The convergence of absorption and vacancy rates

Absorption rate in CRE explained simply

Imagine a sponge:

• The commercial real estate (CRE) market is like a big sponge.
• Vacant space is the water the sponge can hold.
• Tenants are like people squeezing the sponge, soaking up space.

The absorption rate tells you how fast the water gets squeezed out:

• It’s the rate at which vacant space gets leased or sold, usually expressed as square footage per month.
• A high absorption rate means the sponge wrings out quickly (lots of leasing), indicating strong demand.
• A low rate means the sponge holds water (vacancy), suggesting weak demand.

Metrics to compare absorption rate and glean insights:

• Vacancy rate: This is simply the percentage of vacant space compared to the total available space. It’s a snapshot, while absorption rate shows the flow. High vacancy rate with rising absorption suggests improvement; conversely, low vacancy with falling absorption suggests potential future trouble.
• New supply: How much new space is being added to the market? Rising absorption rate despite new supply shows even stronger demand.
• Rental rates: Are rents rising or falling? Rising rents with good absorption solidify a strong market.

By looking at absorption rate alongside these metrics, investors can form a better picture of:

• Market health: Strong absorption indicates a healthy market where tenants are readily taking up space.
• Property performance: A property with consistently high absorption compared to competitors suggests it’s desirable.
• Future trends: Absorption trends can help predict future vacancy rates and rental rates.

Remember, absorption rate is a dynamic measure, giving a clearer picture than just vacancy rate alone. So, next time you hear about absorption rate, think of that sponge – it can be a powerful tool for CRE investors!

Additional Investor Insights

• Days on Market: How long does it take to lease vacant space? A shorter period suggests strong demand and faster rent collection.
• Asking Rent vs. Effective Rent: The difference between the initial asking rent and the actual rent tenants pay reveals negotiation leverage and potential for future rent increases.
• Lease Renewal Rates: High renewal rates indicate tenant satisfaction and a stable income stream for the property.