GREATER BOSTON MARKET VIEWPOINT 3RD QUARTER 2016 BOSTON The downtown Boston market continued to exhale after tenant movement in the Seaport (Pier 4, 121 Seaport) to creative office space at North Station (Hub on third quarter. Vacancies moved up to 11.1%, a 0.7-percentage-point increase from Causeway) to the redevelopment of 40 Water Street. Additional projects totaling the past quarter and more than two percentage points from the cyclical low set several million SF of new inventory are either proposed or permitted to move at the end of 2015. This slowdown was not unsurprising: tenants continue to forward. GE is the latest to join the development fray, submitting plans for a shuffle space, as tenant migration to the Seaport is having long-lasting impacts on 389,000 SF office headquarters in the Seaport, including 293,000 SF of ground- other submarkets within downtown. No single submarket vastly underperformed, up development to complement the existing Necco buildings on-site. but tenant movement by Steward Health, Houghton Mifflin, Neighborhood Health, • Demand growth is being driven by the TAMI sector. Tech companies in particular, and the FBI all contributed to the sluggishness. While no signs of a recession are some migrating from the ultra-tight Cambridge market or fresh off a round of looming, the property markets may be showing signs of topping out. Landlords venture capital funding, are increasingly drawn to the CBD’s relative value. still hold pricing power, as rents rose again this quarter, and despite the recent Another key factor is the CBD’s transit connectivity—tenants can maintain access increase in vacancy rates, they are in line with the city’s long-term average of 11.1% to the Red Line, which links them to the tech center of Kendall Square. since 1988. After so many big tenant moves throughout the marketplace, it takes time to recalibrate. • Demand is healthy, with over 200 tenants in the market seeking an aggregate of over four million SF of space. Although the median requirement is less than One of the market’s major drivers—healthcare—has especially been on the move. 25,000 SF, some of the larger requirements include: Partners opened its new Assembly Square campus in Somerville this quarter, causing vacancies to rise in downtown, along with vacancy changes from other TENANT SF INDUSTRY healthcare-related movement. Large spaces such as that of Partners are hard to fill Mintz, Levin, Cohn, Ferris, Glovsky, and Popeo 225,000 Legal Services in one fell swoop. Instead, it takes multiple tenants to make up for these moves, and Johnson & Johnson 200,000 Pharmaceutical/Consumer Products right now the market is looking to technology, advertising, media, and information JPMorgan 150,000 Financial Services (TAMI) tenants for help. TAMI firms continue to be prime drivers of demand, but Fleetmatics 100,000 Computer Software/Services they do not benefit the market equally: many are seeking B assets or low-rise Draft Kings 100,000 Daily Fantasy Sports space for their office locations. Statistics in the core submarkets are as follows: VELOCITY MARKET SEGMENT SUPPLY VACANCY RATE* YTD 2016 ABSORPTION • Velocity (signed lease activity) was otherwise light during the quarter, as tenants Back Bay 13,318,940 14.8% (127,668) seemed to be pushing their leasing decisions out into the future. With the Class A 11,288,855 16.0% (308,266) impending election, this isn’t terribly surprising. Class B 2,030,085 8.6% 180,598 • Digitas signed for 200,000 SF at the redevelopment of 40 Water Street. The Financial District 33,817,226 11.1% (785,803) asset, former Fidelity space, will include several new floors and open-air outdoor Class A 27,762,321 11.6% (702,838) space. The firm will be leaving 33 Arch Street. In a related deal, Teksystems Class B 6,054,905 8.6% (82,965) is also leaving 33 Arch for 1 Fed, where it will double its space. The company Seaport 8,604,191 10.4% 262,545 could not wait around to see whether Digitas would leave its Arch Street space Class A 3,985,295 4.9% 376,138 and was forced to look elsewhere. Class B 4,618,896 15.2% (113,593) • Wayfair continued its leasing binge in the Back Bay with another lease at Copley * includes sublease space Place. With over 400,000 SF of space now, it is becoming one of the city’s largest tenants. SUPPLY AND DEMAND • Red Hat took nearly 40,000 SF of space in the Seaport at 300 A Street, close to GE’s future headquarters. Although its main Massachusetts operations are in • The Back Bay’s newest tower, 888 Boylston, delivered this quarter. Another 1.4 Westford, Red Hat’s expansion in the Seaport allows it to tap into a wider labor million SF remains under construction, from ground-up developments in the pool than its suburban location alone would. 