downgrade U.S credit)That being said - is office (being a high cap rate asset class) the thing to be buying in real estate? Seems like “in-office” is being enforced by big companies; Amazon in particular is monitoring badge entries for employees three days a week. With the labor market cooling off will more companies force in office to either create more natural attrition or force more productivity (hours) from there employees?One other observation; offices over the last decade shrank substantially - going from private offices over 3-4 floors, to consolidation over 1-2 floors. There potentially could be a factor that in order for tier two companies to get there employees back more amenities and private office might be required (think more "Resimercial" like "suites" Harvey specters office, or my office in "American Psycho"). Leading to more space required for "in office" culture companies.
Now don't get me wrong I wouldn't put my money down on this but I have a sinking suspicion that someone that does and hits this at the right angel will make the best dollars of this correction.
What do you all think - am I dead wrong about this or do any of you all believe this is where they are hiding the bodies?
Your thesis is way to simplistic to be taken seriously. To make offices an extremely attractive workplace again there should be some material shift in office management by the upper hand. In the same sense that ChatGPT caught some by surprise, something similar should happen to make employees decide that working in an office is way better than WFH. I've seen anything actually: Free food, offices in extremely attractive locations, etc. but nothing would make a sane person want to commute and lose time preparing just to do the work he could do at home. An extremely exaggerated idea but which would help make my point about some type of revolutionary shift in working from office approach would be for companies that want people in the office to offer them low-interest loans or help them finance houses/apartments/rooms that are extremely close to the office and instigate the idea that "We cover this because we want you to be present in the office, so it's a win-win for both". This puts companies in a position where they should sacrifice even more from their side if they want to have people in the office, and in such a scenario, interestingly, even executives will really be put into a naked position by proving their priorities: People in the office vs. saving money (and clearly they'll choose the latter, proving what a marginally low benefit is to have people in the office).
So to share my thesis, I think offices will die and will continue to remain irrelevant unless there is some type of big change in office management/or way of doing business that would require physical presence at least 8 hours a day in an office.
It’s short sighted to assume that since you don’t like working in an office, that “no sane” person would chose to. Plenty of people like work in the office. I even like my 40 minute commute, it’s a nice time to read a book and relax.
does your wife hates you? or your kids don't want to see you as much? don't you have friends outside work? otherwise, if you're a grown man, I have no clue why you would drag yourself in your oFfiCe when you could have a nice room in your house for work-related matters.
This is a silly comment - there are lots of a reason to go to the office.
- Coffee, lunch or happy hour with coworks
- Networking with brokers or other industry contacts
- Creating personal relationships with the people you work with. This is especially important if you are at a small company.
- Training new hires and mentoring direct reports. Sure, you can argue that this can be done over zoom, but I think it's less effective. You have to remember it's sometimes hard for people to ask questions, or loop someone into a call impromptu if you are over zoom. In my experience, bigger companies can do this better remotely, but it doesn't work great at small shops with dinosaurs.
I hate wfh. Your comments are ridiculous. Everyone has person preference.
i dont even want to imagine the boring and miserable lives of those that are pro-office
Why is this guy so mad about some people wanting to go in the office lol
Dude needs to relax. You sound mad af about others wanting to be in the office, which by the way is a significant number. CB had some survey out there that said 75% of survey takers want to be in at least 3 days a week. It’s human nature to want to be with others and connect. Nothing really new here.
This is legit the most idiotic reponse I have ever seen.
Not a lot of good evidence to be honest other than Amazons and twitters policies (by the way if you look at twitter layoffs they started the broader tech layoffs off trend). people called the guys shorting the housing market crazy pre 08. What I know is the last 100 years office works have gone to the office, and office assets are getting written down upwards of 50% - seems like there could be opportunities to capitalize on this but like I said I wouldn’t put money on this and it sounds like you wouldn’t either.
What happens with other asset classes? Is there anything this cycle worth buying or is everyone with core assets about to loss all of there equity?
I disagree with your point. I don’t see how most people could not work in the office at least 2x per week.
Working from home drives me fucking insane. I’m less productive, have less social interaction, become lazy and overall feel shit. Going to the office also provides much needed structure to my day.
I understand I’m on the other end of the spectrum, but wanted to offer a counter to your point
Agreed. I go insane at home. I’m there enough as it is and I like to keep the two separate as best as I can. Most of the young people I talk to (under 25) prefer to go into the office at least a few days a week.
