Still Hungary for more

The total modern office stock in Budapest now amounts to 4,093,250 sqm, according to the Budapest Research Forum, comprising 3,398,770 sqm of ‘A’ and ‘B’ class multi-tenanted office space as well as 694,480 sqm of owner-occupied space. In the second quarter of 2022, two new office buildings were delivered to the market with a total of 30,750 sqm. These were the new owner-occupied OTP HQ building (28,000 sqm) and Paulay 52 (2,750 sqm). The office vacancy rate rose to 9.9 pct, up by 0.1 pps quarter-on-quarter and year-on-year. The lowest vacancy was recorded in North Buda at 4.4 pct, whereas the highest vacancy rate remained in the Periphery sub-market at 31.4 pct. Net absorption remained positive by the end of the second quarter, amounting to 33,720 sqm. Total demand reached 108,020 sqm in Q2 2022, representing a 10.2 pct increase y-o-y. New leases accounted for the largest share of total leasing activity at 32 pct, followed by lease renewals with 27 pct. Expansions of existing premises came to 10 pct, while pre-leases in new developments reached 4 pct. Owner-occupied buildings accounted for 26 pct of the total demand. The strongest leasing activity was seen in the Váci Corridor sub-market, making up 44 pct of the total demand. The Central Pest sub-market came second with 14 pct, followed by the sub-markets of North Buda at 13 pct and Central Buda at 10 pct. South Buda took only a single-digit share of demand with 8 pct. According to the BRF, 144 lease agreements were signed in Q2 2022 and the average deal size came to 750 sqm. Seven transactions were signed for more than 2,000 sqm of office space, including two renewals, three new leases, one owner-occupation and one expansion. The largest speculative transaction during the second quarter was a new lease for 5,420 sqm in Haller Gardens, while the biggest lease renewal was for a total of 4,200 sqm in Szépvölgyi 22. One building, of 28,000 sqm, was handed over to its owner. Compared to the previous quarter of the year, the percentage of new handovers decreased in Q2, as many passed over into Q3. Demand was strong, with the percentage of completed transactions increasing by 26 pct. As in the previous quarter, new leases took a higher proportion of the total demand than renewals.

Troubled waters

However, all is not rosy. The growth forecast has been revised downward according to Cushman & Wakefield’s latest Marketbeat report, due to rising inflation and higher interest rates. Whilst the economic expectations improved over the first quarter of 2022 with Hungarian GDP growth outpacing most EU countries, double-digit inflation and energy shortages threaten this performance over the coming quarters. The National Bank of Hungary is determined to continue with interest rate hikes to address inflation and support the exchange rate. The GKI economic sentiment index fell into negative figures in May 2022, even though the unemployment rate in Budapest decreased by 0.5 pct y-o-y. The growth in office use in Budapest is forecast to outperform other regional capitals, since it is already a hub for global finance, insurance and business consultancies. ICT is soon to become Budapest’s largest industry. In Q2 2022, the total real estate investment volume increased by 10 pct q-o-q, reaching EUR 331 mln – with office investment accounting for EUR 65 mln of this. The most significant transactions included the sale of the Szabadság tér 14 building, and Wing’s acquisition of the Báthory12 and Andrássy 93 office buildings. Development activity remains strong in Budapest despite high inflation and the weak forint. Even though some developments have been delayed until the third quarter, the H2 2022 new pipeline is estimated at more than 240,000 sqm, 49 pct of which is already pre-leased. New supply in 2022 is likely to break the record set in 2009. Meanwhile, rents are going up in most of Budapest’s sub-markets at an overall average rate of 3.2 pct, primarily due to rising construction costs. Service charges for both new and existing developments are also rising, as a result of increased energy prices.

Edwards, a partner and the head of capital markets at Cushman & Wakefield Hungary, paints a relatively upbeat picture for the Budapest office market into the near future. “Prior to the pandemic, Budapest’s office market was in rude health: gross take-up had doubled over the preceding decade – never contracting for two successive years over this period. Developers had been slow to react to this dynamic – between 2010 and 2016 delivering an average of less than 75,000 sqm per year. With such limited construction, vacancy rates fell to record levels, eventually resulting in the fastest growing rents in Central Europe. It was only at the outbreak of the pandemic that supply had started to reach pre-Financial Crisis levels. This leaves the Budapest office market in an interesting place. Modern stock – that is, office buildings less than ten years old – is at half the level it was a decade ago and constitutes less than 25 pct of the total market. Whatever we believe to be the future of offices, it is certainly this newer stock – with more efficient, flexible workspaces, greater energy efficiency and thus lower running costs, and a better range of amenities – that will surely be the winners in the future. Budapest’s low recent supply places its modern stock in a particularly strong position,” he explains.

