MELBOURNE's office market remains the toughest in the country.
While the city's office sector was showing mixed results, some retail developments were finding demand and residential conditions were stabilising, according to Merrill Lynch.
With 11 new city office developments under way, landlords' incentives to tenants have climbed by 10 per cent over the year to about 25 per cent, researchers from the bank said.
"There is a general consensus that we will see yield compression in office assets, but views differ on the extent (25-75 basis points) and time (12 months to three years)," the researchers said after conducting an extensive tour of all property asset classes in Australia's four largest capital cities.
Their view received qualified support from CBRE's third-quarter Australian Office Market View.
Melbourne's CBD vacancy rate, while low now compared with other capital cities, was expected to rise from 7 per cent to about 11 per cent over the next 12 to 18 months, it said.
"The impact of new supply in the Docklands is creating an issue with backfill space, in an environment where employment growth is easing," CBRE said.
Labour force figures released midweek show the unemployment rate held steady at 5.4 per cent in October while the participation rate fell from 65.2 per cent to 65.1 per cent.
Subleased space had also increased to about 70,000 square metres of available area, with the ANZ putting nearly half of that, 27,000 sq m, on the market at 55 Collins Street.
While the St Kilda Road precinct has attracted several smaller to medium-sized tenants in the first half of this year, that demand was starting to wane, CBRE said.
Investor activity was also slowing and the strong performance in both prime and secondary yields, a key differentiator for Melbourne over the past few years, was stabilising.
According to Merrill Lynch, other property asset classes were showing resilience.
Retail malls with strong local market positioning continue to attract good demand.
Chadstone's luxury precinct was trading well enough for retailers to want to double their space in the forthcoming Stage 35 redevelopment, the researchers said.
Westfield management saw Plenty Valley as a key opportunity in a growth corridor that was about 20 years behind Fountain Gate in development terms, they said.
Stockland Highlands had shifted focus from first home buyers to upgraders but "overall volumes" remained subdued because of competition from nearby developments.