4 Factors That Could Threaten Industrial Real Estate's Winning Streak

U.S. industrial real estate fundamentals were strong this past year and are expected to continue their upward trajectory throughout the next 18 months.

A strong economy, plenty of investment properties and a slew of buyers have led to favorable market conditions while the rise of e-commerce and the push for same-day deliveries will continue to lead to exponential growth in industrial leasing activity across the country.

"Industrial real estate has achieved a level of equilibrium that is or has been more sustainable than in some certain other commercial sectors. That equilibrium and other market dynamics make industrial investment properties a preferred option among a wide range of investors, from entrepreneurs to institutions," Real Capital Markets Executive Managing Director Steve Shanahan said.

Though strong demand is expected to sustain leasing activity in the sector, RCM and the Society of Industrial and Office Realtors discovered a handful of potential risks that could negatively impact the sector. The two joined together to gather data by surveying a host of RCM principals and SIOR members, as well as conducting subsequent research.

This is a snapshot of the risks the two organizations uncovered: 

1. Overbuilding/Oversupply

More than 40% of those surveyed identified overbuilding as the largest threat to the industrial sector and cited unchecked construction levels and a shift in market dynamics as primary factors that could put sales at risk.

Although seven years of demand outpace supply in the industrial industry, some believe there could be a shift in the market in the near future and owners and investors have not forgotten the sting that came with an imbalance of supply outpaced demand in the past.

"[This] could lead to prolonged vacancies and can result in losing an asset. Add to that the fact we’ve been on such an incredible run for an extended period of time and the significance of that threat is very reasonable," RCM Chief Operating Officer Tina Lichens said.

2. Political Issues

Industrial real estate tends to be tied to global trade policies. As a result, it is susceptible to political changes, such as President Donald Trump's plans to revamp NAFTA, that could disrupt demand.

A move to dismantle NAFTA could hurt both the logistics and industrial markets because so many of the goods coming in and out of the U.S. rely on international agreements and relationships with countries including Canada, Mexico and China. A disruption to these supply chains could significantly impact the flow of goods and materials and in turn, the businesses that help make and move them.

This means the simple feeling of uncertainty or instability around trade or other political issues could prevent companies from moving forward with lease agreements or property expansions.

"As one investor told us, when you own property in parts of Texas and the Southwest that are reliant on trade, certainty is a highly sought-after commodity. Tenants want it and so do investors. Without certainty, there is increasing instability which make companies more hesitant to expand and/or sign new leases," Lichens said.

3. Unrealistic Seller Expectations

There are growing concerns that buyers will begin to buck at the prospect of paying higher prices for industrial properties, leaving sellers to decide whether waiting for a buyer who is willing to pay that price is worth the risk or not. This discrepancy could lead to a slowdown.

Buildings that have invested in features such as LEED certifications, which were once both highly sought after and expensive, could be caught in the middle of this conundrum. As sustainable design increasingly becomes the norm, property owners are faced with the reality that their investment — which would have warranted higher returns in the not-so-distant past — may not produce the same returns from buyers that they expected.

4. Lack Of Quality Assets

Investors evaluate assets based on a building’s long-term sustainability. With modern buildings built for single and multi-tenant use being a primary target, buildings that do not fall into this category could end up being a drain on the sector.

"The reason the quality assets were listed as the most attractive is because many assets have traded hands in this market cycle so there is not enough quality inventory available. It also puts pressure on sellers of lessor quality assets to consider upgrading their properties with technology and other building improvements to attract higher quality tenants prior to putting them on the market," Lichens said.