The U.S. may have the most diverse post-pandemic office space outcomes. Data in major cities like New York and San Francisco is clouded by workers’ temporary move out to the suburbs. We are seeing limited tenant defaults. When leases rollover during the next few years, however, we expect to see pressure build in secondary offices with smaller tenants that have not yet de-densified.
Still, there are other relevant trends in the U.S. One is a migration of companies from higher-tax to lower-tax cities like Austin and Dallas. We do not think that it will be cataclysmic for big cities, but it certainly drives demand growth for those relatively small low-tax markets. In addition, some markets have their own set of employment drivers that can offset work-from-home trends. Silicon Valley is one example.
Q: Any final demand trends that you’d want to highlight?
Many large tenants want to be net carbon neutral by 2030. If they want to honor that commitment, the cities they move to will be those with convenient public transport. In addition, achieving carbon neutrality will limit the style of office assets that some of them can occupy. So we think that core prime assets in global gateway cities will do fine, but assets in secondary locations could suffer badly from telecommuting.
We have seen a similar trend in Europe – albeit with different roots – affect retail shopping centers over the last decade. As e-commerce mushroomed, yields between core and secondary shopping centers diverged, with prime core retail doing fine, but secondary performing poorly.
Q: Where are you focusing in the U.S., particularly in the opportunistic space?
John Murray: PIMCO has been active in the higher-yield, shorter-duration, more opportunistic part of the market, including both public and private debt and equity. Our office strategy focuses on the slice of employers that will not offer work from home. For example, we have acquired two vacant office complexes in Silicon Valley in the last nine months. We would argue that Silicon Valley is a heavy research and development market, and much of that cannot be done readily at home and therefore we believe we will see less pressure on those markets. Both office complexes are future-proofed: They are well-positioned for flexible use and potential de-densification. One asset is LEED (Leadership in Energy and Environmental Design) certified, and we expect the other will be post-redevelopment.