I've never understood the no one wants to waste time commuting when we were all doing it pre-covid. Now all of a sudden people are too lazy to even commute 20-30 minutes a day to an office to work, it's crazy.
What is everyone even doing with that free time, to me it seems like people are just doing anything but work and the people pushing this total WFH mindset are not motivated. You aren't going to build relationships and camaraderie through a Zoom screen.
I really don't get the WFH argument, all of the important life things you will supposedly miss out on are happening outside of work at night or on weekends anyway. WFH seems like basically being retired minus taking calls when needed which get's boring very fast. I just really don't see an argument for the WFH movement besides one that is candidly lazy and unmotivated. I get being with family more but there really needs to be a 3 day a week minimum in office, no excuse otherwise and if you want to focus on that take a pay cut for a job with more flexible hours. Your company doesn't have to mold what you want to do for the same pay.
That’s how I view it, but also everyone has their own opinion on WFH. Persinally, I’m sick of feeling like I’m trapped (in a sense) in my house. And I live in an affluent Orange County neighborhood. I hate the blurred line that’s become of “home & work” life. I want to leave my work at the door, when I walk inside my house. I love my wife, kids, and have a great life overall. I prefer to have my little life pockets, one of them being my work life outside of home. On the other hand, spending 1-1.5 hours/ day commuting one way is not an efficient use of time… if I was sitting on a train doing my own thing, that’d be a different story. Vast majority of US metros aren’t built for that unfortunately
Other than boomers trying to force their employees back to the office, what exactly has changed, or do you think will change, in the office world that will facilitate its comeback?
Labor markets continue to tighten - employees see managers start using face time to show/gauge commitment. As I mentioned Amazon is drawing a hardline on this, other companies typically follow their trends. Could be an isolated trend or could be a harbinger of what’s to come.
I’m more so pointing out the steep discount that office has right now more than anything - if you buy core office does that yield opportunistic returns in 10 years?
If this is dead wrong, what do you think the play is this downturn (if anything)?
you're way off brah. I work in RE and office space is dead
As Patrick_bateman says, a shift in the labor market from advantaging employees to employers will be a huge help if you want people back in the office.
I think we'll also see an interesting shift as WFH becomes less of an option and more of a necessity. Right now, something like 12.7% of workers are fully remote, compared with 28.2% who are hybrid (if you trust Forbes' research). WFH is great when it means a Friday or a Monday at home and a couple days in the office; the flexibility is fantastic. That psychology may not hold up when companies get rid of office space or reduce seats and basically force employees to work from home; all of a sudden that balance changes.
Well given the fact that office utilization has increased 19% QoQ in NYC is a pretty good indicator that the office is comming back. Which is nice because I bought a few million sqft over the past 18 months.
I have no idea what happens to office but if it is indeed completely dead.. what happens to CBDs? What’s the point of living in a more expensive “good location” near a CBD? Do people leave the city en masse? Does retail become the draw people want to live close to? Really interesting fallout possibly.
Almost all of my friends that work remotely continue to live as close to downtown as they can afford until they want to start a family and need a house. People will always want to be in the center of the action.
Yep. I’m asking where the center of the action is if office completely dies out. Foot traffic slows down, retail empties out because no one is downtown grabbing lunch, drinks, dinner etc.
If that happens what are you close to if you’re living downtown? What’s the draw that keeps you there or what’s the draw that makes you leave? It will be really interesting. I think it could flip what makes a good location on its head.
Do I think downtown Manhattan dies? No. But if office dies out will be extremely interesting to see what happens to tertiary markets.
Can’t speak for all CBD’s but in the case of NYC, people choose to live there for the food, nightlife, and dating.. less so being close to the office. I’m sure there are other similar factors at play that keep other CBD’s afloat
CBDs will be fine. Suburban and exurban office is the most at risk.
