Asia-Pacific's office market on the mend

THE Covid-19 pandemic has profoundly impacted commercial real estate in a number of ways. Some are cut and dry, while others are not so simple.

One of the most widely discussed and fiercely debated topics is the future of office real estate, the role it will play, and how occupier strategies will evolve in a post-pandemic world.

A study by Cushman & Wakefield has evaluated the potential impacts that several forces may have on office demand, and therefore on office fundamentals.

Asia-Pacific market has greater resilience

Under the baseline scenario, net absorption in Asia-Pacific excluding Greater China in 2020 declines by 70 per cent year-over-year to 20.5 million square feet (sq ft) before moderately improving to 28 million sq ft in 2021, accounting for both cyclical and structural impacts on office demand.

For 2020, this is a significant decline and represents an absorption rate of 2 per cent, the lowest on record dating back to when record keeping began in 2007.

Tied to the region's office employment base, the outlook for demand masks a few competing effects.

Demographic growth in emerging markets helps to mitigate office job losses in the aggregate. Emerging markets of South-east Asia and India are expected to fare better, adding 683,000 office jobs in 2020.

Even so, this is still more than a 50 per cent drop-off in net new office jobs compared to the average of the last 10 years, and it is 10 per cent lower than 2008 office job growth, the year of the Global Financial Crisis (GFC) nadir for emerging markets in the Asia-Pacific region.

Ultimately, for emerging markets, this results in a shallow and short decline in office rents of just 2.6 per cent over the next 18 months, returning to pre-Covid-19 levels in the fourth quarter of 2022 with continued growth thereafter.

In contrast, advanced economies in the region appear to be more sensitive to global economic conditions as they lack the strength of domestic demand and demographic drivers seen in emerging markets.

The advanced economies in the region including Singapore are expected to lose 340,000 office jobs in 2020, more than four times the loss during the GFC in 2009 and three times the loss during the Asian Financial Crisis in 1998-99.

When factoring in both employment declines that are more severe, and more elastic rent responses to declining occupancy levels, a sharper peak-to-trough rental decline of 21.3 per cent is forecast over the next 21 months.

This slowdown, combined with outright job losses in the advanced economies, will challenge the region's office leasing fundamentals over the coming six to 18 months.

Despite the challenge, demand is forecast to remain positive - not only for the current year, but also through 2030.

The most recent data provides early evidence that Asia-Pacific will be more resilient relative to the other global regions, particularly the Western world. In the US, for example, in the second quarter of 2020, net absorption was -23.1 million sq ft versus 2.9 million sq ft in Asia-Pacific. In contrast, net absorption in the US is forecast to be negative in both 2020 and 2021.

Nevertheless, the regional office market is not immune to the negative impacts of the pandemic on demand.

Further, Asia-Pacific enters the crisis with a formidable supply pipeline. A robust wave of office developments is slated for delivery in 2020-2022. Over 211 million sq ft of new supply is expected by the end of 2022, up 5 per cent when compared to 2017-2019.

As of the second quarter of this year, more than 230 million sq ft has broken ground, representing 20.8 per cent of the region's inventory.

Inevitably, the combination of weaker demand and substantial new supply will push vacancy higher, which is expected to peak at 16.7 per cent in late-2021 and remain elevated for the following year before decreasing more rapidly. This level of vacancy is over 500 basis points (bps) above pre-Covid-19 (Q4 2019) levels and will be the highest recorded vacancy on record.

While this is a steeper increase than was anticipated at the start of the year, because new supply had already started pushing vacancy up prior to the pandemic, these forecasts reflect an intensification of that trend.

Work from home: minimal impact on office space demand in Asean

Increased flexible working and work-from-home (WFH) practices do not meaningfully alter the outlook for Asia-Pacific's office market. We expect net office demand from 2022-2030 to be only 4.5 per cent lower as a result of these effects.

The impact is dwarfed by the region's overall high-growth backdrop.

Multiple surveys of both workers and executives show that most people want to be in an office at least a few days per week, but with some changes, including increased flexibility to WFH, social distancing in the office, more private desks, more private defined space and fewer shared desks. So even with aggregate increases in WFH, not all firms plan on reducing office footprints.

The way that these effects play out regionally varies tremendously. These variations are due not only to the numerous assumptions about WFH but also the regional outlooks under various economic scenarios.

For example, in the emerging markets of South-east Asia - Indonesia, Thailand, the Philippines and Vietnam - the demographic outlook is particularly strong.

For those countries as well as Mainland China, the growing penetration of office-using employment in the broader labour market has significant long-term growth consequences - especially since India and Greater China are the two most populous countries in the world. Our findings show that these regions are the least impacted from a structural perspective.

Robust population growth, domestic demand and rapid urbanisation in South-east Asia means employment declines will be minor and short-lived. Moreover, the increasing penetration of office employment, as emerging markets move up the global value chain, is significant when a country as large as India is factored in.

Annual average office job creation for the region is forecast to be 1.47 million per year (from 2021 to 2030).

Consequently, Asia-Pacific's occupied inventory is forecast to increase by 84 per cent, equivalent to over 760 million sq ft, as it increases from 908 million sq ft in the second quarter of 2020 to over 1,670 million sq ft by the end of the decade.