Tighter Lending May Stifle Office Construction

SAN ANTONIO – Office construction should enjoy continued growth in 2007, but tighter lending standards may dampen the office market and other commercial construction sectors in the latter half of this year and into 2008, according to the latest McGraw-Hill Construction Outlook forecast released at the American Institute of Architects’ annual convention this month.

Buoyed by rising office employment and declining vacancy rates in some U.S. markets, office construction starts are projected to total 208 million sq. ft. this year, up 5% from 198 million sq. ft. in 2006, says Robert Murray, vice president of economic affairs and chief economist at McGraw-Hill Construction, a data and research company for the construction and design industries. Last year, office construction starts climbed 19% from 166 million sq. ft. in 2005.

However, sparked by a less favorable environment for commercial real estate lending, construction of office buildings and other commercial structures should experience a slowdown in the latter half of 2007, Murray predicts, with that trend continuing into 2008.

A January survey by the Federal Reserve Board found one-third of senior loan officers at U.S. banks had tightened credit standards on commercial real estate loans over the previous three months, while 46% of the officers said the quality of those loans would deteriorate this year. In particular, smaller business banks with hefty commercial real estate loan portfolios will face more pressure to justify that type of lending.

On a positive note, the large amount of investment capital pouring into commercial real estate may mean that the industry will withstand stiffer lending standards in 2007 and 2008. Whatever the financial situation, Murray doesn’t think commercial real estate construction will be a victim of the type of “boom-and-bust cycle” witnessed as recently as the early part of this decade.

According to the AIA’s most recent Consensus Construction Forecast, a semiannual survey of the country’s leading construction forecasters, U.S. construction activity is expected to increase 9% in the office sector this year compared with 2006, 13.1% in the hotel sector, 5.4% in the industrial sector and 3.5% in the retail sector. Murray is among the forecasters who contribute to the consensus outlook. The latest forecast was released in January.

Elsewhere in commercial real estate Murray predicts:

• Retail construction starts will dip 3% this year to 287 million sq. ft. Thanks to expansions by Target, J.C. Penney and other retailers, store construction won’t see a sharp decline over the next couple of years.
• With the casino boom tapering off, hotel construction starts will slip 8% this year to 75 million sq. ft. That follows a 68% jump in 2006.
• Weighed down by the softening condominium market, multifamily construction starts will drop 10% this year to 455,000 units. That comes on the heels of a 3% decrease in 2006. One bright spot: Excluding condos, the multifamily market remains a relatively safe investment.

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