Regarding the distress in multifamily piece - I think it's probably because most of the deals facing the highest chance of distress haven't faced their reckoning yet. Think deals that were bought in late 2021 with high leverage that only made sense because of cheap debt and underwriting 10% annual rent inflation that have a 3+1+1 and won't be facing their extension test for another year while interest rates are way higher and rent growth has completely stalled for the most part but opex has continued to push higher in a meaningful way (especially insurance and property taxes). Also, cap rates are still holding up fairly well given cost of debt, but that could change quickly if the economy slows (aka we aren't seeing much rent growth for a while) and it becomes clear that the Fed will hold interest rates higher for longer (I'm not saying that's a given, but there's a good chance of it). Those two combined would push cap rates higher and put more folks underwater (it's easier to underwrite lower cap rates today under the assumption that with a mix of rent growth and interest rates coming down, you can get to positive leverage in 18 months)
I think no one wanting to be in an office is a big generalization. I personally hated the office with a passion pre-2020 and nothing you could have said would have convinced me otherwise. I've now been mostly remote since 2020 and look forward to the days in the office. I still would never want to go back to 5 days a week (or even 4), but I think there is a lot to be said about hybrid schedules. There is just something you can't replicate about being in the office. Our team is well set up virtually and have frequent team calls over Zoom, but I still have much more engaged conversations on the fly when we're in the office, and the training for our analysts is still solid over Zoom, but is not what is used to be when we were in the office full time. I think it is really hard to train entry level employees in a completely virtual environment. I learned so much as an analyst just hearing the senior guys take calls with their door open, calling me into the office at the last second, or hearing their group convos. That just does not happen to the same extent virtually and it's really hard to always be thinking about pulling your analysts into all calls when you can't even see what they're working on because everyone is home. Not to mention that I think we can all agree that we would have messed around a lot more as analysts if we were working remotely without someone keeping an eye on us. The analyst life just sucks too much for most people to be focused while being at home but it's a necessary step in our progression.
Impossible to say how technology changes over the years to improve this, but for all of history we have over hyped how good technology will be and it always takes way longer than we think. For the time being, I think good office will still be utilized to a big extent. I would not want to own 80s office towers in CBD's. Talk about a bad deal today to have to think about getting stuck in a parking garage after work only to sit in a crappy office space all day.
And the thing about hybrid is, unless you micro manage days of the week and use hoteling, you need the same amount of office space.
And no one wants hybrid where you have to hotel desks and be forced to come in on Fridays and Mondays because someone else uses your desk other days.
People who are in the office get the face time from managers and owners and are utilized because of their proximity. I think if you are an all-star working remote you likely won't have to worry about a job, but long-term progression will be hampered. The brass at companies are Boomers and gen x, and they like the office because it allows them to escape their family for at least a few hours during the day. I think this will be true for other generations as they get older.
You don't get invited to importune meets or lunches over zoom.
I think we look at this too often as what would we like for ourselves? The problem is a lot of us already made it through the training stages of our careers and are focused on excelling our personal careers, which at our levels are usually more centered around us and less centered around the company succeeding as a whole. The training aspect for younger employees is one of the biggest reasons I think office work stays. The guys who are running the companies will realize this and we will have to make the sacrifice even though we are already trained enough to do our mid-level roles really well remotely. As a VP, I'm constantly drawing on memories of how I heard the senior guys running calls when I was younger in order to do my job well today. We are only about 2 years into seeing how the younger generation turns out once they become more senior and are digging into the more complex details and client facing functions. It will probably be a few years before you start seeing those cracks.
Our organization has moved back to the office 4 days a week, but I noticed very quickly how slowly the younger members were accelerating when we were more remote. When I talked to them, they all made comments about feeling like they're missing so much context behind the work they're doing and it makes them hard to do a good job and excel. This due to senior guys forgetting to add them to calls or simply that most calls we take are on the fly and I can't be asking every time if I can call my analyst to bring him into the convo whereas when I'm in the office I just wave them over.
The most disruption will probably be to low skill cost center jobs that don't need all of that complex training, don't make great money, and would gladly make a little less money to go work remotely in a cheap part of the country and the company doesn't mind because they save money and the job gets done.
This is the best answer when people question why would someone ever go in the office. It's really that simple for the reasons you mentioned. The family piece (you need a break during the day) is the key that younger people don't realize until they're there.
One nuance I don't think I've seen in the comments is related to the relatively quick acceptance of the open office concept and even more extreme, hoteling. Not having a dedicated area not to mention any privacy, still doesn't make a ton of sense to me. If I were venturing into office acquisitions or even asset managing/leasing them, I would consider reverting back to a more traditional floor plan with more physical offices as a potential differentiator.
Agree with much of this and as much as I did not want to go back to the office I’m at actually enjoying it much more than I expected.
Still. 1.5 hours a Day lost commuting is a huge huge burden that isn’t easily overcome.
