The cooling of the U.S. industrial market marked its one-year anniversary this summer as the vacancy rate for the nation’s industrial properties rose for the fourth consecutive quarter to reach 4.7% at the end of June. Even though tenant move-ins exceeded move-outs by 38 million square feet in the second quarter across the various national index markets, Q2 total net absorption was 30% below typical second-quarter levels averaged during the five years before the pandemic and coincided with a significant increase in the number of tenants listing distribution facilities for sublease.

At 0.5%, the portion of industrial space listed for sublease in the U.S. is limited and amounts to a fraction of the current 2.0% sublease rate within the nation’s office market. However, industrial space listed for sublease across all existing and under-construction U.S. industrial properties began to increase in the summer of 2022, shortly after the Federal Reserve began raising interest rates to slow economic growth and tame inflation. The pace at which new sublease listings have been coming to market has been accelerating, with total industrial space listed for sublease rising by 28 million square feet in Q2 2023, the largest quarterly increase in sublease availability since CoStar began keeping record in 2007.

After 586.2 million square feet of industrial space broke ground in 2021 and 614.5 million square feet in 2022, new supply to the market is beginning to outpace tenant growth. A total of 108 million square feet was added across the nation during the second quarter of 2023, a total that is near a three-decade high as the volume of industrial projects under construction remains elevated. Even as construction deliveries remain elevated, 2023 has seen a pull back on the number of new construction starts due to high material and labor costs along with the increased cost of construction financing.

Yet, the U.S. industrial market is a long way from being in dire straits; the extremely low level of industrial space availability reached during the pandemic continues to blunt the impact of the market’s recent cooling for most industrial property owners. At 1.6 billion square feet, or 5.3% of the nation’s existing supply, the amount of space listed as available for lease among existing properties is still lower than any level of availability CoStar had ever recorded pre-pandemic.

Sources: CoStar News, Commercial Edge

The Larimer County sub-market is comprised of 30.1 million square feet of industrial/flex space, which is an increase of 17.1% from the prior period (25.6 million square feet). The vacancy rate currently sits at 4.8% or 1.5 million square feet, which is an increase from 3.4% in August 2022. Sublease space is on the decline, with 46,200 square feet listed. As of Q3 2023, there is 558,000 square feet under construction, down 87.4% from last year. 12-month net deliveries equates to 4.5 million square feet, a record amount of space. 12-month net absorption is up 565.6% which equates to 4 million square feet.

Market rent is up 5.9% from the prior period at $12.37 per square foot, an all time high for the sub-market. However, rent growth has decelerated from Q3 2022 which saw rent growth of 8.4% from 2021. The market sale price per square has declined by 3.9%, down from $157 in Q2 2023 to $151 at present. Market cap rates have increased to 7.4%, up from 6.7% in August of 2022. The total sales volume in the past 12 months was $133 million, down from $177 million in the prior period.

Sources: CoStar

The Weld County sub-market consists of 29.4 million square feet of industrial/flex space, which reflects a slight increase of 4.2%. Of that, 976,000 square feet is vacant, equating to a vacancy rate of 3.3%, down from 3.8% in the prior period. Sublease inventory remains low at 63,700 square feet. 12-month net absorption is up 213.6% from August 2022, at 1.3 million square feet. 12-month net deliveries were at an all time high with 1.2 million square feet delivered to the market. Currently, there is 524,000 square feet under construction, down 42.5% from the prior period.

Market rents sit at $12.77 per square, up 4.9% from the previous year, a record for the sub-market, similar to Larimer County. Market sale price per square is $142, down slightly from August 2022. Market cap rates have also pushed higher to 7.8% up from 7.1% in the prior period. Sales volume for the past 12 months totaled $134 million.

Sources: CoStar

Even with the vacancy rate increasing over the past four quarters, it is rising from extremely low levels and remains near the tightest vacancy levels ever recorded before the pandemic. This means that the owners of warehouse and distribution facilities still have the upper hand in lease negotiations in most markets. Vacancy may be tight, but rent growth across the sector has been slowing. Rent growth had already begun to decelerate from a peak rate of 12% year-over-year in mid-2022 to 8.5% as of mid-2023 and the pace of rent increases will most likely slow further as vacancies continue to rise.

Despite the trend of decelerating rent growth, the sector still outpaces competing property types and in turn, continues to attract new investors. Since the Fed began tightening its monetary policy in Q2 2022, commercial property values have been declining across every major sector as higher borrowing costs and slowing rent growth limit what investors are willing to pay for new acquisitions. However, capitalization rates for large industrial property sales have remained stable as buyers continue to expect future rent growth.

Source: CoStar News