Shanghai Office Falling Vacancy Boosts Puxi CBD rents

Shanghai, Jan 10, 2019 – Rents rose in the overall office market over 2018 as financial services, TMT, and coworking companies remained active. “The decentralised office market continues to flourish, with some new clusters' stock reaching critical mass,” said Eddie Ng, Managing Director for JLL East China. In the retail sector, expansion from casual dining and beverage brands continued to contribute to the leasing market. Residential sales momentum slowed under tight policy and diluted demand. In the logistics sector, quarterly net absorption reached its highest level in two years as several new completions launched with full occupancy. China en-bloc transaction volumes remained stable amid 2018’s tight financing conditions.

Office

Overall Grade A net absorption reaches 1.33 million sqm in 2018. “Flexible space remained popular as co-working operators continued to expand their footprints, and corporates are increasingly embracing this flexible working culture to attract young talent,” said Anny Zhang, Head of Markets for JLL Shanghai. TMT companies continued to show strong demand as well.

Supply in 2018 reaches 1.31 million sqm, mostly in decentralised areas. In 4Q, Foxconn Building and Ruiming Tower reached completion in Lujiazui CBD. In the decentralised market, three projects added 155,172 sqm to the market, including EBA Center in the Dalian Road submarket and Qiantan Oriental Plaza and New Bund Times Square in the Qiantan submarket. Pudong CBD vacancy edged up 2.0% y-o-y to 12.1% as a result of vacancy in new completions. Puxi CBD vacancy decreased 1.5% y-o-y as core projects saw strong leasing performance. Decentralised market vacancy edged down 3.5% y-o-y as leasing demand improved.

Puxi CBD rents rebound, while Pudong CBD faces competition. Falling vacancy has boosted sentiment for Puxi CBD landlords, allowing rents to increase 3.1% y-o-y, with premium Grade A buildings leading rental growth. In Pudong CBD, demand remained stable for the dominant industry of financial services, but the market faced increasing challenges due to added supply and new Pudong decentralised submarkets.

Strata-titled Office

Strata-titled demand stable over 2018, with overall prices rising 1.6% y-o-y. Supply surged 352% y-o-y to 480,838 sqm in 2018, as more pre-sale permits were issued after having previously been placed on hold. That said, 2018’s new supply remained below levels seen over the 2014-2016 period. Annual sales volume reached 427,113 sqm, with buying demand mainly driven by private enterprises’ self-use requirements. The rising Hongqiao Transportation Hub submarket saw many transactions through the year, benefitting from the high-profile China International Import Expo. Overall prices remained stable, helped by a few outperforming submarkets.

Looking forward to 2019, supply is expected to increase further as more pre-sale permits are likely to be issued. Domestic private enterprises will remain an important source of demand. Investors and self-users will increasingly look at opportunities on the west side of Hongqiao Transportation Hub and emerging areas along the Bund.

Business Parks

Robust demand leads vacancy to dip in 4Q18 despite large supply. New supply reached a record high of 727,200 sqm in 2018, while vacancy fell 0.8 percentage points q-o-q to 11.3% due to continued strong demand. The accelerated development of Shanghai as a technology and innovation centre promoted opportunities for cutting-edge companies in the TMT, pharmaceutical and healthcare sectors, translating into leasing demand. For example, technology firm Huawei expanded by approximately 37,000 sqm in Shanghai International Trade Center for the development of a new R&D centre.

Strong demand fuels the rental growth. Overall business park rents increased by 0.8% q-o-q to RMB 4.4 per sqm per day, led by high quality new completions that contributed to strong leasing performance. Looking ahead, demand is expected to remain strong, though a large supply pipeline may constrain rental growth somewhat in 2019.

Retail

Leasing demand stable as consumers focus on value for money. Consumers in China's Singles Day shopping festival favoured goods that deliver value for money, such as appliances and brands that boost their offers with online promotions and services. “Cosmetics and O2O retailers rode this trend to expand their footprints, as did brands with strong rental affordability, such as electronics and jewellery brands,” said Ellen Wei, Head of Retail for JLL Shanghai. Overall leasing demand extended trends from earlier in 2018, with strong growth on the F&B side from casual drink and dessert shops, including brands like LeTAO and Doutor making their first entrance into China. Athleisure brands like Lululemon, Li-Ning, and Champion continued to take space in malls throughout Shanghai.