2 Highlighted third quarter transactions include: TENANT ADDRESS SF SUBMARKET RENTAL RATES DigitasLBi 40 Water Street 200,000 Financial District • Rents continue to push northward, ending the third quarter above the previous Wayfair Copley Place 125,000 Back Bay cyclical peak. America’s Test Kitchen 23 Drydock Avenue 55,000 Seaport • Many submarkets’ rents are well above the last cycle’s highs, with the Financial Red Hat 300 A Street 40,000 Seaport District a laggard. While Financial District direct rents are up nearly 5% over the Teksystems 1 Federal Street 15,000 Financial District past year, they remain about 5% below 2008 levels. • With the growing demand for innovation space, some of the Class B brick-and- ABSORPTION AND VACANCY beam space is priced higher than historically more expensive lower floors in • Absorption was negative for the third straight quarter. towers. • Both Partners and the FBI took occupancy of their new build-to-suits in the Inner • The spread between asking rents in various segments of the market is depicted Suburbs, leaving space behind in Boston. in the following table: • Vacancies in the Back Bay Class A market are abnormally high, at 16%. They SPACE TYPE RENTAL RANGE/SF were last this high more than a decade ago, in 2005. Such vacancies may finally Class A – High Rise $65 - $85 allow more tenants to find space that has long been hard to come by in the Class A – Mid Rise $55 - $65 market. Class A – Low Rise $48 - $60 • After a very strong 2015, absorption in low-rise space within Back Bay and Class B $38 - $55 Financial District towers has taken a major step back. Combined, this space (below the 20th floor) has posted nearly 800,000 SF of negative absorption LOOKING AHEAD… year-to-date. The largest contributors this quarter were in the Back Bay at 222 Berkeley and 500 Boylston. Meanwhile, across the market, floors above the 20th • GE’s relocation to Boston has the potential to create industry clustering and long- posted more than 100,000 SF of absorption this quarter. Overall, there is equal term growth for the market. vacancy in both low- and high space, each offering 1.9 million SF to tenants. • Continued upward pressure on rents is anticipated over the next 12–24 months, • Even with modest absorption levels over the next few years, the vacancy rate is but growth will be tempered. expected to remain below 11%, as depicted in the following graph: • Strong venture capital and National Institutes of Health (NIH) funding will continue to fuel demand in the CBD as companies remain attracted to Boston’s Forecast | Vacancy & Absorption excellent labor pool, public transit, and innovation environment. 2,500 Forecast 20% • Boston will remain a target for investment capital—both foreign and domestic. 2,000 15% 1,500 8.9% 10.3% • Tenants from outside the market are looking to Boston for space, which could 10% 1,000 quickly turn absorption around. 500 5% 0 0% 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 -500 SF (Thousands) -1,000 -1,500 -2,000 -2,500 Total Boston Absorption Total Boston Vacancy Rate 3 4 Wynn Resort in Everett Project Fact Sheet SPOTLIGHT ON CONSTRUCTION TRANSFORMATIVE DEVELOPMENT Boston is in the midst of a construction boom. With soaring residential towers, new hotel rooms, infill retail, a $2 billion destination casino, and office development, the market is dynamic, to say the least. Many of these projects are potential game-changers. The center of gravity is shifting across a wider swath of the market, making for more vibrant submarkets. From Somerville to Brighton to the Fenway to downtown, tenants have more Wynn Resort in Everett alternatives than ever and are willing to jump from submarket to submarket, when in past cycles that would not have been viable. Transit is paramount for many of these projects, and that is certainly the case downtown. Boston Properties is aiming to tap into underdeveloped transit nodes at North Station and Back Bay. The REIT is underway on its Hub on Causeway, which will create a mixed-use hot spot centered at the TD Garden. The first phase will be anchored by a Star Market, entertainment venues, and a 175,000 SF creative office development. Putting a modern twist on the open layout environments so popular in cities across the country—in the Meatpacking District or Chelsea in New York or the Seaport in Boston—it will offer tenants brand-new space on top of two transit lines and the commuter rail. This project has the potential to change the fabric of the North Station Submarket, creating a catalyst for future growth.