In the last quarter of 2020, Detroit Metro was still struggling with office vacancy rates well below the historical average at 11%. Due to COVID-19 restrictions, most office buildings have been empty since March 2020, and they continued to remain empty in the Q4 Office Market Report. Additionally, many companies were forced to downsize due to the poor economy and lack of profits with people staying home. With that being said, investment activity in this sector has paused. Many investors are cautious today due to the lack of accurate forecasting in the office sector. However, there is some hope in the future for investments, as many companies will be required to invest in larger spaces to encourage their employees to practice social distancing.
Prior to 2020, net absorption was already low. In fact, it was the lowest it had been since 2010. But, during Q2, which is when COVID-19 started to spread in the United States, it continued to decrease into the negatives. Thankfully, in Q4, net absorption increased to just under -0.5 million SF. In Q3, this number was about -1.25 million SF, so this is a significant improvement.
As mentioned above, vacancy rates were already low in 2019 and the first quarter of 2020. But, unfortunately, the rate continued to increase throughout the year. The peak vacancy rate was 11% in Q4. This rate is expected to increase to 12% in 2021, and then decrease in the middle of the year. The vacancy rate in Detroit was consistent with the United States’ vacancy rate, which is important to note when deciding which city you may want to invest in for the future.
The availability rate for Detroit was also consistent with the United States’ availability rate. They both finished off the year sitting at just about 15%. Surprisingly, this is much lower than it was in recent years. Until the fourth quarter of 2016, the availability rate in Detroit was between 15.5% and about 18%. This is a positive sign as more rentable space is being used, rather than sitting empty.
Another thing to note is the top office leases in 2020 mostly took place in Q4. Of the top 10 Detroit office leases in 2020, four were in Q4. The largest office leased in Q4 was 51,714 SF in Southfield. Perhaps this is a telling sign that upcoming quarters will be more active for office commercial real estate.
Unfortunately, rent growth fell negative in Q3, and was still negative throughout the fourth quarter. However, year-over-year gains were at about -0.6% in Q4. The cost of rent was around $21 per SF in Detroit and its submarkets. This is the highest rate in the state, but it is consistent with other major cities in the area. The submarkets with the highest rental rates for offices are Birmingham, Bloomfield, and the CBD. Birmingham specifically has an average of $35 per SF.
In 2021, market rent in Detroit will likely remain around $21 per SF for all four quarters. Additionally, Costar’s analysts predict it will be around $23 per square foot in 2022. Stability in such uncertain times is a relief. For investors, this means safer investing decisions. On the other hand, for renters, they will be paying a lower rate for a longer period of time.
Despite challenges in other areas of the office sector, construction has been doing incredibly well. In fact, Detroit is at near-record levels for its development activity in the fourth quarter. The city and its submarkets have over 3.7 million SF under construction. This means the first quarter of 2021 is expected to deliver over 900,000 SF alone.
The submarket with the most square footage being developed is the CBD. This submarket has three buildings under construction, which equates to 1,098,000 SF. Of this number, 94.1% of the space is pre-leased. With five buildings under construction, Detroit-New Center has 778,000 under construction. Of which, 64.2% is pre-leased. It seems businesses are more interested in new spaces, or building their own offices.
The sales of office spaces were the most heavily impacted area in 2020. The first quarter of 2020 had just under $150 million worth of sales, while the second quarter had around $15 million. However, in Q4, it appears investors have gained confidence in the market. Sales in Q4 were about $70 million, which is a sign Detroit is on track for recovery.
The cost per square foot is expected to dip in 2021, but will start to increase again in 2022. With the cost per square foot being so low, it may be a good time to invest in a property now. While we hope the economy improves, investors can take advantage of the lower costs so they can earn more from their leases later.
Thankfully, the Detroit economy has improved very quickly in comparison to other larger cities. The unemployment rate increased at one of the fastest rates in history due to COVID-19 in Q2. In April, the unemployment rate was so high that about 250,000 jobs were lost in one month in Detroit alone. The unemployment rate reached its highest point in May, which was 26.5%. But, it has gone down significantly. By August, the rate was 13%. In the future, the job market is expected to grow steadily. By 2021, Detroit, and the rest of the United States, are expected to recover from job losses, which will increase the need for office space.
Due to the National Production Act, about 30,000 jobs were added to the manufacturing industry between April and August. This brought the industry to almost pre-COVID levels. Additionally, the tradable economy in Detroit gained 50,000 jobs. This is due to the fact that 75% of Detroit’s exports go to Canada and Mexico. The USMCA agreement should continue to ease trading with our neighboring countries. However, if the supply chain continues to have strict COVID regulations, this can cause production to slow.