As white collar employment bounces back, demand for office space in Sydney and Melbourne is on the rebound, although strong supply additions continue to challenge the market in Melbourne and may yet do so in Sydney.

Following a significant rebound in the state’s economy driven by strong levels of housing and infrastructure activity as well as improving markets in retail and tourism, vacancies within the Sydney CBD have fallen from around 8.6 per cent at the same stage last year to around 7.4 per cent today – the lowest vacancy rate of any CBD in Australia.

While strong levels of supply additions mean the vacancy rate is actually rising in Melbourne, meanwhile, this obscures what has actually been a recovery in demand conditions, which have been supported by a modest recovery in the state’s economy brought about by strong housing market conditions, reasonable levels of consumption growth and a softer Australian dollar.

Driving this in both cities is a return to growth in traditional white collar employment sectors of the economy. Having previously largely stagnated, job growth in the science, technical and professional sector returned to healthy levels of 5.6 per cent throughout the country over the 12 months to February this year. Employment in the smaller media and technology sector registered a rebound in the magnitude of 12.5 per cent after experiencing a decline. Even the previously soft market in finance has stabilised.

This saw a surge in enquiry from technology based clients in the Sydney CBD of a whopping 220 per cent in 2014, while finance and insurance sector growth has also been strong.

CBRE says rents remain stable in Sydney despite the decline in vacancies, but effective rents in Melbourne have now stopped falling and are expected to return to modest levels of growth in 2015.

Furthermore, capital values appear to be rising as investment dollars pour in. Having registered sales transactions of the whopping $6 billion 12 months earlier – more than double any other annual figure in any of the previous 10 years – Sydney rose again to record more than $7 billion in sales in the 12 months to 2015. Melbourne, meanwhile recorded transactions worth almost $5 billion, also almost double anything seen in the past 10 years. Because of this, yields are in compression.

Notwithstanding this, however, strong levels of supply additions are set to challenge both markets. In Sydney, more than 250,000 square metres of new space will come online over the next 12 months or so as the first two towers at Barangaroo and further new towers at 5 Martin Place, 20 Martin Place, 20 George Street and 33 George Street come online. Melbourne will also see strong levels of new additions in locations such as 313 Spencer Street, 699 Bourke Street and 567 Collins Street.

Because of this, CBRE expects vacancy rates in the Sydney CBD to edge up to 8.5 per cent by 2017 (albeit with vacancies across most sub-markets to fall) and rental growth to remain modest over that period. Vacancy rates in the Melbourne CBD, CBRE reckon will reach 10 per cent in 2016 before coming back down.

In terms of investment, yield compression in both cities is likely to continue in the short term amid what real estate firms say are strong levels of underlying confidence in Sydney and good levels of demand in Melbourne, as reflected by the purchase of 383 King Street Haileybury College and 446 Collins Street by an Asian investor.

Sub-Markets by Area – Sydney

According to CBRE:

• Strong rental growth of 3.5 per cent per annum is expected throughout 2015 in North Sydney, with strong demand for prime space and no full floor options currently available.
• Momentum is expected to continue in the sizzling hot market of Crows New/St Leonards, where rents are up 3.6 per cent year on year and prime vacancies are tumbling.
• Demand in Chatswood is expected to remain steady over 2015 before net absorption turns negative as Leighton Holdings relocates to Northern Sydney.
• In Macquarie Park (net face rents up 1.3 per cent year on year), occupier demand is expected to be led by tenants who have been displaced though conversion of previous stock to residential use.
• Vacancies are expected to decline and rents are expected to rise by three per cent this year in Parramatta, where growing levels of demand will run up against limited supply prior to the addition of new stock at Parramatta Square in 2016.

  

Sub-markets by Area – Melbourne

Again, according to CBRE:

• Notwithstanding a rise in demand, the addition of 173,000 square metres of new space over the next two years will see vacancy rates in the Melbourne CBD edge up to above 10 per cent in 2016. Growth in rents will remain modest even as tenants such as Leighton Contractors and Victoria Police shift into town from St Kilda Road.
• Vacancies are also expected to edge up in St Kilda Road notwithstanding the withdrawal of stock for residential conversions amid the aforementioned relocations of Leighton and Victoria Police.
• Demand should tighten in Southbank despite the additions of 51,000 square metres of new stock by the middle of 2017, as up to four buildings are withdrawn and converted to residential use.