Prologis Industrial Business Indicator continues to highlight mixed industrial real estate messages

The most recent edition of the Industrial Business Indicator (IBI), which was issued by San Francisco-based real estate investment trust company Prologis, was again replete with indicators pointing to a mixed outlook for the industrial real estate sector, in terms of vacancy, rents, and space utilization, among other factors.

Prologis defines the IBI as a survey of customer sentiment focused on customer activity in warehousing. The October IBI reading came in at 57.3 (a reading of 50 or higher indicates growth is occurring), which the firm said is in line with the third quarter average and reflects continued strength in consumer spending and growth in the flow of goods.

Key data points in the October IBI included:

• the national vacancy rate remaining low, at 4.8%, compared to a historical expansionary average of 6.1%, even as the pace of new deliveries quickened and added 70 basis point to market vacancies;
• significant rental rate increases upon lease expiration will remain the norm, even as market rent growth normalizes from its blistering pace of 2021/2022l, with U.S. rent growth totaling 85% from 2019-Q3 2023, which the firm said will continue to produce steep rental rate increases for customers upon lease expiration
• realized net absorption fell from fell from 49 million square-feet (MSF) to 42 MSF, from the second quarter to the third quarter, driven by increasing interest rates, which increased customer scrutiny of capex spend and inventory carry;
• the October 57.3 IBI reading translates to an annual run rate of 175 MSF, which Prologis said indicates the need for network expansion;
• 121 MSF of new logistics space was delivered in the third quarter, reflecting the large number of projects started in 2022;
• third quarter speculative starts were off 65% from peak levels and are still falling, due to replacement cost rents increasing and materials and labor costs remaining high, capital costs increasing, and construction lending conditions tightening; and
• a forecast of 195 MSF of demand in 2023 compared to 490 MSF of new supply, increasing the vacancy rate to 5.4% by the end of 2023, which Prologis said will translate to a low level of deliveries starting in the second half of 2024 and into 2025, putting renewed downward pressure on the vacancy rate

Melinda McLaughlin, SVP, Global Head of Research for Prologis, told LM that, in general, the IBI reflects economic growth and supply chain functioning.

“Therefore, if economic growth continues, we would expect IBI Activity readings to remain in the growth range of 50-plus, as we move further beyond the pandemic bullwhip effect and the movement of goods through supply chains reflects normalized consumption patterns and seasonality,” she said. “We will continue to monitor readings as a leading indicator of economic growth.”

When asked how much the current 4.8% vacancy rate is, in terms of its potential to stall expansion, McLaughlin explained that vacancy remains historically low in the US, Mexico and Europe, which means that distribution network growth could be constrained in some locations.

“In the U.S., we expect an elevated level of completions to outpace net absorption over the next three quarters,” she said. “However, the rapid fall in new ground-breakings that we are seeing today will lead to a sharp fall in completions beginning in late 2024, likely re-introducing or exacerbating scarcity to many locations around the world. For that reason, we recommend customers act early if they are looking to build out their network through the medium term.”

With U.S. rent growth totaling 85% from 2019-Q3 2023, McLaughlin said that market rent growth is poised to continue in the U.S. and globally over the coming year, albeit at a slower pace versus 2021/2022 while the construction pipeline gets absorbed. 

“The trend will differ by location, as we saw in 2023: a few locations recorded flat or declining rents, but many markets continued to post double-digit increases,” she said.

Prologis observed that the U.S. logistics real estate market is under-going what it called a “mini cycle” that reflects a balance between short-term cyclical uncertainty and long-term adaptation to the future of retailing and supply chain demands.

“Customers are still expanding their real estate footprints, albeit at a normalized pace compared to the frenzy of 2021 and 2022,” it said. “Some leasing activity is being delayed until 2024, and next year’s deliveries are poised to fall sharply, which should re-introduce scarcity to many markets. As a result, we recommend that customers act quickly to take advantage of increased availabilities.”