Technology enabling remote work will only get better and better over time. Today's Zoom meetings will eventually feel like 1920s silent movies compared with what will be possible with the twentieth-generation Apple Vision Pro. Face-to-face, on the other hand, will never get better than it already is.
I mean even Zuckerberg who is on the forefront of these technologies has publicly said recently that he doesn't think we are anywhere close to being office-less and they will be more of a tool than a complete disruptor in the foreseeable future
I didn't say that VR-type technologies will end office work overnight. They'll just eat away at it incrementally. Think of Amazon taking market share from big box stores. The big box stores haven't disappeared, but they're gradually declining relative to online shopping.
Work from home will really start to have an impact when folks in their 20s/30s today get into their 40s/50s and start making organization-wide decisions. Realistically I think that companies that offer work-from-home or hybrid policies will pay slightly less / alternatively, 5-days in office will pay more. Once baby boomers start retiring, I think we'll have an oversupply of white-collar / office workers, and undersupply of blue-collar / trades.
If I had a long investment timeline, I would definitely buy office towers in CBDs. If nothing else, its great real estate. I think retrofitting would be tough but might work in certain bougie markets.
Agree with this where the most disruption will happen in cost-center type jobs where the employer would rather save money and pay someone to work remotely that wants to live in LCOL parts of the country and they can get away with paying them less in exchange for working remotely. Another reason I wouldn't want to be buying the less favorable office buildings right now.
Totally agree. Working in a fund with a long/indefinite time horizon or at least a family office not beholden to LP investors could yield some really interesting opportunities in the medium/long term as office assets in premier CBD locations are sold at fire sale prices. Taking SF for example, some office buildings that we used to trade on Market / California Streets pre pandemic for $800-900 psf are reportedly being marketed for ~$200 psf.
While SF's workforce is def more resistant to RTO by nature than any other industry, I believe SF's long term economic umbrella ultimately holds due to its permanent (and very prominent) educational institutions, proximity of SV and other elite wealth enclaves, and just sheer historical iconic symbolism as a city.
Granted, a lot of things still need to happen for SF to return to where it once was, (I think social politics are a huge culprit) but I have to imagine that some groups with long term or permanent capital are going to make a killing if they make a play on some of these buildings for their locations.
As the one who is arguing in here that office won't die, I do think there is going to be a big shift in how office is valued going forward. Cap rates will still settle significantly higher. Before, you had all of this pension fund money buying offices with long WALT's because it was like guaranteed income while owning an asset in the bustling part of the city. I don't think these groups realized how much money it was going to cost to keep these buildings relevant over the decades, and I think that is going to be even more true as the years go on and tenants fly more and more to quality. The cap rates are going to have to be higher to take into account these costs and the uncertainty in retaining tenants for such a long time.
Great point - I think long-term this is going to underpin a lot of real estate. It seems like "clipping coupons" on core investments is going to become a lot less attractive to less sophisticated groups that are not 100% real estate focused. Imagin buying what you thought was a core return asset with a 10-year hold in the late 2010 years with WeWork as an anchor tenant. All of the sudden that core asset is completely destressed.
Even BTS industrial is not looking the best today given the spread to the 10-year...
Surprised nobody has mentioned supply and demand here. Office is still in demand, the problem is the supply of space is far outweighing the demand. I think demand will pick up a bit as more people want employees in the office, but will likely never meet what it was previously. Obsolete office will either be left vacant, or some sort of adaptive reuse will have to take place (although I think thats a pipe dream for most buildings due to cost). I am long office space, but I think it will take a long time to become a truly stable investment again.
True, but when people talk about the future decline of office, they all bring up cbd, high rise office buildings. Thats not the office stock that is going to become obsolete. It’s gonna be class b and c buildings in crappy locations.
Taking us back to econ 101 lol...This is a really good point though.
I recall in late 2019 it being a landlords market across most major cities, so I'm curious how much of this has been reactionary (we don't need office anymore), and how much reactionary subleasing will turn into new leases in a few years. In other words is the demand artificially low due to the narrative, and if the narrative changes due to some sort of new market factors, will the demand rise again, and with virtually no new supply delivering will this create a boom?
Personally, pretty skeptical of this point myself but depending on how you read demand (is there future pent-up demand we are not seeing today?) maybe supply is going to be close to equilibrium in the future...who knows though.
