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Monday, May 11, 2015

U.S. industrial market demonstrates strength

By Mark E. Rose (Toronto)

I recently delivered Avison Young’s Q2 2015 audiocast message, discussing commercial real estate trends in Canada, the U.S., U.K. and Germany . A couple of days ago, I shared with you some of the Canadian trends. Today, I would like to share some of the U.S., U.K. and German market findings.

Starting with the U.S....
As a preview to Avison Young’s Spring 2015 Canada, U.S. and U.K. Industrial Market Report, to be released this week, the 9.2-billion-square-foot (bsf) U.S. industrial sector demonstrated strength in all of our firm’s major markets year-over-year. In spite of a sharp uptick in development, rents are rising and demand for class A product has been broad based. As a result, several markets report a return to landlord-friendly conditions, or nearly so.

Specific report highlights include the following:
·        Atlanta has 17 million square feet (msf) under construction, half of which is being built speculatively.

·        Detroit’s industrial market continues to improve, and vacancy dropped to the single digits, falling by 170 basis points (bps) year-over-year to 8.4%.

·        Industrial powerhouse Los Angeles reported a sub-4% vacancy rate – its lowest level in over a decade – and has 18 msf under construction.

·        The 10.5-bsf U.S. office market reports similar improvement, with overall vacancy falling below 11%, compared with 11.5% one year ago.

U.S. development on the rise
Although 2015 overall U.S. commercial real estate development remains well below historical averages, it rose sharply in the past year. As of first-quarter 2015, there was 116 msf of office inventory under construction. Given the strength of the growing U.S. economy and the level of preleasing in projects under construction, we expect a nominal impact on the vacancy rate from the expanded development pipeline.

U.S. investment sales off to strong start
Investment sales in the U.S. are off to a strong start in 2015. Through February, total volume exceeded $88.4 billion and was on pace to surpass the 2014 figure. Office sales alone accounted for 25% of the two-month total. Foreign investor interest in U.S. real estate continues, with cross-border sales year-to-date accounting for more than $26 billion. Thus far, Singapore has invested $8 billion, leading all other countries by far. Canada is second with $4 billion; however, Canada leads acquisitions of office properties year-to-date.

U.K. recovery puts pressure on London properties
Now, let’s take a look at the U.K. market, where Avison Young has offices in London and Thames Valley.

The U.K. economic recovery continues, but it is placing new pressures on property markets – especially in London and England’s South East, where the issue now is about managing growth effectively. This trend is clearly demonstrated by press headlines about rental growth and new rental “highs” across the region.

In the Central London office market, the West End is now the most expensive location in the world. In its St. James submarket, a series of deals are expected to cement the £150 per square foot (psf) yearly rental rate as the new benchmark rent, although small suites have hit as high as £185 psf. The previous record rent was £140 psf, set in 2007.

We are also seeing the revival of Regent Street shopping, which has attracted affordable luxury brands due to the availability of large units. The next phase of this trend will be the move of key international retailers south of Piccadilly and into Lower Regent Street.

Motorway location carries premium
For industrial occupiers, being inside the M25 orbital motorway carries a premium, with grade A property securing monthly rents up to £13.75 psf (Park Royal) and Heathrow hitting £13 psf for the first time at the end of 2014. In our opinion, rents will increase by a further £0.25 psf over the next 12 to 18 months.

In the U.K. investment market, where much rides on confidence, many overseas buyers may take a wait-and-see approach. Like it or not, we live in interesting times.

German debt market highly liquid
To wrap up, here are a few key takeaways from Germany, where Avison Young now has offices in Frankfurt, Munich and Duesseldorf.

The German economy is strong, with record low unemployment and inflation rates and higher wage increases than in previous years. Meanwhile, the 10-year government bond rate is at an all-time low, and the debt market is highly liquid.

German investment volume remains strong
Consequently, first-quarter 2015 investment dollar volume remained as strong as it was in the first quarter of 2014, reaching almost €10 billion, with 42% of that total driven by foreign investors. There is a shortage of trophy-class product, and cap rates for retail and residential core product are in the 2.5% to 4% cap rate range. Office cap rates are in the 4.5% to 5.5% range, and industrial has the highest yield compression year-over-year, with cap rates between 6% and 6.5%.

German industrial spec development climbs
The industrial market is strong throughout Germany with increasing speculative space development. However, the office leasing market is weaker than in previous upswing cycles, as tenants tend to stay in current locations and extend existing occupancy. Speculative office development is low. In seven major German cities, the residential market is on fire, fuelled by population growth and ultra-low refinancing costs. The retail market also remains strong, supported by wage increases and low inflation.

Thank you for reading. Please listen to the full Q2 2015 Audiocast here:

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