Four prime and three decentralized projects deliver 651,552 sqm. L+ Mall and Century Link Mall entered the prime Pudong market. U Center became China's first mall with an e-sports theme. Xintiandi Plaza finished refurbishment in order to target young female consumers, capping a year in which several aging retail properties in core locations underwent and/or completed renovation. Prime vacancy rose to 11.1% from 10.6% as mature projects repositioned and new projects opened with elevated vacancy, while decentralized vacancy decreased from 9.3% to 8.7% q-o-q. Overall occupancy was fairly stable over 2018 despite a record wave of supply, in which 1.8 million sqm was completed in prime and decentralised areas.

Rents continue to rise in both prime and decentralised markets. Prime open-market ground floor base rents went up by 1.5% y-o-y to RMB 50.8 per sqm per day. Decentralised rents increased 3.3% y-o-y to RMB 20.2 per sqm per day. The East Nanjing Road and Minhang submarkets led rental growth at the end of the year.

Logistics

Quarterly Net absorption reaches highest level in two years. “E-commerce, 3PLs, and manufacturers remained the main demand drivers, contributing to strong absorption in new completions,” said Stuart Ross, Head of Industrial for JLL China. In addition, Pudong and Fengxian submarkets saw seasonal demand from 3PLs and Alibaba in relation to the Singles Day shopping festival. Non-bonded take-up reached 194,700 sqm, nearly triple the previous quarter. This surge in absorption reflected Shanghai's overall strong demand. That said, 2018 has seen cases arise in which stricter enforcement of local tax policy has led some tenants to more slowly finalize leasing decisions, extending leasing periods for some projects, including one of this quarter's new completions.

Three new projects add 266,000 sqm to total Shanghai stock. Both ESR Zhuqiao Phase 1 and Vanke Jiading Logistics Park opened fully occupied. Ouluo Logistics Center Phase 1 also completed refurbishment with full occupancy. ESR Redwood Qingpu opened in traditionally-popular West Shanghai, but experienced slow pre-leasing activity, likely attributable to the area's enhanced tax enforcement. Non-bonded supply reached a record of 572,000 sqm in 2018, primarily in the second half of the year. This contributed to a rise in vacancy from 4.4% at the start of the year to 8.0% in 4Q18. Strong demand helped to limit the increase in comparison to similar supply waves in recent years.

Rental growth edges down from 3Q18 peak. The second half's large supply curbed the recent acceleration in non-bonded rents, with rental growth slowing from 1.5% q-o-q to 1.1%. Rental growth remains strong by historical standards, supported by strong demand and inquiry levels.

Residential

Sales momentum weakens in 4Q18. Shanghai's mass market commodity housing sales slowed in 4Q18 as pent-up demand that had been released over previous quarters ran its course, and strict tightening measures continued to weigh on buyers. As a result, sales volume contracted 33.3% q-o-q in 4Q18, concluding 2018 with 6.5 million sqm sold, at levels similar to those of 2017. In the high-end segment, sales volume rose 37.4% q-o-q to 805 units, thanks to another surge in supply. Sales slowed in many high-end projects, however, as expanded supply continued to dilute demand. For the full year of 2018, a total of 1,753 high-end units were sold, up 24.7% y-o-y. 

High-end supply reaches ten-quarter high in 4Q18. This quarter saw another 2.9 million sqm enter the mass market segment, with supply levels below the peak of the previous quarter but remaining the second-highest they have been since 3Q16. New supply for 2018 as a whole doubled to 8.3 million sqm as developers accelerated new launches to ease cash flow pressure. Similarly, the high-end segment saw eight projects launch a total of 1,324 units, the most since 3Q16. For the full year of 2018, new launches totalled 2,701 units, about five times the 2017 figure.

