Marking a sluggish start to the year, industrial construction completions quadrupled tenant demand for the sixth consecutive quarter, according to Colliers' industry report. Vacancy rates also continued to rise in the first quarter, increasing 50 basis points to 6.1% – the highest since early 2015.
After record demand in 2021 and 2022, developers responded by increasing construction significantly, says Stephanie Rodriguez, Colliers' national director of industrial services. The developer response to industrial undersupply created its own supply-demand imbalance.
"More than 85% of these projects were built on spec," says Rodriguez. "Demand began to normalize in early 2023, averaging 52M SF over the past five quarters, or about 80% of the pre-pandemic average."
The outsized supply pushed vacancy rates higher in 61 of 77 markets in the first quarter of 2024. Rodriquez noted that rates in the South were up 284 basis points since the start of 2022, the highest in the nation. Additionally, in the West, construction completions also faced decreasing demand, pushing its vacancy rate up 232 basis points in the same two-year period.
Vacancy Rates Expected to Normalize, Rental Rates Slow
Colliers expects that while US average and regional vacancy rates will continue to climb in 2024, they will plateau towards the year's end or in early 2025.
"While vacancy rates will continue to rise this year to 6.6%, or slightly above the 15-year average, the good news is that the construction pipeline is quickly declining," according to Craig Hurvitz, Colliers' US director of national industrial research. Construction starts dropped below 400 million square feet during the first quarter and are expected to decrease to 300 million square feet by the end of the year.
"The equilibrium between supply and demand is forecast to return in early 2025, which is when vacancy rates will begin to fall again," said Hurvitz. He added that some markets, where a large amount of space remains under construction compared to the market's overall size, will see vacancy rates climb more quickly into the double digits. However, those rates are expected to begin to recover in 2025 as construction completions decrease.
The pace of rental rate increases also slowed. The first quarter finished at $10.74 per square foot NNN, or an average of 10% growth year-over-year. After unprecedented rent growth since 2022, the report notes this has stabilized between 5% and 15% in most markets.
Despite Sunnier Economic Outlook, Many Take "Wait and See" Approach
The US economy showed some bright spots to start the year with a stronger labor market, decelerating inflation, increased consumer spending, and easing financial market conditions. Despite these positive developments, experts are predicting fewer federal interest rate cuts for the remainder of 2024.
As a result, Colliers says that many industrial users have sidelined expansion plans due to economic uncertainty and the high cost of borrowing while taking a "wait and see" approach.
"Higher interest rates will likely prolong this holding pattern," said Rodriquez. "And while some tenants will have to eventually address their needs, a quicker pivot to interest rate cuts will boost confidence for users, allowing them to address their expansion needs more quickly."
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