There are early signs of mean reversion in average tenant size, which bottomed at 11.1k sf in November 2022 (-23% vs. pre-Covid) and has since increased 7% to 12.0k sf as of May ‘24 (-17% vs. pre-Covid). This reversion is being driven by a now long-standing push by most major employers for a return to office colliding with a weaker labor market.
VTS analyzed 14 office markets (13 U.S. + London) to determine which would see the greatest benefit from this reversion by “size adjusting” new tenant demand from the current average tenant size measured over the trailing 12 months to the average pre-Covid size across each individual market.
Should mean reversion in the average tenant size continue, Silicon Valley, Boston, Seattle, and San Francisco stand to benefit the most and could be considered opportunistic investment opportunities.
This return to office push has slowly gained traction as the labor market has softened over the past two years, driven by high interest rates, which have been 5.5% since August 2023, the highest level in 22 years.
Job postings nationally are now 32% below post-covid highs set in December 2021, according to Indeed. Data from the BLS paints a similar picture. The unemployment rate in June 2024 was 4.1%, 60 basis points above the low of 3.5% after increasing each of the last three months. The number of persons unemployed 27 weeks or more is up 36% YoY.
This has led to a slow decline in the number of job postings mentioning remote or hybrid terms, which peaked at 10.4% in February 2022 (vs. 3.2% pre-Covid) and has since fallen 24% to 7.9%. Similarly, remote/hybrid postings for software jobs are down 21%. Over this period of time, both physical office attendance and demand for office space have increased. According to VTS, office demand nationally is up 23% vs. February 2022, and data on physical occupancy from Placer.ai paints a similar picture (+18 percentage points; 68% of pre-Covid levels).
The weaker labor market has given firms more leverage around their “office first” policies, which will likely continue to push the average tenant sizes higher as firms re-adjust to working patterns more consistent with historical norms.
This is likely to most strongly benefit demand in markets with more potential for mean reversion in average tenant size, making them potentially compelling investment opportunities hiding in plain sight.
VTS analyzed 14 office markets (13 U.S. + London) to determine which would see the greatest benefit from this reversion by “size adjusting” new tenant demand from the current average tenant size measured over the trailing 12 months to the average pre-Covid size across each individual market. [Chart 1; Chart 2]
Demand would be 19% higher over the trailing 12 months (TTM) and 17% below pre-Covid levels vs. -30% currently. In order, Silicon Valley, Boston, Seattle, and San Francisco would benefit the most due to their exposure to the tech industry which would see the most reversion (+59% vs. TTM; -31% vs. pre-Covid on a size-adjusted basis vs. -56% currently).
Several markets would be above their pre-Covid run-rate of new demand, indicating that more tenants entered the market over the TTM on a count basis than pre-Covid annualized numbers. Notable markets in this cohort include Silicon Valley, New York, San Francisco, and Los Angeles. Conversely, five markets analyzed would still have recent demand that’s ~20%+ below pre-Covid.
In part 2 of this series, we will take a closer look at recent demand trends on a market-by-market basis with an emphasis on tech demand, given its influence on the capacity of demand across many major markets to mean revert. Our follow-up analysis will also include two newly launched VTS Data markets: Austin and Atlanta.
In the meantime, contact dataquestions@vts.com for additional access to the data leveraged in this analysis.
Chart 1: National demand + size adjusted demand, all industries.
Chart 2: National demand + size adjusted demand, tech only.
Max Saia is the Head of Investor Research at VTS.