A 'Beautiful Ugly Duckling,' IOS Market Rolls On Despite Broader Industrial Slowing

Industrial outdoor storage rode a wave of pandemic-era interest and outside investment in late 2022 and 2023, despite the seeming mundanity of specialty parking lots. But that same predictability and steady performance — despite financing uncertainty, a cooling warehouse market and a freight recession — has industry analysts expecting a solid 2024. 

“I think the outside capital is going to grow,” Timber Hill Group Managing Partner Cary Goldman said. “It became a trendy niche in the last few years, so people that you know are new to it or didn't do their homework thought all they had to do is buy 20 acres. But now, the difficulty level has gone up.” 

IOS remains stuck in a low-supply, high-demand moment, and that helps explain why IOS properties perform well despite negative forecasts.

The larger industrial market has been treading water, and trucking companies, a big group of tenants, face the oversupply and underperformance of a freight recession. When warehouses remain in high demand, many IOS spaces are converted, further shrinking the overall supply.

Leasing stayed strong last year, Industrial Outdoor Ventures founder and CEO Tom Barbara said, despite debt conditions making it hard to make acquisitions. Green Street called the sector a “beautiful ugly duckling,” referring to its low capital expenditures and relatively high 8% rate of return. But Barbara and others said that deal-making in the $200B sector will change this year, as investor interest and a more favorable market for deals will, as he put it, get the buyers “back in the mood.”

“I don’t know about a frenzy,” he said. “But remember, there’s a relatively large amount of assets out there with a small number of people playing.”

The market — buffeted by geopolitical and supply chain challenges causing certain ports to slow down, plus trouble for the trucking carriers — shows just how dependent IOS real estate is on the fate of larger industrial and logistics players.

But despite those challenges and the correlation between industrial activity and IOS action, the dearth of new supply presents opportunities, even if new entrants to the market inflated pricing in anticipation of quick returns and got burned. 

“I think people pushed rents too high, thinking that this Covid world or the Covid environment was going to continue and the freight markets were going to continue at the pace they were at for the last couple of years,” Dayton Street Partners principal Howard Wedren said. “So there’s certainly been a softening in the [truck] yard world.” 

Part of that came from a shift in many corporations' warehousing strategies. The pre-pandemic just-in-time version of a globalized economy gave way to a radical rethink, including reshoring and significant supply reserves, which helped fuel record warehouse demand.

Now firms are finding more of a middle ground: Higher interest rates meant paying more for stocks in storage, so many have backed off the size of their surplus supply. 

A downturn in demand for trucking hit inexperienced IOS landlords particularly hard, Wedren said. In a slow environment, many carriers question higher prices, especially when many of their trucks may remain parked for long periods.

In that case, paying a premium, especially for a location — IOS properties can hold outsized values for carriers by cutting their transit time and shipping costs — doesn’t make much sense and hurt those new-to-market buyers who thought assembling a portfolio and raising rents was a foolproof strategy.

Wedren said the big trucking carriers, aware of industry challenges like an oversupply of trucks and flickering demand in the first half of the year, have been conservative with leasing.

Additional industry uncertainty came during the sale of the Yellow Corp. portfolio, which amounts to a shake-up of existing carrier networks. But that may soon end, as that portfolio has been absorbed by several operators via a bankruptcy auction. Wedren said he has seen an uptick in activity in recent weeks, as well as a handful of groups, especially strong carriers with cash on hand, seeking to expand, with an eye on demand growth. 

Low supply makes these relatively simple assets so valuable.

“NIMBYism still drives this market,” Goldman said. “No city wants us.”

But some of the larger players in the space have plans to expand, especially in growing Sun Belt markets. Timber Hill has a larger pipeline in 2024 than it did in 2023, and Goldman said it is bullish. He estimated 75% of the company's activity this year will be buying land, with plans to develop new sites in 12 to 18 months.

There is consensus that some of the emerging inland ports across the nation present opportunities for new investments. Charleston, South Carolina, Dallas and El Paso, Texas, are set to benefit from a spike in Mexican manufacturing and reshoring. 

Wedren said he sees significant headwinds for newcomers to the market, especially due to the challenges of navigating lending relationships. Most banks don’t understand the unique nature of IOS leases. But he also expects a recovery, certainly by the end of the year. 

“We’re bullish on acquisitions, not necessarily recovery in the freight markets,” he said.