In Houston, as the nation struggles with job cuts and scarce credit, two sleek office buildings are galloping skyward, neck and neck, racing toward completion in a city that so far has managed to outrun the recession.

It is no coincidence that one of the two projects, the 29-story Hess Tower developed by Trammell Crow and Principal Real Estate Investors, will house an oil company, Hess Corp., since roughly half the city's economy runs on oil and gas. It's only a short drive from the refineries lining the Ship Channel at Houston's bustling port to the Energy Corridor on the city's west side.

Construction crews are hammering away at the 14th floor of Hess's newly leased, 845,000 sq. ft. global headquarters for exploration and production, on target for delivery in mid 2010. The choice downtown location is a stroll from Minute Maid Park, where the Astros play. A syndication of banks, led by Bank of America, is providing construction financing for the tower, says Adam Saphier, principal of Trammell Crow Houston. Contractors say the cost could exceed $300 million.

Blocks away, Houston-based Hines is developing the glass-sheathed, 46-story MainPlace tower, with nearly 1 million sq. ft. Hines landed KPMG, the audit and tax firm based in the Netherlands, as its first tenant with 110,000 sq. ft. and aims to complete the high-rise by early 2011.

The two towers symbolize Houston's vitality at a time when so many markets have been sapped by the country's crushing economic problems. In the fourth quarter, when the U.S. office vacancy rate stood at 14.5%, Houston's was 12.7%, reports New York-based data firm Reis.

When the national unemployment rate reached 8.1% in February, according to the U.S. Department of Labor, Houston recorded a healthier 6.2%, buoyed by the energy sector and a diverse economy. But for Houston, that rate represented a worrisome leap from 5.3% in December, recorded by the Texas Workforce Commission.

A lot has changed since the downtown projects began to rise more than a year ago. Credit tightened and oil took a hair-raising slide from nearly $150 a barrel last June to $48.14 on the New York Mercantile Exchange on March 18. “We don't believe there's going to be any more speculative developments coming out of the ground in the near future because of the turmoil in the capital markets, and even projects that have partial or full preleasing will have trouble getting financed,” says Saphier.

Over the past year, as the country absorbed body blows with the fall of Bear Stearns and Lehman Brothers, and credit sources dried up, Houston remained a bright spot, a thriving oasis of commercial real estate activity. But now, despite the 36 buildings totaling 7.7 million sq. ft. under construction, according to brokerage CB Richard Ellis (CBRE), there are signs of a serious pullback. No office projects broke ground in the fourth quarter, and few if any are expected in all of 2009.

What's more, the oil service industry is laying off workers and fewer property deals are closing, says Clay Peeples, principal at Boyd Commercial, a Houston brokerage. “We had tremendous job growth here, probably the leading job growth in the country from '06 to '08,” says Peeples. “The oil industry was so strong while the rest of the country was hurting we barely knew a recession had started,” the broker says. “It's finally caught up. We're feeling the pain now, too.”

Indigestion strikes the market

Houston's appetite for space seemed boundless as energy companies expanded and the office market absorbed a net 9.2 million sq. ft. in 2006 and 2007 combined. But leasing tapered off, and absorption shrank to just 588,000 sq. ft. in 2008.

The feast of new construction was too large even for a Texas-size appetite. A nine-year record of 3.5 million sq. ft. was delivered to the market last year, notes Grubb & Ellis, and more than 5 million sq. ft. will be delivered in 2009. Net absorption is expected to turn negative this year by 935,000 sq. ft., Reis reports.

Like Hess and MainPlace, many projects that broke ground last year were speculative. But not all developers will be as fortunate as Trammell Crow in reeling in a single company to lease the entire structure. Of the buildings under construction, 22.5% are build-to-suit, while 77.5% are speculative, according to CBRE.

Despite the influx of space, office demand remains relatively strong, says Saphier. “Clearly, the national economy is not well and we're just starting to feel the effects of that in Houston.” But occupancy and asking rents remain high, he says. “They haven't taken a significant hit yet.”

In the fourth quarter, asking rents for Class-A properties averaged $28.85 per sq. ft. in 2008, up from $26.29 per sq. ft. in the fourth quarter of 2009, Reis reports, while the Class-A vacancy rate rose to 10.6% from 9.1% a year earlier.

Craig Beyer, executive vice president at CB Richard Ellis in Houston, and head of its Global Energy Practice, agrees that 5 million sq. ft. of new space isn't cause for worry. “That's not much,” he says. “We're a 200 million sq. ft. market.”