New sources of demand make the industrial segment the star of commercial real estate, according to Peter Muoio, chief economist and head of research at Ten-X Commercial, the nation’s leading online real estate marketplace.
The drivers for industrial space include e-retail fulfillment and distribution, cloud computing and the proliferation of legalized marijuana.
“From the demand side, the industrial space is firing on all cylinders,” said Muoio.
The country’s current economic expansion is now one of the longest in history and economists are pondering just how much longer it will last. Given the length of the cycle, Muoio’s research team at Ten-X Commercial is looking at a scenario with a commercial real estate downturn in 2019 and 2020. In the event of a cyclical downturn in those years, the vacancy rate in the industrial sector in 2019 is projected to increase to the mid-7 percent range, but that’s well below the 8 percent to 9 percent ranges of the previous economic cycles, according to Ten-X’s Fall 2017 Industrial Market Outlook.
New sources of demand plus extremely low vacancy rates equals a sector that’s more resilient to a cyclical downturn than others. “This makes this segment stand out compared to, for example, retail and office, where vacancies have come down very modestly from their recessionary levels and are way above rates late in the previous cycle,” Muoio said.
The strength of the industrial space is well poised for any kind of turmoil that might hit, he added. “Even when we factor in a decline in demand, we don’t envision vacancies going as high as they have over the previous two downturns.”
The industrial sector is capturing investors’ attention. “If you look back at previous cycles, you could call the industrial sector the sleepy one. Not as many investors were involved in the industrial sector,” Muoio said. “But this ‘new’ industrial sector and the fact that it’s doing so well has increased investor interest.”
Ten-X Research found that deal volume in the industrial market rose 14 percent to $15.8 billion in the second quarter of 2017. Pricing in the sector hit an all-time high $80 per square foot in Q2 and industrial cap rates fell 30 basis points to 5.6 percent.
How Trump’s policies may impact industrial market
Muoio and his team at Ten-X Commercial are watching how policies enacted by the Trump administration may disrupt trade and the industrial real estate market.
The U.S. withdrew from the Trans-Pacific Partnership as one of Trump’s first acts as president, and the administration is now considering imposing tariffs and changing the rules of NAFTA (North American Free Trade Agreement). Any policies that discourage trade are potential negatives for the industrial segment, especially for coastal markets that handle much of the trade, according to Muoio.
However, positive economic news out of Europe provides optimism to counterbalance Trump’s trade policies. “It’s a slow gain there, but European economies are showing some signs of momentum and that will be a positive in terms of generating more trade with the U.S.,” he said.
Since his campaign, Trump has emphasized bringing manufacturing jobs back to the U.S., a charge that, if successful, would be a shot to the arm of the industrial sector. “Anything that boosts manufacturing would indeed be a boost to industrial, with the caveat that it’s not done in the process of damaging trade flows,” Muoio said.
Around the nation: What’s hot, what’s not
The West Coast dominates the top five industrial market for buyers with Los Angeles, San Diego, Portland, Oregon and Sacramento, California in the top five. Nashville, Tennessee, was the city in the top five not on the West Coast.
While legalized cannabis is a factor for the three California cities and Portland, the biggest single commonality among these five markets is cyclical resiliency, according to Muoio. Vacancies are well below U.S. averages in these markets and are expected to remain that way as vacancies increase nationwide.
Ten-X Commercial’s top sell markets for industrial space is Dallas, Baltimore, San Antonio, Suburban Maryland and Columbus, Ohio.
The cannabis impact
While there’s a lack of hard numbers quantifying the impact the legalization of marijuana on the industrial sector, anecdotal evidence is bountiful – and for states ready to join the trend, the future is bright.
“Colorado is the first state that legalized (recreational use of marijuana), and we saw an increase in absorption; when Washington legalized it, we saw an increase in absorption; and we’re starting to see that in California post-legalization,” Muoio said.
Recreational use of marijuana is currently legal in eight states (including the District of Columbia), with several more states close to adding to that number. In New Jersey for example, gubernatorial candidate Phil Murphy, who is well ahead in the poll, has promised to sign a legalization bill soon after being sworn in.
“There’s still a lot of big markets that haven’t gone there yet,” Muoio said.
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