The U.S. distribution market is posting steady growth, with absorption of space increasing, vacancy declining and rents rising in most major areas.
Continued population growth, increased consumer spending and imports, and steady national economic growth are fueling expansion in the distribution space market.
While expansion in 2004-05 was rapid, growth now is settling into a less frenzied but consistent pattern.
In the 18 metro markets tracked by Delta Associates, there is a total of 1.7 billion square feet of distribution warehouse space.
(Distribution space is defined as warehouse buildings that have at least a 22-foot clear ceiling height and 100,000 square feet of floor area. This definition of distribution space accounts for 28% of all existing warehouse space.)
Absorption
Net absorption of distribution space in the 18 markets totaled 74.8 million square feet last year. Increased importing of goods, a rise in consumer spending, and strong job growth all contributed to a strong performance in 2005.
There was 19.2 million square feet of net absorption through the first four months of 2006. That’s 57.6 million square feet on an annualized basis. Activity indicates that net absorption in 2006 will likely be lower than last year.
The decline is a product of several factors: job growth likely peaked in 2005, though it is still healthy; consumer sentiment has been on the decline, and slowing retail sales are possible during the second half of 2006, leading to less demand for distribution space; and net absorption in 2005 was well above the long-term average, so regression toward the average is likely.
Economic growth remains steady, population continues to grow strongly and businesses are investing in capital at a healthy rate. As a result, businesses are expanding quickly.
The 18 markets are expected to absorb about 58.7 million square feet of distribution space per year from 2006 to 2010. There was about 50 million square feet of annual absorption in the 1990s.
Distribution Vacancy
The overall vacancy rate for distribution space has held steady this year. At 12.2% in the spring, the vacancy rate is up slightly from 12% at the end of 2005, but lower than the 13.3% at the end of 2004.
The rate of decline in the vacancy rate is expected to moderate, as the pipeline of new space increases. The vacancy rate is expected to settle in the 11% range by 2010.
Phoenix has the lowest vacancy rate in the nation, at 6.3%. This is down from 11% at the end of 2004.
At the other end of the spectrum is Detroit, where distribution vacancy was 22.4% in the spring, down from 24.6% at the close of 2004.
Thirteen of the 18 markets saw a decline in vacancy during the past 18 months. The L.A. Basin, which includes Orange County, Chicago, San Antonio, Seattle, and Washington/Baltimore all saw higher vacancy rates.
In some cases, this was due to the delivery of vacant space, in others it was due to move-outs. In the L.A. Basin, the rise in vacancy is of little concern as distribution vacancy remains very low at 6.4%.
Construction Activity
Construction activity remains steady across the U.S., as demand increases and the vacancy rate declines in most of the major markets.
There is 12.9 million square feet of distribution space under construction in the L.A. Basin, with most of that in the Inland Empire where the vacancy rate is 7.7%. Preleased space accounts for 18% of the space under construction.
While the level of construction in the L.A. Basin seems extraordinary, it would take three years at the current pace to push vacancy rates to the 10% range,and that’s only if the region averages 8.3 million square feet of net absorption per year in the period.
The L.A. Basin absorbed more than 16.5 million square feet of space during the past 16 months.
Demand is expected to outpace the supply of distribution space under construction through 2007. As a result, vacancy is expected to continue to decline in most markets.
Distribution Rents
Sixteen of the 18 major markets recorded rent gains in 2005. In the L.A. Basin, distribution rents jumped 7.8% even as the vacancy rate increased slightly, though from a very low rate.
Rents rose 3.4% in South Florida and 4.5% in Houston, as vacancy dropped to relatively low levels in those markets. Meanwhile, Chicago saw modest rent growth while Detroit’s distribution rents were flat.
Nationally, distribution rents increased 2.9% in 2005.
National rent growth is expected rise 2% to 3% a year from 2006 to 2010. Markets expected to post higher-than-expected rent growth include the L.A. Basin, up 5% to 7% a year; Dallas/Ft. Worth, up 4% to 5%; South Florida, up 3% to 4%; and Houston, up 3% to 4%.
Atlanta, Chicago, Northern New Jersey and Philadelphia may not post above-average rental growth, but should see consistently strong market conditions.
Analysis by Delta Associates.
