Falling incentives and investment drive growth in Sydney office market

21 November 2018

CBRE's NSW office market has recorded its second strongest sales period in a decade, with a $2.7 billion investment injection in the third quarter set to drive further yield compression by the end of 2018.

CBRE’s latest Office MarketView report highlights that in the three months to September 2018, $4.5 billion worth of office assets changed hands nationally, with NSW accounting for 52 per cent of the sales activity. Brisbane saw the second highest level of transaction activity at $1.2 billion, followed by Melbourne with $746 million.

In Sydney, sales activity was driven largely by domestic demand, with Australian-based buyers accounting for 77 per cent of transactions, while offshore investors contributed 23 per cent ($567 million) of the total volume.

Sydney CBD yields remained stable during the quarter at 4.75 per cent, however, further compression is expected by year-end, fueled by tightening market conditions and strong investor demand.

CBRE NSW State Director of Capital Markets, Michael Andrews, says the Sydney office market continues to attract significant interest from both domestic and offshore investors due to its strong performance over a number of years, comparatively strong yields and global standing.

"An increase in M&A activity, including the fight for the Investa portfolio, is testament to the high level of demand for office investments, especially Sydney offices," Andrews says. "The weight of capital seeking a home in Sydney, but also the lack of purchasable stock available, will continue to push up prices in the short to medium term."

"There is still significant depth of global capital chasing large, high profile investments at aggressive prices in the Sydney CBD and markets like North Sydney and Parramatta."

CBRE Associate Director, Research, Felice Spark, says strengthening economic and employment conditions in NSW is supporting growth in the office market.

"Sydney continues to outperform in 2018, with limited new supply in conjunction with high levels of withdrawals in the CBD helping drive consistent falls in vacancy across the major office markets of North Sydney, Macquarie Park, Parramatta and the CBD," she says.

"This is placing downward pressure on incentives and is likely to drive further yield compression of around 25 to 30 basis points by the end of the year."

During the third quarter, Sydney’s office market experienced 3 per cent rental growth – fueled largely by a sharp decline in prime and secondary incentives by 170 basis points and 90 points respectively.

Stefan Perkowski of CBRE’s North Sydney office leasing team says rising rents in the Sydney CBD is driving a surge in demand from occupiers looking to migrate to North Shore markets.

"With secondary grade CBD rents continuing to rise, there is a flight to quality from tenants that are attracted to North Sydney’s more affordable pricing and proximity to the city. It offers CBD premium grade quality at rentals 30 per cent comparable Sydney CBD opportunities."

Perkowski says the recent leasing success at 1 Denison Street highlighted the strengthening appeal of North Sydney’s office market.

"On the back of Nine Entertainment being announced as the anchor tenant of Winten Property Group’s 1 Denison Street tower, there has been a strong increase in enquiry in North Sydney from prospective tenants that see value in being close to the media corporation," he continues.

"SAP’s commitment to occupy the building upon its relocation from Aqualand’s 168 Walker Street tower is a further boost for North Sydney."

Perkowski says the conversion of 168 Walker Street tower to residential would also have a wider impact on driving downward pressure on vacancy.

"With all tenants needing to vacate by the end of 2019, and no backfill story, there is a further 7,000 square metres of office space in the North Sydney market that could be absorbed over the next 12 months."