The demand for high-quality industrial real estate shows no sign of abating. The change in how consumers shop, coupled with a growing economy, is fueling significant industrial rental growth and, even amidst construction activity, vacancy levels are at all-time lows in most markets. In fact, industrial is the only major commercial property type to show growth in annual sales volume, according to a report from CoStar.
SoCal Real Estate spoke with Jonathan Pharris, president and co-founder of CapRock Partners, a Newport Beach, California–based industrial real estate investment and development firm, about why industrial is such a lucrative property type for investors and his outlook for the sector over the next three to five years.
SoCal Real Estate: Why is industrial real estate becoming more attractive to investors?
Pharris: There are three main driving factors to the strength of industrial real estate and why it is so attractive to institutional investors. First, there is a secular shift in how the American consumer shops, with the advent of e-commerce. As the retail environment downsizes, industrial real estate is the beneficiary of a new demand factor that did not exist 10 years ago. Second, the U.S. economy is on solid footing. In the top-tier markets there is more tenant demand than supply, so even though construction is underway, vacancy continues to decrease. Third, and specifically for the Western United States — where CapRock is focused — the port volumes of major ports are experiencing year-over-year growth. It is forecasted that this year the U.S. may experience the highest import volume in history.
Intelligent investors recognize these dynamics and are increasing their industrial investment allocations. Logistics development, value-add industrial and last-mile developments in particular are generating significant value.
Why is industrial such a lucrative property type?
In addition to e-commerce and a strong economy, consumers expect same- and next-day delivery, so it is clear that more industrial development is needed in most metro markets. While retail and office struggle to generate returns for investors as a result of changing consumer shopping habits and the ability to work remotely, there seems to be more rental rate upside for industrial than other commercial-property types. As the preferred property sector for more than half of investors in 2018, investors realize the compelling risk adjusted returns that industrial offers and are seeking to place even more capital in this investment class.
What’s your outlook for industrial in the next 3-5 years? What’s driving demand?
There are significant tailwinds to investing in industrial real estate that will generate healthy returns for years to come, including lack of supply, high tenant demand, barriers to entry in many metro markets, strong investor demand, the resurgence of domestic manufacturing, continued international capital flows into the United States, and the growth of e-commerce.
But the positive outlook for industrial is not only tied to e-commerce. The rationale to invest in industrial is manifold, and e-commerce is only one of the facets that is positively affecting big-box logistics development, last-mile distribution centers, small box industrial, and multi-tenant light industrial buildings.
It is important to note that uncertainties exist, and investors should be aware that not all industrial markets are equal. CapRock focuses on the Western region since more than half of all goods that enter the United States enter via West Coast ports. In addition, entitlements are generally more difficult to obtain on the West Coast. Therefore, the supply of new buildings is typically more modest, while the increasing population in these regions continues to ensure that demand for space remains steady. We believe that rental growth in the land-constrained markets in the western region will experience stronger growth than in other markets. This rental rate growth should help to offset the risks associated with the potential for higher interest rates.
How do you see autonomous trucking and other technological innovations affecting investment in industrial?
There are many ways that autonomous trucking and other technology will affect industrial in the coming years. With automation comes faster delivery times, which will help e-commerce companies meet consumer expectations of same-day or in some cases even same-hour delivery. Warehouse design will also change to accommodate the new way goods are being delivered. For example, without drivers, cab space in the trucks can be reduced, which could allow warehouses to decrease loading dock and entrance sizes and create more usable space. The rise of electric trucks in tandem with autonomous trucks will drastically reduce the industry’s impact on the environment and has the added benefit of reducing noise pollution. With noise and carbon pollution becoming less of a concern, the entitlement and environmental review process will likely be expedited. This coupled with the increase in hours that trucks will be able to operate when autonomous trucks become widespread will allow developers to complete industrial projects and see a return on their investment much more quickly.
What else should investors who are looking into the sector know?
While industrial demand is growing throughout the country, there are some areas where the opportunity is greater than others. Land prices have increased significantly in the last several years, and competition for high-quality development sites as well as value-add industrial investments is everywhere. It is important to differentiate yourself as a buyer and only focus on the niche you know best, whatever that niche may be.