The commercial property market in New Zealand is facing some challenges in 2023, as inflation and interest rates rise, but there is still strong demand for quality office and industrial space, according to industry experts. In this article, we examine some of the trends and key changes taking place in the market and what they mean for investors and owners.

For a further deep dive into the current state of the New Zealand & Australian commercial property market, investment outlooks for the remainder of 2023, into 2024, and more, join our free Investment Briefing webinar on October 17.

Flight to quality: A trend across office and industrial sectors

The flight to quality is a trend both in the industrial and office sectors, as providing good space would help attract and retain staff. “Twenty years ago, industrial properties were just big, dusty warehouses, but they are very different spaces these days,” said Gavin Read, JLL Head of Research. “They incorporate employee wellbeing, and some even have gyms. Occupants want to show quality workspace to potential clients, so they can see what the business stands for and how it operates.”

Some new industrial developments will become operational this year, particularly in Auckland and Christchurch, but many of those were already pre-leased and occupied, Read said. “Demand for these large warehouse spaces is set to continue, despite the economic slowdown, and there will be a continuation of the 2022 rental growth story,” he said.

Regarding office space, Read said the flight to quality meant there was a growing difference between prime and secondary property, and that was both a rental and a yield story. “The risk of office vacancies is more in the secondary market,” he said. “In contrast, in Auckland’s CBD-Viaduct-Wynyard Quarter area, there is high demand and very low vacancies in newer buildings, for example.”

The flight to quality had been going on for a while now and would persist as office space continued to be improved, Read said.

Auckland: Solid prime market fundamentals

The Auckland property market entered 2023 on a highly favourable occupancy footing across some sectors. Industrial markets tightened during the second half of 2022 from already low vacancy levels, with Auckland at a scarcely believable 0.1% across the entire market. However, there is one area of concern in the secondary offices, where vacancy reached 19.3% mid last year according to CBRE.

Strong occupier momentum in the industrial, retail and office sectors for good quality and well-located space is expected to continue throughout 2023 but will lose some steam in the second half of the year.

Sales volumes have been forecast to increase through 2023, with more motivated sellers coming to the market driven by the need for greater liquidity considering debt financing pressures as higher interest rates flow onto lower interest cover ratios, and LVRs and gearing covenants get impacted by revised valuations. With little relief from interest rate pressures in H1 2023, the emergence of more motivated vendors will likely shift this middle ground towards buyers’ pricing.

As the yield-driven capital return component continues to be negative in 2023, total returns are forecast to moderate, with this year also seeing an additional handbrake from our forecast of somewhat lower rent growth. Average commercial market total returns over the 2023-2026 period are forecast at 6.7% p.a. but with significant sectoral variations.

Wellington: Commercial property activity expected to pick up from late 2023

The significantly reduced transaction volumes in the Wellington commercial property market in 2022 are expected to continue throughout most of 2023, predominantly owing to the impact of interest rate increases. This will likely cause ongoing market inactivity until more clarity emerges on the timeline around the normalisation of borrowing costs.

Once the market is confident that interest rate declines are imminent, we will likely see the bid-ask gap narrowing to a point where commercial property buyers and sellers can find a logical middle ground. While the market is still in a ‘wait and see’ mode, CBRE expects activity to pick up later this year once interest rates have peaked and the pathway towards rates decreasing is clearer.

Property valuations are expected to continue to move in line with changing market dynamics. With high-interest rates persisting, the market's challenge this year is acceptance of the need for valuations to continue moving more toward buy-side expectations, and transaction evidence is expected to begin to support this.

More information

Don't miss the second of our Investment Briefing webinar series where Findex Head of Investment Relations, Matthew Swieconek, and Grant Atchison, Head of Real Estate Funds Management at Alceon Group discuss:

• Investment outlook for the remainder of 2023 and into 2024

• The current positioning of Findex investment portfolios

• Overview of the current state of the New Zealand & Australian commercial property market and how Alceon is positioning its investments in response.

Register here for the Findex Investment Briefing webinar on October 17, and get all of your investing and real estate questions answered.

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13 September 2023