The Market’s Vacancy Is Heading Toward a New Peak
By Joshua Ohl
January 8, 2024 | 2:01 P.M.
In downtown San Diego, last year ended much like it began. Tenants continue to occupy smaller, more efficient floor plans resulting in diminished demand, rising vacancy and concerns about a recovery in the city's rental market.
Although only marginally underwater, net absorption, which tracks the change in occupancy over time, was negative during the fourth quarter of 2023. Only two quarters since 2021 have recorded positive net absorption, the last one being the fourth quarter of 2022.
Headline vacancy edged higher to 26.5%, although that figure may be as high as 40%, according to market participants, given the number of leased spaces that remain unoccupied and the vacant, uncompetitive spaces that are not being listed as available. It is not uncommon to see the lights off across full floors of office buildings in downtown San Diego.
Vacancy is forecasted to rise above 35% in the coming year, following the delivery of two, long-awaited projects. This quarter, workers are putting the finishing touches on the Research and Development District, a project that has not announced any tenant but is billed to bring San Diego more than 1 million square feet of lab space. Similarly, the Campus at Horton — which has more than 700,000 square feet of space — is scheduled to finish in the coming months with no announced tenants.
Those speculative projects are among the reasons that the availability rate ended 2023 at nearly 38%, nearly double what it was at the end of 2019.
Although San Diego saw several larger leases signed during the second half of 2023 — headlined by SANDAG’s 87,000-square-foot lease at Holland Partner’s 1011 Union Street project — more space became available overall due to firms rightsizing footprints into small, efficient spaces.
Market rents have not yet returned to the level from early 2020 when they nearly touched $3 per square foot gross, and several landlords have begun lowering advertised rents in reaction to the diminished demand environment. Although rents rose nominally last year by 0.5%, they fell in real terms when factoring inflation and concessions.
Although it won’t be a panacea for the ailing office market here, some full-building conversions may begin this year, trimming some of the glut of available office inventory. One of those was acquired at the end of 2023 when an investor purchased the 88% vacant, 390,000-square-foot Tower 180. The investor now plans to convert the property into hospitality and housing at an estimated cost of $140 million.
Downtown’s demand environment will ultimately evolve. Whether traditional office users or biotech companies, tenants will likely occupy new space at some point — it’s just a matter of when.
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