Of course a big part of it is narrative. Consider that the biggest takers of office space now days are a lot of these tech companies whose stock has the ability to literally double or triple in a few months or opposite depending on the narrative being spit out at the moment, and how the narrative when we were booming was all about getting the top talent and so all of these tech companies had no issue tying up all the best office space out there, whereas now the attention is on cost cutting so they're on the sidelines. Their narratives change so quickly now that I wouldn't be surprised for it to come back the other direction in <2 years from now.
Definitely a mix of both.
I listened to one of Sam Zell's last interviews and all he did was harp on supply and demand. Its amazing how complex the real estate environment has gotten but you have to wonder how these old timers have done so well, they stick to the basics. You can do as much underwriting and financial engineering as you want, but at the end of the day, it all comes back to supply and demand and that will dictate how you do in the long run (with barriers to entry being a big factor).
I find the office conversion to multi use to be super interesting
Definitely is, just very market dependent. I've looked at a lotttt of office to resi conversions and the cost to convert is substantial. Also most traditional office floorplates are huge, with only perimeter windows. In order for there to be "light and air" for interior units, there has to be an open core which is rare in relatively modern office buildings. Just very tough to make work although a lot of the old loft style buildings it's being done. For suburban office, better the land get upzoned and you can build multi or townhouses.
Hello Patrick.....
Try getting a reservation at dorsia now you stupid bastard
Kind of difficult when you've been chopped into tiny pieces....
We are one massive labor correction away from office rebounding in a significant way.
I once heard every major event: war, famine, pandemic, depression has a 5-10 year recovery cycle to normalcy.
We are barely two years out from COVID. The reason work from home worked is because people were already in their roles and familiar with their teams. Obviously a lot of great tech and innovation came out of that to make WFH easier, workable and efficient, but I don't think it will be permanent long term.
Almost every company I have spoken to, that made significant hires of remote workers, is experiencing issues with new employees, especially recent graduates.
It is logical large multinationals mandated in office first, but I think as the labor market tightens small to medium size employers will return with a 4&1 model as well.
I don't think you can ever replace the office for culture, moral, training, collaboration, oversight, and camaraderie, and many companies are finding that out now.
That said I do think very small 1-10 person offices may suffer and have a significant effect on suburban B and C, and large MSA C type office properties.
I would add that many of these things are cyclical and trendy and having an office may come back into vogue, sooner rather than later.
To answer your question more directly. I think office properties and major MSA urban cores will recover in micro market / sub market bursts driven by a number of factors including cost of capital, tax incentives, development flexibility, migration, etc and whoever is bold enough to get in front of those trades will make a fortune.
We've been seeing a flight to quality in our market. Almost all of the distressed office assets with high vacancy are Class B and C Office buildings. Class A buildings in good locations are doing just fine. Employers are leaving their aging office spaces with outdated footprints and moving to newer spaces with amenities that will attract employees to come to office. Some are downsizing- for example taking 2 floors instead of 3 or 4 in order to save on rent or because the workforce is part remote.
Remote work in modest-high earning corporate positions is dwindling, but I think hybrid work is here to stay. The hybrid concept just works so well with what employees desire. No commute saves 1 hour or more of time each day, and gas money overtime. Provides a lot of flexibility to employees.
Companies are instituting In-Office Mandates- typically anywhere from 3-5 days a week. Read an interesting Bisnow article that provided tracking data that suggested that the frequency in which employees are actually present in office is less than what the company policy requires. Employers are not enforcing the policy because they want to keep their employees happy.
Two deterrents to employees going into office that have not been mentioned yet are crime and homelessness- which has ticked up in most urban areas nationwide. Violent crime, day-time crime, and theft (ex. car break-ins). Employees need to feel safe in the location in which they work in order to want to come to office more frequently. Converting obsolete office buildings to residential and incentivizing new businesses to occupy office space downtown is not enough to revive downtowns if the area itself is having an uptick in crime and homelessness.
Hybrid work model is probably the best, low cost value proposition you can offer on your team. People can go in every day, that's fine, but offering the option to WFH gives even the "5-dayers" a flexibility to use.
I'm sort of guessing that this practice has been used by a select group of very high level employees for decades already because no one can or would like to really question them on it... Extending that opportunity, without it being questioned, to someone you hired to be a professional regardless of their level is probably the best counter-balance you can offer to employees.
