Industrial Warehouse

Industrial Cap Rates Will Continue to Compress, Brokerage Firms Predict

The average cap rate for industrial assets has dipped to a record low of 7.0 percent.

Demand for industrial space continues to outpace supply, resulting in higher rent growth and compression in cap rates.

Industrial real estate is so hot, investors “just can’t get enough,” says John Chang, senior vice president of research services with brokerage firm Marcus & Millichap. 

With investors acquiring $30.5 billion in industrial assets in the first half of 2018, JLL’s H1 2018 U.S. Investment Outlook report notes that the industrial sector is on pace for a new record year in terms of transaction volume and is expected to surpass the previous high point of $67.8 billion in 2015. That momentum, coupled with $20 billion in large scale transactions that are under contract and set to close in the second half of 2018, serves as evidence of the intensity of investor competition for industrial assets.

As a result, the national average cap rate across all classes of industrial assets has dipped to a record low of 7.0 percent. Average cap rates are even lower in the five industrial markets with the most supply constraints: 4.5 percent in Orange County, Calif.; 5.0 percent in San Francisco; 5.2 percent in Los Angeles; 5.3 percent in the Inland Empire and 5.4 percent in Seattle.

At the peak of the last cycle, the average cap rate for industrial assets was 7.2 percent, according to Chang. But starting with 2010, when the figure reached 8.7 percent, industrial cap rates have continued to drop, driven by economic expansion and growth in e-commerce sales.

Over the last year, growing demand for “last mile” industrial assets has also caused the average overall cap rate for this type of product to drop to 6.0 percent, Chang adds. “Expect strong demand for last mile assets to continue,” says Carolyn Salzer, research analyst with real estate services firm Cushman & Wakefield. “Proximity to customers remains top of mind for many occupiers and will continue to heavily influence leasing fundamentals in the future.”

Economists predict continued expansion for the U.S. economy through 2019, boosting optimism among investors and resulting in an uptick in industrial sales volume during the first half of 2018 ranging from 3.9 percent to 5.0 percent, depending on the source.

Real estate services firm Cushman & Wakefield predicts that cap rates in the industrial sector will continue to compress due to strong rent growth and investor appetite, but investors will be more selective when it comes to asset quality and location.

While there is little room left for further cap rate compression in core markets and major distribution hubs, like the Inland Empire, David Bitner, Cushman & Wakefield’s head of Americas capital markets research, contends that there is still room for cap compression in growing secondary markets. Bitner notes that the greatest cap rate compression over the last year occurred in secondary markets, including Nashville, Tenn.; Baltimore; Philadelphia and Oakland, Calif. Cap rates on industrial assets in these markets compressed by 60 basis points to 80 basis points during the period.

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