Primary prices flat while secondary prices fall at a faster pace. High-end primary prices stayed flat in 4Q18 under tight price caps. Secondary prices fell 3.8% q-o-q, accelerating from last quarter’s 1.5% q-o-q drop as individual sellers cut prices further to entice buyers amidst subdued demand in the secondary market. Rents declined 0.6% q-o-q as part of a year-end seasonal slowdown in leasing activity. Fourteen residential-use plots were sold at reserve prices, indicating a continued cooling of the land market. In addition, twenty-four rental housing-use plots were sold in 4Q18 to facilitate the city's future rental housing supply.

Primary prices are likely to remain stable, while secondary prices may continue to decline in 2019. We expect tight policy to remain in place in Shanghai through 2019, though the government may roll out fine-tuning policies to stabilise the market amidst economic uncertainty, possibly by easing mortgage policies and expanding the share of people allowed to purchase homes as first-time buyers. “Primary prices are likely to remain stable under price caps, while the fall in secondary prices is expected to continue in 2019 as cooling sentiment has largely been priced in,” said Stephenie Zhou, Head of Project Sales for JLL Shanghai.

Capital Markets

China en-bloc transaction volumes remained stable amid 2018’s tight financing conditions. The central government’s deleveraging campaign limited the overall financial environment over 2018, tightening domestic financing channels and affecting investors’ financing capacity. “The investment sales market in 2018 had a soft start, but gained momentum at the end of the year.” said Jim Yip, Head of Capital Markets for JLL China and East China. “Large capital inflows from foreign investors highlight the strong fundamentals of China’s commercial property market. The market will continue to attract capital flows from long-term investors, including insurance companies and foreign investors such as pension and sovereign wealth funds." For the full year of 2018, China’s transaction volume reached RMB 197.7 billion, down 12.5% y-o-y. Following a relatively quiet first half, the market saw a recovery near the end of the year, with 4Q18 transaction volume reaching RMB 85.7 billion, up 3.0% y-o-y.

Shanghai remains China’s top investment destination. Shanghai continued to dominate China’s property investment market over 2018 as most potential investors – notably foreign investors – continued to view the city as a stable and long-term investment option. Total transaction volume in Shanghai reached RMB 110.0 billion, accounting for 56% of China’s property investment market in 2018. As in previous years, the office market accounted for the largest share of en-bloc transactions, with 48% of total deals in Shanghai. Mixed-use properties represented 30% of total deal volume, with retail space accounting for 12% and industrial assets 2%. Hotels and other property types accounted for the remaining transaction volume.

Investors favor core asset and value added strategies. The year 2018 saw investors become increasingly active with value added approaches, particularly asset conversion and redevelopment. Such strategies are expected to result in rental growth and stable cap rates, with redeveloped projects expected to generate steady, resilient cash flows. At the same time, core asset strategies remain important for investors as they place high value on stable cash flows from properties and asset distribution.

Hotels

The inaugural China International Import Expo (CIIE) boosted average rates of hotels in Shanghai. Shanghai hosted the CIIE, attracting over one million attendees hailing from 172 countries, regions, and international organisations, as well as more than 3,600 enterprises. “Room rates of hotels across all sectors increased by approximately 13% during the month of November, despite a rate ceiling being implemented by the local government during the event period to avoid overcharging,” said Ling Wei Tan, Vice President of JLL’s Hotels & Hospitality Group.

Shanghai to see a wave of mid-to-upscale hotels opening in 2019, following 2018’s surge in luxury hotel supply. The year 2018 saw the opening of several iconic luxury projects, including the Bvlgari Hotel; The Middle House; Amanyangyun; and the highly-anticipated Intercontinental Shanghai Wonderland (also known as the Shimao Quarry Hotel), which took 12 years to complete. Despite the increase in luxury supply, high-end hotels managed to maintain an average occupancy of around 75%. Approximately 5,300 rooms are expected be added to the Shanghai market in 2019, with over 55% of new supply falling into the midscale or upscale segments.