We 5-day it (or cycle that) during crucial periods or when a new hire joins the team to bring them up to speed, and we have expectations that you need to meet on WFH days (required communication/updates, sometimes a brief full team priority call @ start or middle day, etc.). We also work our butts off. Our team would for sure attrition if 5 days were mandated. I would personally be vocal that it will actually harm more than help productivity as well because sometimes people needs some semblance of privacy or a wall to give them space to complete a call without spamming the phone's mute or less noise/walk by distractions to complete critical thoughts or grind out larger projects.
The best example I bring up is we had a brutal stretch of time which involved a massive project where 8 people worked through the same diligence checklist. A high level directive was that we needed to set up 2-3 hour blocked out windows in a conference room for everyone to be engaged on completing this project and allow the free flow of questions. Well, the time came, conference room booked, and 5 minutes before a few realized everyone would be working without monitors. PIVOT- everyone go sit at our desks, join a video call, and we'll handle it that way. It was massively productive, and we did it from home on another day. I can't see our group performing from home for more than 2 days/week, but I completely disagree with the notion that WFH should ever be phased out in this industry.
My shop has one of the largest office conversion pipelines in the country so I will speak on this topic with authority and real time data. I can say with a high degree of certainty that Class B/C office is fucked.
The folks mentioning supply and demand are right - its not complicated. Office demand has been fundamentally altered and I don't see it returning to pre pandemic levels (in terms of total SF leased) for a long time. Class A properties are fine. Law firms, finance firms and all sorts of white glove businesses will always want prime office presence, that's never going to change. People keep talking about boomers, millennials blah blah blah - certain companies just realized they don't really NEED office space, even boomers. It's as simple as that.
We have bought out over 500k SF of office tenants out of their existing leases in the past year, including tenants like the mf GSA. We only buy historic buildings in downtown cores, so class C or B at best. The process has been far easier than we expected because tenants are typically excited to be released out of their current leases (in most cases with 5+ year terms plus options) to either a) downsize into a significantly smaller space or 2) close their offices altogether. This has included many boomers that have very successful businesses but realized they don't necessarily NEED to have offices for their specific business.
This is the fundamental shift I am talking about. Demand for office, especially class A, will always remain. But overall office demand, has decreased in a real way, and who knows how many years of economic growth, new companies etc it will take to get to that same pre pandemic level of demand. In the interim, shitty office assets are clearly fucked in my eyes so if you want to be the one that catches that knife god speed to you.
Are there specific markets you're finding the conversions pencil in? Or are you nationwide?
Nationwide, we are working on projects in seven different markets at the moment.
Yes it's market dependent - the topline has to be strong enough to justify the conversion costs.
Pretty damn interesting, to be honest. We flirted with this some but struggled to justify the costs.
Are all of your conversions MF or are you doing hotels, etc. as well?
One is full multi, two are full hotel, and two are mixed use (due to size 350-450k SF). The most important factor is floorplates & location. With regards to the costs, tax credits and other incentives (i.e. tax abatements) are what really make the deals sing/pencil. Also our average acquisition cost is $75/SF, which is a huge discount to core & shell replacement cost. We gut the rest of the buildings to the bones.
I understand the proposition of being in the office & respect anyone who likes to be in office. IMO, I’m much less productive in office. I’m in a Class A trophy building and there are too many distractions (people always wanting to talk, constant meetings, events in office, etc.). I get much more done at home in less time than it takes me in office.
My problem is the people who love going into office want to force their way of life onto those who just don’t prefer it. If I was a CEO, I’d mandate 2 days of the week (prob Tues & Wed) where everyone has to be in with no excuses to foster a community. But anyone who wants to come in more than that can do so on their own volition.
It's funny - everyone on here is making office decisions based on what they like (being in office helps my progression, helps my young people learn, etc.). We all have relatively high-paying, front office careers where responsibility and comp can grow significantly.
The majority of the work force has jobs. Call centers / customer service, in house accountants, in house paralegal, the ops guy that moves money to and from accounts, event coordinators, IT funny enough, etc. Those are jobs - there is no upward projection and that's not those folks' focus. They truly just want to get their job done. They don't expect to learn much. Sure being in the office might help them do their job a bit better due to communication, but not much better. Their goal is to clock in and clock out and make their paycheck.
