- Average office market vacancy rates hit 20-year high
- Office rents decline for fourth straight quarters
- Market disruptors pose long-term challenge for office space demand growth
- Key Philippine real estate sub-sectors face uneven recovery amid prolonged high interest rates
By the end of Q3 2024, the overall vacancy rates for Prime and Grade ‘A’ Office developments in Metro Manila rose by 280 basis points (bps) quarter-on-quarter (q-o-q) and by 136 bps compared to the previous year. The average vacancy rate reached 18.2%, the highest level estimated by Cushman & Wakefield Research since Q2 2004, marking an increase of over 1,380 bps since Q2 2020.
In Q3 2024, an additional 114,000 sqm of office space was added to the market. This, along with the significant volume of returned office spaces due to major corporate occupiers rationalizing their office needs, has increased the volume of vacant spaces.
In the medium term, vacancy rates are expected to remain high due to the total ban on Philippine Offshore Gaming Operators (POGOs) and the implementation of the CREATE MORE Bill, which supports flexible work arrangements and will likely result in more vacant spaces.
Heightened Pressure on Average Asking Rents; Vacancy Swells in the Corridor Areas of Major CBDs
Average asking rents for Prime and Grade A office spaces have experienced a slight decrease in Q3 2024, marking the fourth straight quarter of consistent decline. The average headline rent of Prime and Grade ‘A’ developments in Metro Manila closed at PHP 1,003 / sqm / month, a 67-bps decrease from the reported average of PHP 1,010 / sqm / month in the previous quarter and a 363-bps decrease from the average of PHP 1,041 / sqm / month in the same quarter the previous year.
Tetet Castro, Director and Head of Tenant Advisory Group at Cushman & Wakefield, said, “The Metro Manila office market is exhibiting a slower-than-expected recovery in Q3 2024. Overall vacancy rates have steadily increased and average headline rents have marginally declined again this quarter, making the market more favorable for tenants. The initial effects of the total POGO ban and amendments to the CREATE Bill are already being felt in Q3 2024. Several returns of office space are observed, this coupled with the completion of new developments, have resulted in the increase in overall vacancies. In the medium term, elevated vacancy rates and lower headline rents in the Metro Manila office market are expected.”
Some Prime and Grade A developments in the CBDs are maintaining steady headline rents this quarter. However, major developers have indicated that these rents are negotiable, with significantly lower rates achievable. Additionally, developments outside the CBDs, affected by the return of office spaces, are offering more attractive headline rents, which could potentially lower average rents in the short to medium term.
Claro Cordero, Director and Head of Research, Consulting & Advisory Services at Cushman & Wakefield mentioned, “In Q3 2024, the most significant increases in vacancy rates were seen in mature markets. The Pasay City corridor experienced a rise of over 690 bps q-o-q, followed by the Taguig City corridor with a 590 bps q-o-q increase, and the Makati City corridor with a 180 bps q-o-q increase. The high concentration of POGO companies in Pasay City and new completions with low pre-commitment levels in Taguig City and Makati City have contributed to these elevated vacancy rates. In contrast, vacancy rates in office developments near the borders of Metro Manila, such as Muntinlupa City, Parañaque City, and Quezon City, remained relatively stable, with changes below 50 bps q-o-q.”
Global Political Events and AI Advancements Impact Office Space Demand Growth
According to Mr. Cordero: “The U.S. Presidential election introduces another challenge for the outsourcing industry due to the short-term uncertainty surrounding key policies affecting U.S. firms’ outsourcing activities. This is compounded by the slowdown in creating regional hubs, as the global economic growth outlook remains subdued. Despite these challenges, multinational companies (MNCs) are establishing global capability centers (GCCs) to focus on strategic and core functions, leveraging innovation, international talent, and cost efficiencies for business growth. GCCs provide multinational companies with greater control and oversight, enabling them to reinvent their shared services, research and development, and center-of-excellence capabilities. Globally, around five million square meters of demand is expected in the next 2-3 years. Besides India, the Philippines is a leading contender in this emerging trend, thanks to its strengths and capabilities as a top outsourcing destination.”
