Industrial Comes Roaring Back to Record High Optimism
In the June 2020 Survey, industrial space sentiment dropped slightly but was logical, given that the state was in the midst of a pandemic. However, vacancy rates have remained extremely low across all regions surveyed in our latest Allen Matkins/UCLA Anderson Forecast California Commercial Real Estate Survey and sentiment about the coming three years has come roaring back to levels of optimism that have not been seen for many years.
1. Industrial is still on fire and doesn't show any signs of slowing down. What factors will allow industrial development activity, low vacany rates, and relatively high rents to continue?
Perrier: The industrial market continues to be the hottest segment of the CRE world. 2020 was a record year with 224 million square feet of industrial product absorbed in the U.S., the highest amount in the 4th quarter with a record 104 million square feet. This absorption was 11.8 percent higher than in 2019. Nationally, the vacancy rate has decreased to 4.6 percent, an extremely low level despite having 70 million square feet of new construction completions. The biggest factor driving this is the rapid growth of e-commerce, especially Amazon who was the company leading the absorption as they expanded rapidly throughout the U.S., taking down 75.4 million square feet of new space (15 percent of all the transactions in 2020). Amazon has a substantial amount under construction that will complete in 2021 and a strong pipeline in the future. Our research shows that the 2020 holiday season showed a 40 percent increase in e-commerce and represented 32 percent of all total retail sales. Another factor driving the market is “just in case” vs “just in time.” Having inventory on hand and readily accessible became a big priority during a pandemic. Whoever thought we would be going store to store looking for toilet paper! The positive fundamentals drove rents and we expect that to continue in 2021, especially in in-fill markets. We are seeing some companies that were overseas also move operations back to the States to be more accessible and expect this to be another trend in 2021. Overall, I feel the largest driving factor is e-commerce and an adoption trajectory much steeper due to the pandemic. I never thought I would be an online grocery shopper because I used to like picking out my food, but in 2020 I have given up going to the stores and have groceries delivered. The future for industrial is bright!
Palmer: Those are truly impressive statistics that Barbara identified and should give us continued confidence. Even after the pandemic recedes, many households will maintain their new online habits, recognizing the convenience and time-savings associated with online commerce. Those companies that bet on “just in case” these past 12 months certainly won out. In concert with the ongoing closure and reduction in number of retail outlets, this trend in consumer spending will keep stoking industrial development and supporting higher rents. This assumes, of course, that consumers keep their jobs and still have money in their (virtual) wallets—something no doubt affected by international, national, and state economic policies and politics.
2. What are potential challenges or scenarios that would change the current trajectory of the industrial market?
Perrier: The current tax and political environment could have changes on the industrial market. Not so much in the fundamentals, but in driving businesses to certain markets. We have seen it in 2020 where large and small corporations are leaving expensive tax states such as New York and California and heading to more favorable environments like Texas, Florida, Arizona, and Nevada. This is happening with high-net-worth individuals as well, especially with the adoption of working from home or anywhere. I feel that certain states will find they are losing high-profile companies and wealth and this could have some effect on the industrial markets. We have seen this year a decrease in cap rates and an increase in investor interest in states with favorable tax environments and attractive cost of living factors.
Palmer: As e-commerce continues to evolve, with the goal of ever-decreasing delivery times, the availability of infill opportunities closest to dense, economically productive populations continues to dwindle. This reduced supply poses a risk to companies looking to develop new projects in these areas and favors development further from consumers. More remote development, however, depends even more on appropriately-sized and -maintained infrastructure. Governments at all levels play a major role in supporting this infrastructure. While the past and expected rounds of COVID-inspired stimulus programs will help sustain government coffers, the longer-term impact of the pandemic on the larger economy may result in reduced governmental funds to support infrastructure and smaller amounts of consumer discretionary spending. Both of these potential dynamics could alter the outlook for the industrial market.
3. Are there new technologies and/pr safety guidelines in place or on the horizon--COVID-related or not--that will impact industrial development?
Perrier: New technology surrounding reverse logistics and optimizing the return experience for the customer will be paramount to a company’s success in the future. If e-commerce firms can figure this out, they will continue to grow and be more profitable. As far as technologies impacting industrial development, I feel that continued and increased use of automation will help minimize numbers of employees and allow for social distancing and less need for larger workforces.
Palmer: The South Coast Air Quality Management District, one of the nation’s most aggressive air regulatory agencies, has proposed a novel rule called the Warehouse Indirect Source Rule, currently set for consideration this coming April. Within South Coast’s jurisdiction, which ranges across certain parts of Southern California, the rule would apply to owners and operators of warehouses that are at least 100,000 square feet. The proposed rule is designed to reduce emissions from both yard trucks and trucks delivering and hauling cargo by mandating actions from a menu of options. These options include the installation of alternative fueling infrastructure, such as high-powered vehicle charging or a hydrogen-fueling station, the installation of on-site solar panels, or replacement of air filters at nearby community buildings including residences, schools, and hospitals. Although the true costs of compliance with the proposed rule are complex, the rule may have the effect of shifting planned warehouse development outside of South Coast’s jurisdiction. Once adopted, other California jurisdictions may decide to copy the new rule.