Office owners struggling with remote work are now worried about the recession

Office leasing is highly dependent on the health of the economy. During recessions, companies often cut costs by laying off workers, which means they need less space. Rising interest rates also hurt office landlords because they push property values ​​down.

According to data from Moody’s Analytics, the last three recessions have led to a decline in the number of office occupants.

Thanks to companies squeezing more office supplies and more employees into smaller spaces, the share of US office space leased today is much lower than it was in the recession of 2001 or the start of the subprime crisis. While office demand remains strong in many sunbelt cities, vacancy rates in cities such as New York, San Francisco and Chicago rose during the pandemic, in some cases to the highest levels in decades.

At the start of the year, landlords expected leasing to increase in the second half of 2022 as more companies moved their employees back to the office. Now that looks less likely, said Daniel Ismail, senior analyst at real estate-analytics firm Green Street.

“There is some hope in the near term. Mr Ismail said many companies have adjusted to remote working in the past two years, making them more likely to give up office space when they need to cut costs during an economic downturn.

How bad things turn out for the office sector depends on the severity of the slowdown. during and after 2020 recessionThe national office vacancy rate fell hard as the decline in production was sharp but brief.

Kevin Fagan, head of commercial real estate economic analysis at Moody’s Analytics, said some employees using the office were let go. But if rising interest rates lead to mass layoffs and corporate defaults, vacancy rates could rise significantly.

A combination of weak demand and rising interest rates is driving prices down. Green Street estimates that office-building values ​​are down 8% this year. While some modern buildings are still fetching high prices, investors and lenders say they are reluctant to spend big on older office properties.

Some are withdrawing from the deal altogether. Property investment firm Harbor Associates LLC signed a contract in May to buy the 40-story Union Bank Plaza office tower in Los Angeles for $165 million, according to a Securities and Exchange Commission filing by the seller, according to real estate investor KBS. a colleague.

The price was about $40 million less than what KBS paid for the property in 2010. Still, Harbor withdrew from the deal less than a month later, KBS said in a securities filing. A spokesperson for Harbor declined to comment.

Despite these adverse conditions, the share of outstanding office mortgages remains low. Landlords typically hold less debt than they did before the 2008 recession, providing a valuable buffer during recessions. Still, lenders and analysts say they expect more defaults.

Craig Bender, head of commercial real estate in the US at Dutch Bank

ING Group,

He said he’s still bullish on modern office buildings in good locations, but is shying away from lending against older, cheaper properties.

“There’s going to be a crisis in that asset class,” he said. “There’s no question.”

write to konrad putzier konrad.putzier@wsj.com