Construction picking up as vacancy dips

The Greater Phoenix industrial market did not maintain the breakneck pace from 2017 in the first few months of this year, but the first quarter proved to be a solid start to what is forecast to be a healthy 2018. Net absorption once again topped 1 million square feet—the seventh consecutive quarter where that has occurred. This pace should be sustainable in the coming quarters; the market recorded a stretch of 17 consecutive quarters of net absorption over 1 million square feet from 2003-2007.

Net absorption is forecast to accelerate between now and the end of the year. Several large leases with move-ins scheduled for the remainder of the year have already been signed and the increase in spec inventory will likely generate additional leasing volume in the coming quarters.

The national economy continues to expand and the local economy should gain strength. One driver in the local economy will be the housing market, which has been posting rising prices and accelerating permitting activity.

Conditions in the investment market were generally very healthy during the first quarter. Prices surged, with the median price topping $90 per square foot, a figure that has not been reached since 2007- 2008.

The number of properties that sold slowed a bit from the fourth quarter, but this is a common occurrence where sales velocity tends to spike toward the end of the year, siphoning off some activity from the first few months of the following year. Cap rates inched higher from lows recorded in the fourth quarter, but at 6.8 percent, the average cap rate is 90 basis points lower than one year ago.

Key Takeaways:

  • Conditions in the Greater Phoenix industrial market continued to improve during the first quarter, although the pace of net absorption lagged the robust levels from 2017. The outlook for the remainder of 2018 calls for an accelerating pace of tenant move-ins.
  • Net absorption reached nearly 1.2 million square feet in the first quarter, the seventh straight quarter where net absorption exceeded 1 million square feet. Vacancy has retreated to 7.6 percent, the lowest figure in more than a decade.
  • Asking rents rose to start the year, ticking up to $0.58 per square foot, per month. Current asking rents are up 2.5 percent from one year ago.
  • Deliveries slowed to less than 710,000 square feet in the first quarter, but the amount of space under construction has risen to more than 6.2 million square feet. More than 3.5 million square feet of spec development is under way.
  • The median price during the first quarter was $97 per square foot, a 17 percent from the 2017 median price. Cap rates have averaged 6.8 percent to start 2018, reflecting the heightened investor demand for local industrial assets.

Outlook:

Despite getting off to a slower start to the year, the outlook for the Greater Phoenix Industrial market in 2018 is quite strong. The market recorded the strongest net absorption in more than a decade in 2017, totaling approximately 10 million square feet. Only five industrial markets in the country had stronger net absorption in 2017.

With vacancy at a cyclical low, there are two trends that are anticipated in the year ahead. The first is an increase in spec development. There is more than 3.5 million square feet of spec space currently under construction, representing a 25 percent increase from one year ago.

The second trend that should emerge in 2018 is that of strengthening rent growth. Net tenant demand has outpaced new development in seven of the past eight years, including the last four years. With vacancies tight, there should be some upward pressure on rents.

The investment market is proving to be particularly strong. Prices have spiked in recent quarters, with the most significant increases occurring in smaller spaces targeted by owner-users. In larger investment transactions, cap rates have been below 7 percent in each of the past two quarters, even as interest rates have begun to tick higher.