The Investor's Outlook: Orlando Office Market Trends and Opportunities

1. Resilience Amid Economic Headwinds: Despite economic challenges and increasing vacancy rates, Orlando’s office market has shown resilience, with a notable decline in demand over the past year.
2. Rent Growth Performance: Orlando has outperformed the national average in rent growth since the pandemic started despite experiencing the slowest growth rate among Florida’s top six office markets.
3. Leasing Activity and Demand: The office market has seen a downward deal volume and average lease size trend in recent quarters, reflecting a softer demand than pre-pandemic levels. Tenants favor smaller leases, aligning with current employee counts without planning for significant future growth.
4. Urban vs. Suburban Demand: Demand for office space in urban areas and Central Business Districts (CBD) significantly exceeds that in suburban areas, a trend expected to persist in the coming quarters.
5. Sublease Space Dynamics: Orlando is experiencing a high volume of sublease space, second only to Tampa in Florida, with a significant portion consisting of larger blocks that are challenging to fill. However, sublease space has decreased by over 5% in the past year.
6. Vacancy Rates and New Supply: The vacancy rate has remained stable at 8.8%, below the national average, despite new office and medical space developments adding to the supply and compounding market challenges.
7. Leasing Activity vs. Economic Signals: In the face of weakening economic indicators, leasing activity remains robust, with nearly 30 deals over 10,000 SF signed in the last six months. This activity occurs amidst concerns over potential structural changes and a possible recession affecting vacancy rates.
8. Vacancy Forecast: CoStar predicts the vacancy rate could reach around 10% by the end of 2023, with a moderate downside forecast suggesting a possibility of reaching 10.5%, especially if hybrid work models become more entrenched or in the event of a severe recession.
9. Sales Volume and Investment Outlook: Sales volume has been low, with the first half of the year recording less than $170 million. Rising interest rates and long-term demand uncertainties will likely keep potential buyers cautious, resulting in muted investment volumes throughout 2023.
10. Future Market Absorption: The market expects net absorption of office space to be significantly negative for the next five to six quarters, adjusting to the evolving landscape of physical occupancy amid current headwinds.

Economic Resilience in Orlando’s Office Market

Orlando’s office market remains sturdy despite broader economic challenges. The market’s resilience is evident, with a vacancy rate significantly lower than past highs. Recent leasing activity signals a cautious optimism, but structural changes and economic uncertainty suggest a cautious outlook.

Trends in Leasing Activity

New leases outpace renewals, showing a shift in market dynamics. This trend is a positive sign, indicating a move away from short-term commitments. However, the rolling over of short-term leases could pose challenges for occupancy rates in the near term.

Adjustments in Office Demand

Demand shifts reflect cautious tenant strategies amidst uncertain times. The decline in net absorption and the shrinking average deal size underscores a market adapting to current realities. Tenants prioritize current needs over future expansions, except in cases of high growth.

Significant Leasing Deals

Notable leases highlight pockets of activity within the market. These transactions, including major leases by FEMA, Ravago Manufacturing, and Hilton Grand Vacations, demonstrate confidence in specific sectors and locations within Orlando’s office landscape.

Sublease Space Dynamics

Increased sublease availability offers opportunities amidst challenges. The rise in sublet space reflects ongoing market adjustments since the pandemic began. While presenting short-term challenges, this trend also provides potential for strategic relocations, especially for large corporate entities.

Sector-Specific Activity

The defense, technology, and tourism sectors provide stability. The activity in these sectors helps insulate Orlando from broader economic pressures, supporting a cautious but steady market outlook as the city navigates through potential recessionary impacts.

Accelerating Demand Amidst Economic Uncertainty

Demand for office space in Orlando has been rising despite potential challenges ahead. Companies are revisiting their office space needs, leading to increased rents. This resurgence follows a period of hesitation during the pandemic.

