SF Real Estate Falling, Miami Rising

A Real Estate Tale of Two Cities

The commercial real estate market in Miami is climbing and San Francisco has plummeted. It is a tale of two very different cities going in different directions right now. Successful investing starts at knowing a building, but it doesn’t end there. You need to also understand local and national trends impacting real estate markets.

Such trends are why the same property type can be doing well in one city and badly in another. It is why Miami has been rising and San Francisco falling. These two cities highlight some key trends driving the market today for better or worse depending on the given metro.

Miami has become the sixth-highest market to rent office space in the United States at $58 a square foot. That is still behind San Francisco at $86 a foot. But while Miami is going up, San Francisco is going down.

Miami on the Rise

In Miami’s Brikell Financial District the vacancy rate is in single digits—less than 10%. By the end of 2021 rental rates for Class B office increased 18% from a year earlier in Miami, while occupancy climbed past 80%. Then from the first to second quarter of this year office rents rose 8%.

Just outside of Miami the real estate situation is even better in West Palm Beach that is becoming a global capital for finance. Despite the problems in San Francisco being partly blamed on the technology sector, technology companies are relocating to Florida and buying space, as well as financial services company.

Companies moving include the investment giant Citadel that is relocating from Chicago to Miami. It’s not just US companies, foreign companies looking to do business in the United States are also increasingly choosing Miami over other locations, like San Francisco, Chicago or New York.

Troubles in San Francisco

While Miami was going upwards, San Francisco has been struggling. San Francisco experienced the greatest population drop of any U.S. city in the year ending July 2021 as its population declined 6.3%.

San Francisco was also ranked 62 of 62 cities for the recovery of its downtown post the COVID pandemic by a team at the University of California at Berkeley. The San Francisco Downtown Communities Benefits Associations reports that downtown foot traffic is off 68% from 2019 levels.

In San Francisco it’s hard to estimate exactly how much prices have fallen since many owners are simply refusing to sell in the current environment. But Wells Fargo provides an example where it recently listed its 13-story building on California Street. Bids came in about 70% below 2019 market values.

According to CBRE office rents have also fallen, although not by nearly as much, from $83 a square foot pre-pandemic to $75 for new rents now. The vacancy rate for San Francisco office properties was just under a quarter at 24% by August. For Class A buildings it is about 12% and for Class C about 37%.

Unfortunately this doesn’t reflect the actual physical occupancy. Physical occupancy has been running below 40% in the San Francisco metro area, based on keycard activity tracked by Kastle Systems.

In addition, vacancies increased by about 362,000 feet in the second quarter and there is about 550,000 feet of new office space supply being added. Particularly for office space in San Francisco it looks like it is going to get even worse, as more supply hits a market without enough demand for existing supply.

There are a lot of excuses given for why commercial real estate in San Francisco is down. A common myth is that the COVID pandemic drove a lasting trend of remote work that is hurting the entire office category.

A somewhat more sophisticated view is that technology companies are particularly impacted by remote worker trends and this hurts San Francisco with its tech concentration more than any other city. But this also doesn’t explain San Francisco’s particularly poor performance compared with other areas that also have tech company exposure.

Public Policy Matters

Since 2019 the partners in our firm have completed two investments of office properties in Miami, while avoiding San Francisco. Why? We rated Miami as business friendly and we rated San Francisco public policies as not business friendly. We were able to find good values in Miami. We also viewed the demographic trends as positive for Miami. In fact, we viewed San Francisco public policy so negatively we didn’t even bother looking in the area.

We are not the only ones disenchanted with San Francisco public policy. A recent poll by The Chronicle, a newspaper in San Francisco, found that about two thirds of respondents said quality of life declined since moving there and frequently cited public safety, homelessness, housing affordability and politicians unable to address such problems.

Many in the poll cited crime as a reason for wanting to leave. Almost half of residents reported they were victims of a theft and about a quarter were physically attacked or threatened. The majority had a negative view of law enforcement. According to data reported by the Hoover Institute San Franciscans face a 1 in 16 chance of being a victim of a crime in just the next twelve months making it worse than 98% of US cities.

Although San Francisco does make the list of 31 cities with the highest murder rates, it is at the lower end. Property crime is where San Francisco really dominates thanks in part to public policies that make repercussions few and far between for criminals.

How bad is property crime in San Francisco? It’s really bad. But no one really knows how bad, because the official numbers underreport reality, which is why we are looking at polling data to get an idea.

The San Francisco police union is on record stating that it is common for folks to get robbed multiple times before making an official report on a new robbery, because they know the police won’t do anything and getting a cop to show up for the reporting process takes hours. So, a lot of SF crimes goes unreported.

Meanwhile back in Miami crime is low and the murder rate is at historical lows, with only 30 total homicides reported by May in 2022. Safety sells. It was the number one reason given by the Citadel CEO for relocating to Miami from Chicago where over the same period there were 797 murders.

As a Citadel spokesperson stated about their Miami move, “Talent wants to live in cities where they feel safe.”

Other Real Estate Factors

Although we’re highlighting public policy, there is something to the argument that San Francisco is suffering because of its overreliance on the technology sector. Tech companies now account for over a quarter of available sublet space. However, the tech problem for San Francisco is nuanced.

Within its tech overreliance are three significant problems. San Francisco has a lot of exposure to software companies, large Big Tech and small startup companies in the wrong sectors.

First for software companies these are probably the most likely business to find a substantial amount of its workforce can work remotely and be productive. A lot of the coders out there, who write and create software products, really don’t seem to be coming back to the office.

Second with the Big Tech companies they have been allowing more continuing remote work and also have the resources and apparently inclination to shift to new campus concepts outside of San Francisco. Unlike many smaller or medium-sized tech companies, Big Tech is expanding its real estate portfolios, but doing so in more dispersed locations.

Lastly, with the stock market downturn, startups are under financial pressure to cut costs from their financial backers, and expensive SF office rents are a prime target for cost cutting. In addition San Francisco had a lot of exposure to startups in sectors hurt by the pandemic, like transportation and retail.

Ironically as the premier city in Silicon Valley suffers, Miami is rising partly due to it becoming an industry cluster. Silicon Valley is an example of an industry cluster. If you want to start a tech company you can find the venture capital firms, employees, corporate partners, public relations and marketing companies, legal firms and all the resources needed in one geographic location.

Despite high Silicon Valley rents, a lot of tech companies pay the price for the advantages of being in such a cluster. Unfortunately for San Francisco a lot of companies are staying in the tech industry cluster, but simply moving office space further down the Peninsula.

Hollywood is also an example of an industry cluster for movies and television. Nashville is this for country music. Boston/Cambridge is a cluster for biotech. Now the Miami/Palm Beach area is becoming an industry cluster for finance and global business.

As Miami is recognized as part of an industry cluster for finance and global companies, more businesses will relocate there that previously would not have considered it. In addition more supporting businesses, like the law firms, accounting agencies and so forth will also need to be located in the area to serve their clients.

The good news for Miami is that this trend still likely has a way to go. The good news for San Francisco is that it is located on some of the most beautiful real estate in the world. It just needs to fix its public policy problems to quickly turn things around. That can be done with the stroke of a pen. The bad news is that its unfriendly business climate seems as much a fixture of The City as the Golden Gate bridge at the present moment.

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