Logistics Real Estate Market Is Performing Well

The North American industrial real estate sector has delivered positive news for the second quarter 2010, according to a report from professional services firm Jones Lang LaSalle. National average vacancy rates have tumbled 20 basis points for the first time in almost two years from 10.6% in the first quarter to 10.4% in the second quarter. Leasing activity across many markets is up but the sector is still vulnerable to mixed economic indicators which could make sustained recovery slow or sporadic at best.

“While we can report some overall positive news for the sector, we are still very much at the mercy of this precarious economy,” explains Craig Meyer, managing director and leader of Jones Lang LaSalle’s Logistics and Industrial Services group. “Declining consumer confidence, the fading impact of the federal stimulus support and worldwide economic volatility are forcing many industrial landlords, tenants and investors to look back over their shoulders in fear of a double dip recession.”

While labor market pressures and slow job growth are dragging on the economy and keeping pressure on consumer spending, there have been positive indicators to offset some of the down side. Increasing corporate profits have renewed long-term optimism, which has in turn spurred a significant amount of second quarter industrial leasing activity. This was fueled by large occupiers executing significant renewal, consolidation or relocation transactions helping to temper overall vacancy figures. However, sustained deal volumes will be essential for a stronger turnaround in current trends.

“With the rise in Corporate America’s second quarter profits and a need to restock inventories that were running at 50-year lows, a number of large occupiers have strategically captured high quality logistics space at cyclically low rates,” Meyer observes. “Opportunities remain in virtually every market at aggressive terms and even with the very modest levels of leasing and little or no speculative construction, choices are quickly becoming limited in some markets, especially in the Class A large block sector.”

According to Meyer, there are only 11.3 million square feet of new construction in the pipeline and 83% of that is pre-leased. “With such low levels of new construction planned in the foreseeable future, we expect to see an increase in build-to-suit activity,” he predicts.

The report, which tracks 38 key industrial markets in the U.S., found that average net absorption is at 11.1 million square feet for the quarter, but remains negative at 7.4 million square feet so far this year, compared to last year’s total of 126.6 million square feet percent. Markets that also act as supply chains are performing well, such as New Jersey where vacancy declined 60 basis points, joining the Inland Empire with 4 million square feet of positive net absorption year to date, along with Dallas posting 2.4 million square feet of positive gains; both markets are trending toward organic growth.

“While pent-up demand was responsible for some of the leasing activity, renewals still comprise a healthy share of market demand across the country,” says Meyer. “Many businesses are still sensitive to cost control and possible economic volatility, so we are still seeing the ‘blend and extend’ market continue.”

The overall availability of sublease space has decreased across the country, a positive sign that demand is on the rise again. The highest volumes of marketed sublease space reside in Northern and Southern California, especially in Sacramento and the Inland Empire, as well as mid-tier markets in the Southeast such as Memphis and Nashville.

The report also shows that nearly 66% of all the industrial markets tracked by Jones Lang LaSalle experienced positive net absorption, with a further 20% showing declining absorption. Major industrial markets such as Chicago and Los Angeles account for a combined 8.3 million square feet of negative net absorption so far this year. However, both are showing recent signs of stabilizing, with submarkets around their ports and airports benefitting from recent growth in container traffic and cargo tonnage.

Demand for high-end, prime logistics space is topping the general market and has given a boost to Midwest markets like Memphis, Columbus and Dallas/Fort Worth, in addition to the Inland Empire in Southern California, as well as key distributions markets in the Northeast such as central New Jersey, Philadelphia and Harrisburg.

Overall average asking rents are still declining across the country, but the rate of decline is slowing and in the second quarter fell by 1.1%. The lowest industrial rents are in Columbus and Memphis, and the highest are in San Diego, San Francisco’s Bay Area and South Florida. Competition for tenants is fierce in almost every market and the growing level of concession packages, including periods of free rent and tenant improvement packages, continues to be a critical component when completing deals.

While the economy is giving mixed messages and keeping real estate players cautious, demand for industrial real estate is slowly improving. Leasing in the form of expirations, early renewals and ‘blend and extend’ transactions has been providing the market with deal activity. If expansion requirements continue from large institutional users, the industrial market may keep its head above water and progress towards full recovery.

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