Rent Growth Dynamics

Orlando’s rent growth is notable but slowing compared to other Florida markets. While rents have increased to $28.00/SF, experts predict the growth rate will slow. This deceleration reflects broader market adjustments and is particularly evident in Orlando’s primary office submarkets.

Submarket Rent Trends

Diverse rent growth across submarkets highlights market complexity. The Tourist Corridor and Metro West lead in rent increases, contrasting with slower growth in other areas. This variance underscores the different dynamics at play across Orlando’s office landscape.

Negotiating in a Tenant’s Market

Landlords are offering concessions to attract tenants in a competitive market. Despite higher asking rents, the willingness to negotiate reflects the current tenant-friendly environment. Concessions and flexible lease terms are becoming crucial in lease negotiations.

Slowing Pace in Speculative Development

Speculative office development has slowed, with a focus on medical office space. The current development includes 1.3 million SF, with less theoretical construction compared to past years. High-profile preleased projects have set a precedent, cautiously approaching new spec developments.

Lake Nona’s Expanding Office Landscape

Lake Nona Headquarters Office Building B represents a significant addition. Targeting headquarters users, this building is a key project in the growing Lake Nona area. It remains fully available despite solid interest, highlighting the cautious leasing environment.

Tavistock’s Recent Developments

Tavistock completed two major projects, adding to Lake Nona’s office offerings. These include a class-A office building and One Performance Plaza, showcasing the demand for high-quality space. These developments reflect a targeted approach to office construction, focusing on niche markets.

Suburban Development and Supply Dynamics

Office construction in the suburbs is limited, focusing on medical space. This strategy allows the market more time to absorb available office space. After a decade-high supply wave, new projects like Ingenuity One show a continued interest in specialized office developments.

Upcoming Projects and Preleases

New developments and preleases signal a cautious optimism in the market. Projects like Unicorp’s Class A office building and The Edge by Lincoln Property Company indicate a strategic focus on preleasing and mixed-use developments to cater to evolving market demands.

Renewed Investment Confidence in 2022

Investor confidence in Orlando’s office market surged in 2022, leading to significant capital deployment. The year saw an increase in office sales, surpassing 2020 levels but not reaching the highs of 2021. The $514 million annual sales volume reflects robust interest from institutional and private investors despite expectations of distressed assets increasing elsewhere.

Cap Rate Trends and Notable Transactions

Cap rates vary by property age and location, with significant trades highlighting market dynamics. A prime example is selling a 4-star building in Winter Park at a 5.27% cap rate. Other notable transactions in Maitland Center and the Quadrangle Business Park illustrate the market’s appetite for investment, with cap rates reflecting varying vacancy and investor interest.

Focus on Large Deals

Large transactions are becoming more prevalent, marking a shift in investment patterns. Sales above $20 million have been notable in the past year, indicating a trend towards more significant, institutionally-sized deals. This shift underscores Orlando’s position relative to Southeastern peers, where high-value trades are less common.

CBD Investment Slows Amidst Remote Work Trends

Investment activity in the urban core has slowed, reflecting broader market challenges. Despite previous active periods, the potential impact of remote work and more extended hold periods suggest a cautious approach to downtown investments. This trend may limit near-term transactions in key downtown assets.

Rising Interest Rates Impacting Investment Strategies

The Fed’s interest rate hikes have made debt more expensive, influencing investment strategies. With a significant increase in the federal funds rate, investors, especially those reliant on debt financing, are adopting a more cautious stance. This careful approach, driven by economic uncertainties, is expected to dampen investment volume into 2023 as stakeholders await a stabilization in interest rates.

Final Thoughts

Orlando’s office market has demonstrated resilience and adaptability, attracting significant investment despite a complex economic landscape. The varied transactions and strategic developments signal a cautiously optimistic outlook for investors. Strategic partnerships become crucial as the market navigates through interest rate hikes and evolving office demand. For tailored investment strategies and opportunities in this dynamic environment, contact Lumicre for your investment needs.