Vacancy Bottoms Out, Rent Continues To Rise

The San Fernando Valley is the most populous region of Los Angeles and home to the major motion picture, music recording and television production companies. Much of the industrial infrastructure is devoted to ancillary services for the entertainment industry and for serving the local population. The San Fernando Valley has recently seen an influx of value-add investors continuing to purchase properties in the region. Vacancy increased 30 basis points to 2.0%. Vacancy remains tightest in the Central SF Valley area at 0.7% and highest in the Santa Clarita Valley at 6.3%. Industrial demand was negative 350,500 SF for the quarter due to new vacant space hitting the market. Sales and leasing activity totaled 1,328,800 SF this quarter. This was broken out into 10 sales (564,700 SF) and 28 leases (764,100 SF). Average asking rents increased $0.01 PSF NNN to $0.71. Asking rents have surpassed their peak of $0.68 PSF NNN which was seen in late 2007. There was 270,600 SF added to the base this quarter while 481,900 SF of space remains under construction. Capitalization rates continued to tighten in Los Angeles County, averaging 4.4% in the first quarter of 2018. Average sales prices rose over the quarter to $175 PSF as smaller deals dominated this quarter.

Key Takeaways:

  • The vacancy rate increased 30 basis points from 1.7% to end at 2.0%. This increase was due to vacant construction completions but also space givebacks at the start of the year.

  • Net absorption totaled negative 350,500 SF SF for the quarter, the first quarter of negative net absorption in almost five years.

  • Asking rental rates rose $0.01 per square foot (PSF) triple net (NNN) to $0.71. Rents have surpassed the previous peak of $0.68 PSF NNN set in 2007.

  • Sales and leasing activity totaled 1,328,800 square feet (SF), broken out into 10 sales (564,700 SF) and 28 leases (764,100 SF). This is a lower than usual amount of gross absorption for this market.

Outlook:

This quarter saw space give-backs for almost all size ranges across the San Fernando Valley. Future quarters will see fewer new vacancies as many of tenants in these properties have already renewed their leases. The amount of space givebacks this quarter may prove to be an anomaly. The San Fernando Valley is at the tail end of a building boom. Tight market conditions and rising rents are leading to a much needed increase in supply. As these newly completed buildings are leased up, we expect to see increased investor activity on these newly leased buildings. For industrial users looking to find the ideal space to meet their needs, they will likely have to expand their industrial footprint by taking additional space in soon to be constructed speculative buildings or in build to suit projects, as quality space remains hard to find in this market.

Vacancy is likely to increase next quarter as new supply is brought to market. Absorption will likely be flat or positive next quarter as new construction is leased or sold. Rents have been increasing for the past six years and will continue to rise in future quarter, but at a slower pace than before. The vacancy rate remains fairly low and quality industrial space and new construction will see the majority of future price appreciation. If market conditions considerably soften in future quarters we may see a leveling off of rent in less desirable class B and C properties. The discrepancy between rents in Los Angeles and Ventura Counties will likely increase in future quarters as asking rents are rising faster in Los Angeles County compared to Ventura County. Space remains tight and land for industrial uses remains scarce. Once the current wave of properties finishes construction there is not ready supply in the pipeline to replace them. We expect construction to remain low in future quarters. Industrial real estate remains in high demand, pushing cap rates lower. This is due to anticipated appreciation in sales prices that accompany tight infill markets.