Recovering from Covid

“We’ve seen a strong tendency following the pandemic for more and more companies to use redesigned workplaces as a major tool in order to attract their employees back to the office. The main question for the near future is the double impact of rising utility prices: on the one hand, this could force many employees back to save on the cost of using their homes as offices; but on the other hand, as worries grow of limited supplies of gas and electricity for public institutions and schools, parents could be forced to keep their children at home. Although take-up volumes are still far below pre-Covid levels, we saw a slight recovery of the leasing market by the end of Q2 this year. However, due to the Ukrainian crisis we can definitely see new clouds forming on the horizon,” admits Ferenc Furulyás, the managing director of JLL Hungary.

According to Colliers, even though the market is clearly recovering, Covid has had a marked effect. “The vacancy rate has increased from 5.6 pct to 9.9 pct since the beginning of the pandemic, although it has been on a downward trend since the end of 2020. During the pandemic we had an additional hidden vacancy of app. 2 pct on the market, due to occupiers seeking to sublease their surplus space, but this number has also decreased since – either because of successful sublease transactions or as a result of these premises being handed back to landlords at lease expiry. We do believe that we are recovering from the direct effects of the pandemic – the question for the upcoming period is rather how rapidly increasing fit-out costs will affect the market from the demand side,” comments Miklós Ecsődi, the head of occupier services at Colliers Hungary.

It also needs to be borne in mind that, according to Mike Edwards of Cushman & Wakefield, the take-up figures need to be taken with a pinch of salt. “Domestic funds have been a welcome and growing force in recent years, but not all are open to disclosing their transactions, meaning not every deal can be included in the take-up data. Furthermore, as corporates navigated the uncertainty of the pandemic, grappled with its legacy and since then have had to deal with the current geopolitical and economic uncertainties, there has been a trend towards short-term lease extensions that do not meet the formal take-up criteria. The bottom line is that while the take-up statistics indicate a flight from the market, this is not being reflected in reality through rents or vacancy rates – which remain below 10 pct,” he states.

Perhaps unsurprisingly, the prospects for this year are rather muted: “After a record-breaking year in 2021, when the total office transaction volume reached almost EUR 1 bln in total, we experienced a weaker first half performance in 2022. With only five deals recorded with a total volume of around EUR 135 mln, this was the weakest H1 performance since 2015. The ratio of office investment within the total volume has also decreased, which is a departure from the trend of the last few years when offices were the most popular asset class with the highest liquidity. The uncertain economic situation has been slowing down decision-making and forcing investors into reconsidering their investment strategy. The rising energy costs has increased the attractiveness of assets with outstanding sustainability performances and ESG criteria, a field that is receiving special attention from both regulators and financing institutions. The demand for core assets and central locations, which have been showing resilience to the headwinds, remains strong with a handful of reposition and redevelopment opportunities all ready to go through in the second half of the year. Outside the CBD, the South Buda and Váci-Corridor sub-markets are showing increased activity in terms of ongoing or planned transactions. Based on the current deal pipeline, we estimate office investment to reach EUR 350–400 mln in total for 2022, significantly below the last five-year average of around EUR 800 mln,” explains Ferenc Furulyás of JLL.

Industry down but far from out

Forecasts have also been revised downwards for the industrial market. According to the Cushman & Wakefield Marketbeat report, the volume of industrial production grew by 5.9 pct y-o-y over the January–May 2022 period. Industrial and logistics properties accounted for 32 pct of the total investment volume in the first half of the year, with a figure of over EUR 200 mln. Major transactions included the sale of Airport City Logistic Park, Akácliget Logisztikai Központ and Europa Center Miskolc. A rising vacancy rate and significant new supply are expected going forward. The leasing activity in Q2 2022 reached 113,525 sqm in Budapest, which is down by 34 pct on the record-high figures from Q2 2021. The net take-up came to 65,750 sqm, making up the majority (58 pct) of the total demand. Several large-scale renewal deals were signed for the remaining 42 pct. Net absorption remained positive for the Greater Budapest Area, but the overall vacancy rate increased to 6.42 pct, with the vacancy outside the capital currently standing at around 5.5 pct. Record new supply hit a new record over the quarter as 115,395 sqm of new space was added to the Greater Budapest Area stock and 47,265 sqm of new space were added beyond the capital city region. The pipeline for H2 2022 remains sizeable with the forecast delivery of around 365,000 sqm of industrial space country-wide. If all is delivered, new supply in 2022 will surpass 2021.

