Demand Down, but Rents Up

Tenants Still Seeking Most Expensive Office Space

Commercial vacancy rates climbed in the Washington area for the fifth straight quarter, but rents rose slightly and industry experts remained upbeat.

"We've had a lackluster tenant demand compared to what we've seen in the past," said Sigrid G. Zialcita, research director at Cushman & Wakefield, a commercial real estate firm.

But, she said, "we're still looking at a very healthy market."

Overall, the Washington office market, which includes the District, suburban Maryland and Northern Virginia, recorded a vacancy rate of 10.1 percent in the first quarter, compared with 9.6 percent in the previous quarter and 8.9 percent in the first quarter of 2006, according to CoStar Group, a Bethesda-based research firm.

Zialcita said much of the market's softness is in Virginia. Soft spots in Northern Virginia were farther out, in such areas as the Dulles corridor, which had a 13.1 percent vacancy rate and the Woodbridge-Interstate 95 corridor, which had a 14 percent vacancy rate, according to CoStar.

Despite rising vacancy rates, rents rose in the District, Northern Virginia and suburban Maryland to an average of $32.69 per square foot, compared with $32.38 in the last quarter of 2006.

The District looked better than its neighbors in one key measure of the market's health. The net change in occupied space, known as the net absorption rate, was positive in the District, but negative in Northern Virginia and suburban Maryland, CoStar said.

In building categories, Class A, the premier, most expensive office space, showed net gains in occupied space, while Class B and C buildings recorded net losses, CoStar said.

John Sikaitis, research director at Jones Lang LaSalle, a commercial real estate firm, said more tenants are flocking to Class A space, which raises rents.

"The flight to quality has brought rents up throughout the market," Sikaitis said. "Demand for quality, high-end space is greater than we've seen in past years."

Sikaitis attributed the rising first-quarter vacancy rate to new office space in the District and Virginia. In the first quarter, 1.8 million square feet of office space was completed in the Washington area, CoStar said.

"There's still a good demand in the market," Sikaitis said. "It's tailed off a little bit from 2006, but not significantly."

Still, he said "we expect in the next nine months to see further vacancy increases based on new office deliveries. But it won't have a large impact on rents because the demand is still pretty strong throughout the market."

In the first quarter, the Justice Department, which is consolidating five offices, began moving into 481,981 square feet at the Liberty Square building on 5th Street NW. In Chantilly, Northrop Grumman moved into 166,664 square feet at the Washington Technological Park II as part of an expansion of its information technology division, CoStar said.