Houston retail market tight amid rising construction costs, low deliveries

Real estate’s once maligned asset class is strong in Houston.

The metro’s retail market saw rent hikes and low vacancy in the second quarter, amid significant dips in deliveries and net absorption. 

The market maintained a 4.8 percent vacancy rate for a record five consecutive quarters, according to a JLL report. It’s the lowest rate since 2017. 

Asking rents also reached a peak, growing 3.6 percent year-over-year in the second quarter, surpassing $20 per square foot for the first time in five years, the report said.  

Net absorption decreased by 40 percent, from 1 million square feet in the first quarter to 606,000 square feet in the second, the sharpest quarter-over-quarter drop since the start of the pandemic.

Big-box vacancies left by corporate bankruptcies, like Bed, Bath and Beyond and Tuesday Morning, are expected to be filled, but “there is a lag between when recently bankrupted occupiers move out and when a new store can build-out and take occupancy,” they said.

But the market remains tight. Deliveries fell 26 percent last quarter as ballooning costs rock the commercial market, and financing challenges arise.

The situation is leaving even long-laid plans in limbo, said Jonathan Probst, managing principal of SRS Real Estate Partners.

“Construction costs are so high. Even if they were giving land away, it’s tough to make a new development work,” Probst said. 

Some developers that originally planned retail are now entertaining going vertical with office or multifamily instead, he said.

“The increase in interest rates has caused cap rates to rise, making the exit strategy of a potential development unattractive to both local and institutional developers,” he said.

“Retail follows rooftops” rings true in the Bayou City. But a confluence of economic factors are eating into that idea as housing development has begun to outpace retail development, Probst said. As a result, there has been an uptick in demand for second-generation retail spaces.

Emerging concepts such as quick-service restaurants are honing in on spaces 1,500 square feet or under, a notable departure from their previous preference for larger footprints, JLL notes, partially explaining the city’s sharp decline in net absorption. 

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