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Downtown Office Market's Downward Trend Will Continue For Months As Covid Blocks Typical Recovery

The coronavirus pandemic may have subsided a bit so far this fall, but the pain and damage caused within the downtown office market are not over. A few bright spots aside, vacancy continued to increase in the third quarter, and the delay in returning to the office caused by the delta variant most likely means a true recovery can’t happen until next summer, according to experts.

It’s another sign the pandemic has placed the office market in uncharted territory. Unlike in the familiar boom-and-bust business cycles of the past, any forecast can be upended by bad news from public health authorities, leaving office stakeholders largely in the dark.    

“The current market downturn has not followed the typical recovery trends of previous downturns where recovery happened within four quarters of their onset,” Colliers International Chicago Senior Director of Research Sandy McDonald stated in the firm’s third-quarter report. “Six quarters into the pandemic, vacancy increases and additional negative absorption will continue to the end of 2021. The office market is beginning to show signs of life with new deals and expansion signings, but those deals will not reverse the downward trend until mid-2022.”

Chicago skyline

Companies renting within downtown office properties continued to shed space in the third quarter, pushing vacancy up to 17.7%, according to Colliers. That’s a jump of 70 basis points since June, and up from 13.8% one year ago. The market has seen nearly 4M SF of negative absorption year-to-date.

It’s a disappointing set of statistics considering the optimistic take many had at the beginning of the summer. Illinois Gov. J.B. Pritzker and Chicago Mayor Lori Lightfoot had allowed many restrictions on businesses to lapse as coronavirus infections and hospitalizations fell to record lows, and downtown companies began formulating plans to bring many employees back to their offices after Labor Day. But the delta variant surge brought back masks and other restrictions, and the ambitious plans of early summer got shelved.

“The recovery has not followed the path that everyone anticipated,” Newmark Research Manager Amy Binstein said. “There were so many companies that had plans to return to the office after Labor Day, but a lot have pulled that back to after the holidays or in the spring.”

Newmark also found the downtown vacancy rate had increased to 17.7%, the highest it has been since the Great Recession in 2010. Another cloud hanging over the central business district is the 6M SF of sublease space put on the market.

But the outlook isn’t all gloomy.

“The [vacancy] statistics only tell one part of the story,” Binstein said.

The number of office workers headed downtown each day ticked up after falling off a bit in late summer when the delta variant hit Chicago.

Chicago’s office usage stood at 32% in October, after sinking to 28% in the final weeks of August, according to data from Kastle Systems, a firm that makes touchless access systems and tracks office usage nationwide.

And although large, publicly traded firms are generally still cautious about signing new deals, leasing activity also perked up in the past few months, mostly driven by smaller companies ready to test the waters, Binstein added.

“Leasing activity has obviously not reached pre-pandemic levels, but it’s stronger than it was earlier in the year, and a lot of that was spurred by tech companies,” she said.

SMS Assist, a technology firm that provides cloud-based software to residential and commercial properties, signed a new lease in the third quarter for 114K SF in Sterling Bay’s One Two Pru at 130 East Randolph St. in the East Loop. It was the third-largest lease of the quarter, and 20K SF more than SMS Assist has at 875 North Michigan Ave.

Other large tech deals in Q3 include Hazel Technologies’ decision to lease 53K SF from Tishman Speyer at its 320 North Sangamon St. in Fulton Market. Founded in 2015 by a group of Northwestern University students, Hazel develops technologies that helps companies reduce waste in their supply chains.

Newmark Research, Q3 2021 Chicago CBD Office Report

That and other Fulton Market deals show the neighborhood may recapture its reputation as Chicago’s hottest submarket. The opening of several nearly empty towers during the pandemic sent its vacancy level into the stratosphere, topping out at 33.3% in the second quarter, but besides tech- and creative-heavy River North, Fulton Market was the only CBD submarket to see positive absorption in the third quarter, Colliers found, and its vacancy shrank back to 28%.

River North had the third quarter’s most notable lease. Kirkland & Ellis signed for 662K SF in Salesforce Tower, now under construction at Wolf Point. The law firm plans to move from 300 North LaSalle St. when the 1.2M SF tower is finished in 2023. Most of the buildings in River North are smaller, renovated brick-and-timber warehouses or other loft-style buildings, and their managers also see reasons for optimism.  

“For the better part of three months, we have seen a considerable uptick in tenants inquiring about space,” Urban Innovations leasing broker Candice Murphy said. “Sizes vary from small startups to well-funded large corporations and everything in between.”

Urban Innovations was founded in the 1980s, when it started transforming River North from an industrial warehouse district to a sleek loft office market. 

A lot of tech firms took advantage of what remains a tenants’ market, and traded their Class-B spaces for more upscale Class-A buildings, Colliers added. That doesn’t mean the pain is over for Class-A landlords, which saw 278K SF of negative absorption in the third quarter, but Class-B had it worse, with 770K SF of negative absorption and a 20.6% vacancy rate.

Roughly 245 downtown lease deals were signed in the third quarter, according to Colliers, about 100 more than were completed in Q3 2020.

Binstein said that the start of vaccinations for children aged 5 to 11, which U.S. public health officials say could begin in the next few weeks, will boost the confidence of many parents that the pandemic is coming to an end. That will help corporations get their return plans back on track, and hopefully further ramp up leasing activity.  

Murphy agreed.

“We take our cue from our tenants and the last goal for a full return was Labor Day 2021 and most companies have not followed through in my opinion,” she said. “However, I am confident that the market will continue with its slow, steady recovery and that summer 2022 will see a boom as companies who have been hiring during this time and allowing people to work from home will enter the market for more space.”

But the road to recovery will last beyond next summer.

“Six million square feet of sublease space is not going to go away overnight,” Binstein said. “We will see the impact of the last 18 months for years.”