Industrial real estate remains as the hottest of all major commercial property types, thanks to high levels of demand in primary markets and strong fundamentals. So much so that Kim Hourihan, senior managing director of CBRE Global Investors, says, “Based on our most recent total return forecasts, the annual total return for U.S. industrial properties is expected to be the highest among all major commercial property types through 2020.”
NAIOP spoke with Hourihan on how industrial is thriving in the capital investment climate and what she forecasts for industrial real estate in the near term. She is a panelist on a capital markets session on the North American investment landscape from those in the know at I.CON ‘16: Trends and Forecasts.
NAIOP: What impact will broad consolidation have on the thriving industrial markets?
Hourihan: The consolidation of capital into primary industrial markets will likely result in continued cap rate compression and rising valuations through the near-term. The rise in valuations combined with favorable demand fundamentals should maintain the growth of the construction pipeline, including the rehab of functionally obsolete industrial space in core markets. However, with yields in primary markets declining to cyclical lows, we expect a growing proportion of future industrial investment to be in secondary markets servicing major population centers.
NAIOP: Where is the capital going: Class A, Class B?
Hourihan: Capital flows remain largely concentrated in core markets and are in line with historical proportions. While we do not have access to industrial transaction volumes by class, using primary vs. secondary/tertiary markets as a proxy, we find that 54.8 percent of current capital flows (trailing 12-month period) into the U.S. industrial sector were for properties in primary markets (23.4 percent in secondary, 21.5 percent in tertiary markets), according to RCA. Historically, properties in primary markets account for 54.7 percent of total U.S. industrial transactions (22.5 percent in secondary, 19.5 percent in tertiary markets).
NAIOP: Name three secondary/tertiary markets that are ripe for investment.
Hourihan: Phoenix, Boston, and San Diego. Reasons include: favorable economic/demographic outlooks, modest construction pipelines relative to prior cycles, current cap rates relative to historical averages, and nominal rent levels that are currently below or just above prior cyclical peaks.
NAIOP: Looking ahead, what’s your forecast for how long industrial will remain the hottest property type?
Hourihan: Given expectations for increasing space demand (fueled by continued economic growth and evolving retail supply chains) and modest construction activity through this point in the cycle, industrial should remain the hottest property type through at least the near-term forecast period. Effective U.S. industrial rents are expected to increase by an average of 3.6 percent in the next two years, outpacing rent growth in both office and apartment property types. Based on our most recent total return forecasts, the annual total return for U.S. industrial properties is expected to be the highest among all major commercial property types through 2020. It is important to note that our forecast is at the national level and anecdotally there is concern about construction ramping up in the industrial sector. Certain markets may experience oversupply, thus it’s crucial to review the industrial sector within the context of a market’s construction pipeline.
Hear more from Hourihan and a great panel of industrial experts discussing what’s driving industrial real estate at I.CON ’16: Trends and Forecasts, June 9-10, in Jersey City, New Jersey. See the conference website for details on who attends, hot sessions, and project tours.
Kathryn Hamilton is Vice President for Marketing and Communications at NAIOP Corporate.