Not to mention entire organizations that are centered on salespeople that are never going back to the office (marketing and advertisting)
So yes, my view is long term demand for office is fundamentally altered. Being in the office a few days makes sense for some minority of people (including all of us), but not the majority of the labor force
Machine learning and AI will have a bigger impact on those type of jobs than work from home will.
So if you look outside the US, offices are full again. WFH seems to be a US phenomenon. Will it ever go back to normal - no clue. Right now office is pretty much univestable. There really is no data to point to showing the US will return to offices or will not.
Class A Office is a luxury good. Couple this with the coming AI wave powered by LLMs and soon to come AGI, most office work(ers) will be unnecessary. Laws of supply demand work both ways... there will be a lot less demand for Class C & B office. Most office work isn't a bunch of apple employees making $400k/yr needing to sit next to each other to deliver the next $billion product to market. Most of it is admin work that AI will be doing soon.
Commenting here with my 2 cents as this is highly topical in the public REIT markets. Large publicly-traded office REITs are now trading at implied cap rates in the 7-10% range (having been trading in the 8-12% range at the most recent lows after the regional bank blowup). Not sure where a generic, REIT-quality (A / A-) office in a major gateway market would trade today, but this is what the public market is telling you they should trade for.
My understanding (and please chime in if I'm totally off base) is that long-run unlevered real estate returns have approximated 8%, and 8% is a pretty common hurdle rate in most RE deals. Your 8% unlevered return is comprised of a combination of yield (cap rate) and growth. If you have large public REITs trading at an 8-9% cap rate, that is the market in a way implying that your long-run NOI growth is going to be flat to negative 1-2% per annum. Given that office leases are long WALT, you tend to only churn about 10% of your rent roll every year, while the remaining 90% gets annual escalators approximating 2%. For that 90-10 math to pencil out to a flat to negative NOI figure annually, the 10% of leases that roll have to do so at such punitive new rents (either blowing out face rents, or offering concessions out the ass to hold face rents that nuke your net effectives) to drag down the entire weighted average. Bumping 90% of your in-place leases at 2% and renewing 10% of your leases at -20% basically just gets you to flat (down 20bps).
The wildcard here is trying to figure out what proportion of that 10% of your rent roll that comes up for expiry just chooses to either downsize or give up their space entirely, which then becomes a 100% income loss (more on NOI since you've still got fixed costs to cover). This has definitely been a trend post-COVID although it varies wildly by sector and geography. For the publics, occupancies have fallen roughly anywhere from 250-750bps since 2Q20, which is a pretty dramatic acceleration from the run-rate pre-COVID and on par with the period immediately following the GFC
I think part of the problem with the public markets is you're being asked to buy an entire portfolio of assets, and these portfolios can be large and geographically diversified. BXP owns hundreds of assets across several major US metros. Historically, people will just make high level assumptions at the portfolio or perhaps MSA level because you don't have the necessary information (and most people don't have the time) to really try to underwrite a large portfolio on an asset-by-asset basis. I think this is increasingly going to be important due to the ongoing/intensifying flight to quality. Sometimes these portfolios can have some assets at extreme ends of the quality spectrum. Look at SLG and One Vanderbilt. That's probably the best office asset in the entire US. At one point at the lows, you could make a reasonable case that there was enough equity in OVA to justify owning SLG at $20/shr and you could hand back the keys on every other asset with secured debt, and the remaining pool of unencumbered assets could cover the unsecured debt
If I try to think about a bull case for office real estate, I think people will be slow to recognize that the WFH winds are changing. I think we have already passed "peak" WFH, and you are seeing more and more anecdotal information of companies calling people back to the office. It doesn't need to be a full return to 5-day workweeks for office leasing to stabilize or even pick up. If you're running a 3 day per week hybrid model, you still need to have enough space to accomodate your workforce for those 3 days when everyone is in. You're sizing for peak occupancy, not average occupancy. Now layer in how much headcount has grown at some of the large office-using firms in the US, and I think you'll find a situation where they start to call people back, only to realize they don't have enough space to accomodate everyone. This could drive incremental leasing.
