Developer Rob Lankford broke ground Downtown in late December on Broadway 655.

For the past three years, San Diego has been playing economic “cat and mouse” with the national economy. We were the mouse. A national economy in recession was the cat.

We never got caught. Now 2004 opens to a strengthening national economic picture, including huge domestic growth, a Dow around 10,000 again and a dictator captured.

The national deficit, mostly caused by the recession and the war, is our long-term economic test.

For now, all systems are go. Since real estate is merely a reflection of what is good and bad about our economy, the year 2004 should be among the most robust we have experienced since the millennium dawned.

Offices On The Rebound

The commercial office market is beginning to strengthen. In a July “Real Property” column we noted the sale of 35 office buildings for $10 million or more over a 12-month period, a curiosity because commercial office leasing was stagnant and the rest of the nation in an economic slump. The conclusion: Current lease revenues didn’t justify the transaction activity at the record price levels, so it must be confidence in the region’s future.

It is the San Diego upside that attracts those investment dollars. Office vacancies in the region have stabilized and seem to be decreasing. Vacancies peaked exactly one year ago at 12.5 percent, but have now dropped nearly a point to 11.6 percent, increasing the occupied square footage by more than 1 million square feet during 2003, reports CoStar. Positive absorption — space occupied minus space vacated — was achieved every quarter during 2003. Lease rates stabilized at $2.18 per square foot per month, gross, which is pretty much where they have held the past three years.

Of the major submarkets, the swiftest absorption has been achieved in Carmel Valley, an area that took the biggest hit during the past several years. This market absorbed nearly half of the region’s office space during the third quarter, reducing its vacancy rate to 13.8 percent from 20 percent one year ago, reports Burnham Real Estate Services. This favored north coastal market has been the net recipient of a real estate version of musical chairs. The markets without seats have been Downtown, Sorrento Mesa and Kearny Mesa, each of which has seen significant hits as tenants seeking the highest quality markets evacuated to the luxury confines of the north coast at relative lease rate bargains.

As the market matures, a big eventual winner will be Kearny Mesa, which is now transitioning from an industrial to an office market, adding four times the office inventory than was added to its industrial base. Central location and consequently higher land values are to credit for the quality upgrade in this submarket.

Downtown San Diego has done nothing on its 11.5 million-square-foot inventory. No inventory is being added. Only 10,000 square feet were absorbed during the third quarter, after having earlier experienced a loss of 295,000 square feet. However, one new office building broke ground as the year ended and more will follow as the office market strengthens. The thousands of new Downtown residents, and a propensity to efficiently link office to home eventually will compel new commercial projects Downtown.

Until then, Downtown San Diego has curiously become a residential suburb to suburban commercial employment centers.

Industrial Stability

San Diego County has added more than 2 million square feet of inventory during the past year. More than half was added in South County. That’s where the action is, even in a relatively passive year.

For the foreseeable future, industrial development will remain targeted on South County. The San Diego region’s industrial inventory now stands just shy of 140 million square feet. South County inventory is 24 million, not even 20 percent of the region’s total. That will change, beginning this year. Otay Mesa holds the largest chunk of employment land inventory surrounded by the county’s largest supply of least-expensive housing. This market is a lock as the center of San Diego’s industrial universe in the coming year and well beyond.

In the meantime, industrial vacancy countywide has stabilized at about 6.5 percent. That’s where it has been for the last three years. There just hasn’t been much construction or leasing activity. Some of the other markets, such as Oceanside and Vista, are, in fact, experiencing new construction. But the industrial market has not been overbuilt.

Diversity

The byword for our markets remains “diversity,” as no one sector dominates. This is a good thing considering how the tech wreck put job loss in the San Francisco Bay area well into six figures. About 120,000 jobs were lost up there, while in San Diego we don’t even have that much employment in the biotech and high-tech sectors combined.

Our economy grew because we continued to add jobs. When 2003 is totaled, I expect San Diego to have added 15,000 jobs. This is less than half a normal year, but it has made our region the most robust in the United States.

This year we go back on a roll with job gains exceeding 20,000. All kinds of space will be filled, reducing vacancies further, and significant new commercial construction once again will spring from the landscape.

A Year Of Stability

The year 2004 will take us from what I have labeled as the transition period of the past two years and into a solid cycle of new economic growth. This will be reflected in all key indices: lower vacancy rates, new construction starts, high absorption and increased lease rates.

This will occur over all of the commercial, industrial, retail and R&D land uses, just as it has remained on the residential sector. For the first time in my 30 years in San Diego, a down cycle will be skipped. Basically, San Diego County has elected not to participate in the most recent national recession. Prosperity has remained, most evidenced by the constant valuation increases in the residential sector, and hinted at by the record prices realized in commercial office transactions of the past 18 months, despite relatively weak short-term indicators.

All the smart money investors bet long on a strong San Diego. It was not just a safe wager, but a prescient one as well. There is no real reason not to expect this year to be one marked by increasing economic strength and stability.

Gary H. London is president of The London Group Realty Advisors Inc., providing real estate consulting and economic analysis. Check him out on the Web at www.londongroup.com or e-mail him at glondon@sandiegometro.com.