Once again, construction costs are on the rise and pushing rents up in the process. Prime rents increased in the Greater Budapest Area by 5.3 pct q-o-q in Q2 and currently stand at EUR 5 per sqm. Due to inflation pressures and a weak currency, the cost of construction has continued to rise sharply therefore headline BTS rents are likely to rise further. Tamás Beck, the industrial agency director of Colliers Hungary, points out that Budapest still dominates the industrial market: “The Hungarian industrial real estate leasing market is still highly focused on the Budapest area and lease transactions in the country only happen occasionally, where developers often need to serve unique needs. Still, there are a number of planned or ongoing speculative developments in some of Hungary’s major regional locations (such as the Győr region, Tatabánya, Kecskemét, Miskolc and the Debrecen area), by well-known active developers, but still on quite a limited scale. The arrival of new battery manufacturers and the other investments related to the EV industry in country locations is also likely to generate additional – and significant – demand for storage and manufacturing space over the next few years,” he explains. He confirms that the market will continue to grow, and that “the forecasted warehouse handover for 2022 is 355,000 sqm, of which 71 pct has been already pre-leased.”

JLL is also optimistic about the prospects for the market. “The warehouse market in Hungary is still seen as the real estate sector that has the most positive sentiment. However, both developers and tenants are currently more circumspect than they were six months ago. On the one hand, the macroeconomic indicators – such as inflation – are significantly influencing their decision-making and the tenant growth. On the other hand, there is significant uncertainty over construction material and utility prices. As a result, there is a risk of tenant costs increasing. These factors need to be taken into account by tenants and this reduces their predictability,” admits Ferenc Furulyás. Mike Edwards is also generally positive in his assessment of the sector: “The boom sector – across the globe as well as in Hungary – has been the logistics sector. This is an underdeveloped sector of the Hungarian market; traditionally dominated by one or two international platforms but increasingly competitive in recent years. Historically, the sector has been centred on Budapest, which is a considerably more domineering capital in economic and demographic terms than others within the CEE region. As with other sectors, the lack of supply has impacted rents and vacancy levels – which have remained below 5 pct since 2017. Despite recent new supply, Budapest continues to have a lower stock per capita than its peer capital cities, which bodes well for future activity. Interest in the sector has not translated into a growth in the overall proportion of investment transactions, but this is rather due to stock availability rather than a lack of interest. Most key players are investors and developers, who have grown their presence through supply rather than acquisition. Irrespective of global economics, several “big name” investors are known to be looking to enter the market or expand their presence – although the impact of gas prices, exchange rates, Hungary’s relationship with the EU and wider economic concerns are key questions that need resolving.”

My home is my castle

Finally, we have to take a look at the PRS sector, which remains somewhat underdeveloped in Hungary. “The PRS market is still marginal in Hungary, with only a handful of projects scheduled to be delivered in Budapest over the next two years. We are seeing interest from the investor side; however, from a developer’s point of view, the returns are not yet sufficient to allocate the resources for developing such product. The actual return is not as competitive in this sector compared to the build-to-sell model and other key commercial asset developments, such as office and industrial. Furthermore, the currency depreciation risk associated with residential leasing could prove to be a significant risk factor for international investors. Considering the rising interest rates and high construction prices, we believe that the expansion of this sector will be limited in the years ahead of us,” forecasts Tamás Steinfeld, the associate director of valuation and advisory services at Colliers Hungary. “The built-to-rent market is still in its nascent stage in Hungary, with marginal market share within the housing supply. Due to historical reasons, Hungary has one of the highest levels of property ownership compared to the EU average. Subsidies and government-backed bank loans have further enhanced the house-ownership ratio over the past 10 years. As long as housing prices are set to climb on the back of ever-increasing construction costs and there is an abundance of available lending, Hungarian developers are not likely to move towards PRS. Such a transition is likely to happen faster if there is a recession when people have no chance to enter the housing market and owners decide to rent,” points out Ferenc Furulyás of JLL.

However, over the longer term Colliers is decidedly more downbeat in its analysis. “According to market analysts, residential used-home prices are expected to rise 3–6 pct over the next twelve months, while new home prices are expected to increase by 7 pct in 2022. The increasing inflation rate can attract the allocation of money into real estate which can easily result in a further increase in real estate prices. However, the growing interest rates and negative macroeconomic environment might offset this positive effect. Looking further ahead to the long term, if government subsidies are not prolonged, interest rates rise further and the economic environment stays negative, the demand from investors and end-users is likely to be held back,” cautions Tamás Steinfeld of Colliers. The state of the sector is best summed up by Mike Edwards of Cushman & Wakefield: “The PRS sector is vastly underdeveloped, in part due to the VAT system and the significant levels of support being given to buyers. PRS has simply not been as competitive compared to standard residential, albeit a number of developers and investors are looking at opportunities. With cost of living increases and fiscal restraint, it is likely to be a sector to keep an eye on in the future.”