Delta Associates:

June 23, 2013

Bethesda/Chevy Chase is viewed as one of the Washington area’s most popular and prestigious communities. This area is notable for the presence of the National Institutes of Health, which attract a variety of health/medical-related tenants, as well as a diversified office mix that includes corporate, financial, and nonprofit tenants.

At the moment, office demand is modest, but the apartment and condominium markets have been experiencing strong performance.

Offices: Limited demand

The area has 11.4 million square feet of inventory as of first quarter 2013. Net absorption of office space totaled negative 57,000 square feet during the first quarter of this year — meaning more space was vacated than leased — and negative 49,000 square feet during all of 2012. The direct office vacancy rate edged up to 8.9 percent as of March 2013 from 8.4 percent at year-end 2012 and 6.8 percent in March 2012. The overall vacancy rate (including sublet space) was 10.2 percent at March 2013, up from 9.6 percent the previous quarter and 7.9 percent a year earlier.

Average effective rents in Bethesda/Chevy Chase were $27.80 per square foot at the end of first quarter 2013, down 0.2 percent from year-end 2012. This compares to a 3.3 percent decline during all of 2012. Given the elevated vacancy rate and limited demand, effective rents should edge down during the remainder of the year, as landlords offer generous concession packages to attract tenants. Of course, better buildings likely will outperform the area’s average.

We expect leasing activity to pick up pace gradually during the balance of 2013, particularly from the private sector. However, demand will likely remain limited compared to past recovery cycles, as tenants are hesitant to lease space until the economic climate improves. Despite this short-term lull, Bethesda/Chevy Chase is poised to experience long-term steady growth because of its tenant composition, particularly its focus on health care and as host to key government agencies.

Apartments: supply to grow

During the 12 months ending March 2013, the top-tier (Class A) high-rise apartment market in the Bethesda area experienced a 7.6 percent increase in average effective monthly rent, while the stabilized vacancy rate decreased to 3.7 percent from 7.4 percent one year earlier. These metrics are indicative of an area with strong demand and limited supply—the last Class A apartment project built in Bethesda was completed in 2008.

Effective rents for Class A high-rise units averaged $2,579 per month at March 2013. Concessions were nearly nonexistent in this segment of the market at March 2013.

In March 2013, the 36-month pipeline of new apartments in Bethesda totaled 1,491 units that were under construction and available or planned, compared with 369 units in the pipeline the previous year. The current pipeline represents an 83 percent increase in the Class A high-rise apartment inventory, if all the planned units are built.

Given the size of the apartment development pipeline, it is likely that the Bethesda apartment market will experience a more competitive environment in the period ahead.

Condos: Development activity on the upswing

The new condominium market in Bethesda, which has seen 803 units delivered since 2003, is experiencing a moderate upswing in development activity. Currently, there are 115 units in two projects under construction, of which 84 units are unsold. In addition, there are 161 units planned to start marketing within the next 36 months and another 448 planned units in the long-term pipeline with delivery expected beyond the next three years. Finally, there are 537 units that are planned as either condominiums or rental apartments.

Bethesda is experiencing strong pricing, with the new units on the market today selling for an average of $905 per square foot, with no concessions offered. At this time last year, there were no new projects selling units in this neighborhood.

With a relatively limited 36-month pipeline of 245 units, market conditions in Bethesda are likely to remain steady. Conditions could change, however, if some of the planned projects move forward more quickly than expected, or if any of the projects now planned as either condominiums or apartments are eventually developed as condominiums.

David Parham is senior vice president at Delta Associates. Staff at Delta Associates contributed to this article. For more information, please visit
www. deltaassociates.com.

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