Commercial property: Industrial and retail sectors lead, office struggles

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SIMON BROWN: I’m chatting now with John Loos. He’s property strategist at FNB Commercial Property Finance. John, appreciate the early morning time. Your Property Broker Survey – Market Balance for the fourth quarter of 2024 is an owner-occupied survey. This is not going and chatting with sort of the listed Reits, as I understand. This is very much more, as I said, the owner-occupied part of the market.

JOHN LOOS: No, we just emphasise that all the brokers have to include ‘owner-occupied’. They participate in owner-occupied markets, but they do have listed funds that they deal with as well. So it’s across the market, but with some emphasis on owner-occupied, yes.

SIMON BROWN: Okay, got you on that. What we are seeing is, if we look at average time on market – which is perhaps hard to measure but in many senses a good indicator of activity – it declined across all three sectors in the fourth quarter. So certainly things are picking up and looking better.

JOHN LOOS: Yes. If one looks at it by sector I don’t like to put too much emphasis on the exact weeks on the market, because it’s a small sample size in commercial and difficult to estimate. Industrial and warehouse space being the shortest time on the market, followed by retail and then office being the longest, that has generally been the pecking order in terms of performance between the sectors for a good few years now.

But more important, I think, is that if one looks at the broker’s perception of the direction over the six months leading up to the fourth-quarter survey, they do perceive a declining average time on market of properties for sale in all three sectors. All three have been perceived to have been improving – industrial and retail and office markets across the board.

SIMON BROWN: I take your point. It is that trend that so much matters. Industrial and retail – and we’ll talk office in a moment – they perceive that that demand is exceeding supply, which is showing positivity again, and showing that that direction, that trend is looking better than it did a couple of years ago.

JOHN LOOS: Yes. So industrial demand has exceeded supply in their perception for quite some time for the last few years, industrial being been the outperformer of the three major commercial property sectors. A lot has more to do with the warehousing and logistics side of industrial property, as opposed to manufacturing, warehousing and logistics requirements changing, modernising, changing. It’s a structural change. We are moving a lot to more online retail and so on, and online type of delivery. So that’s been a positive structural change and we’ve seen industrial property in many parts of the world outperforming the others in recent years.

Retail is more; that’s just recently that demand has exceeded supply. It also had big over-supply, almost like the office market a few years ago. Consumers have been struggling. We know that. We know that there’s been a good supply of new retail property in these suburban markets for many years. It’s only in the last quarter or two that investor demand has exceeded supply. So it’s making something of a comeback.

And then the struggler, office space, is still heavily oversupplied. Of course if you look at the tenant market of office space, high vacancy rates too. This has been a less appealing one for investors for quite some years. There were high vacancy rates nationally even before Covid-19 lockdowns and the work-from-home surge. Office space has been in various ways the financial real estate business services sector.

The sectors that demand a lot of office space have been making productivity improvements, so the employment numbers haven’t been growing that much. It’s more the GDP, but through technological improvements.

And then we’ve also moved to things like hotelling of desk space and hot-desking, which means if you don’t have a booked desk for a single person 365 days of the year you require less desk space, because at any given time there’s a group of people who aren’t in the office – they’re on leave or something. So in many ways we’ve been improving or diminishing. There’s been a declining desk space requirement, I guess you could call it, in many corporates. So the office market has had to deal with these structural changes.

Then came the work-from-home surge that added to the challenges. So it’s still making its way back from an oversupplied situation. It hasn’t been the appealing one for investors for quite some time.

SIMON BROWN: Absolutely. Is that sort of the hybrid working model, where we work from home a bit, we do a couple of days in the office? Does that seem to be settling? Certainly from the US I’ve seen a couple of the big companies sort of moving to more days in the office – if not five days in the office. Are we finding that settling, or is there still potential for shifts in that trend?

JOHN LOOS: There’s more data in places like the US than there is here, but I suspect we follow something of a similar trend. It seems to have settled in recent years, where hybrid and work-from-home levels were elevated from pre-Covid levels, as you would expect. But obviously there was a significant comeback to the office after the hard lockdowns.

It’s tough to tell. You have to be careful of listening to noise. There are corporates making noise about ‘back to the office more’. But they’re the noisy ones. The ones who’ve settled into hybrid models are just quiet. You don’t hear much from them.

So there’s a bias in the noise levels and there’s a bit of a subtle war across the world between employees and employers. The employees want hybrid far more than employers. But even when you do have back-to-the-office drives, a lot of the corporates have kept their office space through Covid lockdowns, so they’ve kept leasing similar amounts of office space, which have just been standing half empty for a number of years.

So even if many corporates were to say, okay, ‘It’s not two days in the office, now it’s five days,’ that doesn’t necessarily mean a need for more office space. It just means that the attendance rates in the existing office space will be higher through the week. So I’m not sure that that makes a big difference to the amount of office space that’s needed by many corporates if there is a genuine back-to-the-office drive that’s going to succeed.

SIMON BROWN: Gotcha. Yes, absolutely. I take the point. They’ve kept the space.

A last question. We are expecting a stronger economy into 2025. FNB is forecasting three 25 basis point rate cuts over the next six months. Both of these [expectations] bode well for all three sectors, office perhaps even a little more as we get some GDP growth; although to your point they’ve kept the space. But this should boost or aid the recovery that we have been seeing and continue the positive trend.

JOHN LOOS: I think a moderate recovery, yes. Industrial, because it’s been benefitting from a structural change for the last few years, might not have much more runway to improve, but certainly for office space. And I think some of the investor office demand will be old office space that’s repurposed for residential. That would be the plan. And that may pick up, because residential demand often picks up when interest rates decline.

We haven’t started the year yet economically – sort of the solid year. The manufacturing PMI, for instance to December, is pretty poor. The third quarter of last year was still weak. So we haven’t yet seen the genuine signs of economic growth improvement. But we do expect that during the course of this year.

SIMON BROWN: We’ll leave it there. John Loos, property strategist at FNB Commercial Property Finance, I appreciate the early morning time.