Another thing I've been thinking about is how the headline availability stats are misleading. Yes, most major metros are like 20% available today, but that's a hodgepodge of asset quality and if I had to guess, I'd say class B/C makes up a disproportionate chunk of these total availability stats, especially in a place like NYC where the average office asset is like 75 years old. The ongoing flight to quality means that jobs that are going to be in-office for some portion of the week (generally front office jobs) are all going to gravitate towards the highest quality subset of the market and won't be swayed by big discounts at piece of shit suburban office properties. So from that perspective, I can see how the top 5-10% of office assets in a given market can continue to see true net effective rent growth even in a 30% available market, because 25 of that 30% is functionally obsolescent space that nobody will ever touch again, and everyone is fighting over the top 5%. The problem from a private POV is that top quality stuff is unlikely to see real distress, so likely won't come to market. The stuff that comes to market is generally going to be the dogshit (look at the stuff on Cal in SF that traded for like $100psf) nobody wants, so its the curse of adverse selection
Also what I've noticed is that this ongoing flight to quality is shifting office to more of a hospitality model. Because the "default" has been working from your home for the past 2-3 years, offices need to give you a REASON to choose to come in over just staying at home. You're seeing this in office owners adding more amenity spaces, shared meeting rooms, A/V equipment to seamlessly run meetings between in-office and in-home staff, etc. All of this requires large capex dollars and in some cases, is taking previously revenue-producing space and turning it into amenity space. They're doing this to remain competitive, not to be able to meaningfully push rents, so that's a huge increase in your maintenance capex going forward, and office was ALREADY a hugely capital-intensive asset class. We model 30% of NOI going out the door every year in the form of maintenance capex, which is fairly extreme, but its kept us away from buying office for a long time as a result which in retrospect has been a very smart decision.
This doesn't even factor in the long-run thinking about what happens to cities if they let their downtown cores die. The entire model of urban living is centered around the office, commuting into the office from the surrounding areas to work 9-5, spending money locally for lunch, and perhaps going out after work. Office buildings pay a non-negligible proportion of total property taxes by city (I recall looking up which cities are most reliant on property taxes from office buildings but I forget where I found this information). So what do you think happens at a time where city finances are already in the shitter and they need to spend more money than ever to recover from the effects of the pandemic, all while their property tax revenues continue to drop as owners petition for lower assessments? Something will need to be done and sooner rather than later, if these idiots running the cities can see the writing on the wall. The cities will need to do something, whether its tax credits to incentivize office to resi conversion, or forcing all municipal employees back into the office, or something else I cant think of - SOMETHING will need to be done to stem the bleeding, and you have to think whatever that "something" is, has to be an incremental positive for office values.
So really this has just been me regurgitating a lot of the office-related thoughts that have been floating around my head over the past year or so. My gut tells me (again, from a public markets POV) that the office stocks bottomed after SVB collapsed and while you might get a bit of a retracement after this monster short-covering rally they've all had, I think over the next 2-3 years they'll be much higher and this will have been, in retrospect, the ultimate buying opportunity. Everyone is underweight, everyone is short, everyone is pessimistic. I think they have the ultimate wall of worry to climb, but they will do so.
Great thoughts. Totally agree that everyone is excessively bearish on office. It’s amazing how much opportunistic capital has been raised and how few investors are willing to touch the sector. Goes to show that herd mentality continues to run strong (even among the opportunity funds who claim to be contrarians or independent thinkers). Personally, I think anyone who believes office is dead/obsolete is a total moron. That said, I can understand the hesitation around wanting to invest in the current environment. If this recession that everyone has been calling for a year and a half ever decides to show up, that won’t bode well for office in the near term and there will be even better bargains to be had. I’m keeping a close eye on the sector and am licking my chops for what’s to come. We’ll see…
Fantastic response but I don’t get the optimism in the last paragraph. Following your logic of 10% churn (approx) Class B & C should reach distress points (i.e. >50/60% leased) by 2025 or 2026? And that’s if unencumbered. If they have debt on it presumably some covenants will be triggered and they’ll have to give back the buildings before then.
Sounds goofy but for real, RTO is our civil obligation.
The product is systemically important . I wouldn't bet against it, but it's not for everyone.
Easily the most complex real asset, and maybe the only way to hit a home run these days.
Going to the office is not a civil obligation. That’s fucking moronic.
Don't think you get the point.
No, the most complex real asset is retail (specifically malls), followed by manufactured housing (ironically also the most heavily mom & pop / least sophisticated ownership base) and affordable housing (LIHTC etc). Office is simple. Not as simple as industrial but still simple.
Having worked across it all, couldn't disagree more. I'll concede that retail leasing is comparable in some ways but generally much less sophisticated tenants. There's a lot more going into the office user decision than just sales.
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