NEW YORK CITY-More Q1 reports from national brokerages show a US industrial market struggling to maintain equilibrium in the face of economic contraction. But while both Cushman & Wakefield and Marcus & Millichap point to declining absorption levels, rising vacancies and stagnant rents as signs of a market in retreat, they also predict improved conditions later in the year thanks to diminishing construction.

According to Cushman, overall absorption fell dramatically to the lowest quarterly rate in nearly five years. The 918,422-sf total represented a mere 4.6% of the past four years’ first quarter average. Leasing and user sales fell 15.3% and 19.6%, respectively, and many large spaces became available due to credit crunch-related consolidation. Ten markets, led by California’s Inland Empire and Silicon Valley, recorded more than a one million-sf decline in leasing demand compared to a year ago, and only six markets posted more leasing growth than last year.

Michael P. McKiernan, Cushman’s executive managing director for industrial brokerage, attributes the setbacks to unease created by economic uncertainty rather than an absolute downturn. “Tenants and developers are remaining cautious and taking the ‘wait and see’ approach, hoping that market fundamentals will improve in the near future,” he says.<P.McKiernan also blames recent high construction levels. The Cushman report reveals that Q1 saw nearly 22.3 million sf of new product delivered to market, with Dallas and Phoenix doubling activity from last year by adding 4.6 million sf and 4.1 million sf, respectively. Marcus & Millichap singles out speculative development in particular for the problem, saying a jump in spec activity over the past year has resulted in roughly 70% of the total square footage under construction not yet leased. It projects the combination of new supply and easing demand will cause vacancy to climb 70 basis points to 10 percent in 2008.

Laura Stone Mortimer, senior economist with Boston’s Torto Wheaton Research is not so sure overbuilding is the culprit. In fact, she says the lack of overbuilding during the expansion phase of the last cycle leaves her cautiously optimistic about the prospects for the industrial sector. In her opinion, new supply remains contained relative to historic levels. But she does agree vacancies will rise through the remainder of the year. “Although new supply will remain in check, the lack of demand will cause availability rates to rise moderately and place downward pressure on rent growth through the balance of the year,” she says.

Stone Mortimer calls waning consumer confidence the driving force behind eroding industrial fundamentals. “The inability of consumers to maintain prior levels of spending has lessened the demand for imports,” she says. “Demand for warehouse space in many of the larger markets is consequently suffering.” Nonetheless, despite rising availability rates and weaker net absorption, she maintains rents are holding steady in the majority of markets. But while consumer demand is falling, rising exports will at least cushion the impact, says Marcus & Millichap.

Saying the the widely reported recession is expected to be mild and short-lived, Cushman forecasts market fundamentals will improve as the year progresses. Marcus & Millichap predicts asking rents will increase 2.5% and effective rents will advance 2% this year, compared to 3.5% and 3.3%, respectively, in ’07. Stone Mortimer expects demand fundamentals to weaken through December, with slow economic growth persisting through Q2, but holds out hope for a year-end change of fortune. “If, as expected, the economy recovers toward the end of 2008, we can expect a much brighter 2009,” she says.

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