The Chicago real estate investment community is bracing for a rough winter as both commercial and residential owners prepare for property tax hikes as COVID-19 continues to present a significant threat.
Compelled by what Chicago Mayor Lori Lightfoot characterized as a “the hikes come as the city’s tax revenues decline. Chicago has been hampered by the effective shutdown of McCormick Place and its formerly robust convention trade, as well as a fall-off in tourism. The likelihood of a widely distributed vaccine by the second half of 2021 offers a welcome light at the end of the tunnel, but such hope is too late for a city budget gap more akin to an abyss than a typical Chicago pothole in winter.
While the city’s property tax reassessment in 2021 will likely place the largest burden on commercial properties, the real pain won’t be felt until 2022, when taxes are due. Investors looking to deploy their plentiful dry powder are using very conservative underwriting assumptions ahead of reaching deals across real estate sectors in Chicago. For office space, in particular, greater uncertainty remains as remote work continues amid an unclear timeline of the pandemic’s eradication. Institutional money has shied from investment in the commercial business district as office-using tenants hit pause on executing significant long-term leases.
Many jobs requiring commercial office use have been insulated from the brunt of the pandemic-induced recession; however, no sector has been immune, and all companies are reviewing their real estate footprints to identify cost-saving opportunities to increase short-term liquidity. CoStar, a real estate analytics firm, reports that a historical high of 89.6 million square feet of space representing 17.6% of total Chicago office inventory is available, while softness in demand has put downward pressure on rents since March.
Office rent growth in Chicago has been flat year over year, consistent with national trends. The Chicago market had an unfortunate culmination of events, as new supply came on line just as demand waned due to pandemic-induced job losses. While the job market has mounted a recovery to 7.2% unemployment, more than halving the 17.3% level hit in April, full employment is still months away. Pain in the job market has been exacerbated by certain sectors of Chicago’s significant service and tourism economy, which faces a longer road to recovery.
On the supply side, the Chicago office market is working through its largest wave in more than a decade as large-scale new deliveries become available. These include the Old Post Office redevelopment by 601W Companies and the Bank of America Tower, a joint venture between the Howard Hughes Corporation and Riverside Investment & Development. Those two projects were delivered in the fourth quarter of 2019 and the third quarter of 2020, respectively.
To add insult to injury, landlords aren’t just competing with new supply equipped with the latest and greatest touchless technologies, air ventilation systems and state-of-the-art amenities – they are also contending with the sublet market, which has picked up activity as companies look to cut costs and shore up their balance sheets.
But amid all the uncertainty, there is still a significant role for Chicago and other core markets to play in generating office-using demand. Take Google, which has continued to expand campuses in New York, Atlanta and Chicago – all core markets that are part of a larger diversity and inclusion strategy. The depth and diversity of talent pools in these markets can’t easily be replicated elsewhere, and continued strength of pricing of office assets in those markets reflects that premium.
While the appeal of the city life has been taken away by the pandemic, this will be temporary as people eventually return to enjoy the vibrancy and culture of cities like Chicago.