Mr. Cordero further added, “The increasing use of artificial intelligence (AI) advancements, especially in the IT-BPM industry, could potentially limit the demand growth for office spaces in key markets if stakeholders do not fully adapt to these changes. AI-driven technologies like virtual assistants, chatbots, and automated customer service interfaces have replaced human roles due to their improved efficiency, service quality, and cost-effectiveness. However, AI still requires human intervention for data analytics and managing more complex customer service issues. Therefore, it is crucial for industry stakeholders to develop policies and programs that equip and upskill workers in the IT-BPM sector with the necessary technical skills. This will help them navigate the evolving demands and seize new opportunities, ensuring steady industry growth and continued demand for office spaces in the long term.”
Market Disruptors to Chart Future Direction of Key Sub-Sectors
The series of market disruptors – including the US Presidential election, total ban of POGOs, persistently high interest rates, sluggish recovery of major developed economies, and rising geopolitical tensions – will significantly impact the future growth and trends of key real estate market indicators across office, residential, retail, hospitality and industrial segments.
Mr. Cordero added: “With near-historic high market vacancy rates, the closure of POGO operations, and the ongoing trend of flexible work schemes, office market vacancy rates are expected to rise further. In the residential segment, the recent monetary policy easing may not immediately translate to stronger demand for residential developments in the near term. However, it is expected to stabilize housing demand for mid-priced units in the long term. Further, whilst local consumer purchasing power is anticipated to moderately recover in the near term due to expected further policy rate cuts by the Bangko Sentral ng Pilipinas (BSP) and a slowdown in inflation to 1.9% by the end of September, the weak recovery of major developed economies could hinder rapid trade growth and moderate growth of inflow of remittances from overseas Filipino workers. The seasonal surge in spending is anticipated to enhance retail sales and increase customer visits but the medium-term growth prospects for the retail shopping sector remain moderate as consumers adjust their spending habits in response to the gradual reduction in living costs. In this context, retail spaces vacated by restaurants, services, and specialty shops catering to POGO employees, as well as those in mall developments that have yet to adapt to new shopper preferences, will add to the available stock in the market.”
“The industrial and hotel sectors continue to show promise as growth segments. The influx of upcoming and newly completed supply helps ease rental rate growth pressure, supported by demand from logistics and warehousing tenants. Traditional tenants, such as those in the manufacturing industry, which have consistently driven industrial estate demand over the years, are expected to further expand the segment. Despite challenges like the slow recovery of major developed economies, high flight costs, and geopolitical instability, occupancy rates are anticipated to keep improving. This improvement is driven by the expected increase in international travel demand across key destinations in the country. Additionally, the segment is likely to experience sharper growth in the number of rooms as positive prospects attract renewed investor interest,” Mr. Cordero further added.
Our Nuanced Growth Outlook Remains
Mr. Cordero mentioned, “As we transition into a period of higher interest rates, both traditional challenges and new opportunities are surfacing within the Philippine real estate market. Although inflation has decreased to near pre-pandemic levels, its lingering effects remain persistent. These effects will continue to pose challenges to the relatively healthy economic fundamentals and the resilient demand drivers of select core property markets.”
Estimated average office (gross) rental yields in Q3 2024 increased to 6.92% from its Q2 2024 level at 6.90%. Rental yields increased by 2 bps year-on-year from their level in Q3 2023. As the Monetary Board is expected to implement further reduction in the BSP policy rates before the end of 2024, Cushman & Wakefield Research estimates gross rental yields for the Manila market to continue its upward movement in the near term.
“Alternative asset classes, such as data centers and cold-chain logistics, have emerged and continued to thrive in the ‘higher for longer’ interest rate environment. Addressing the persistent structural and infrastructural challenges will enhance the local real estate market’s appeal to investors and developers, making it more competitive against other top emerging markets in Southeast Asia,” Mr. Cordero said.