Unbridled exuberance?

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There are warnings about the US economy – there always are. It’s like the jokey old saying that if you can see such-and-such a hill from a beauty spot it’s about to rain and, if you can’t, it is raining. But the reality is that warehouse development has been the property business to be in since the collapse of the dot-com bubble.

It has been the basis of the success of companies such as ProLogis, which became the biggest of the distribution space developers last summer when it announced the $3.6 billion acquisition of fellow real estate investment trust giant, Catellus. It is interesting to note that ProLogis is the UK’s biggest distribution space developer, too.

The market for industrial distribution space continues to improve across the USA. That’s the conclusion of ProLogis’s latest US property market review. The average vacancy rate for the country’s top 30 markets fell to 8.3 per cent in the second half of 2005, compared to 9.7 per cent a year earlier. Meanwhile, asking rents jumped five per cent and broader-based market rent increases are likely to occur in 2006 as the supply-demand balance continues to tighten.

Research from property consultant CBRE confirms this trend. It says that US national industrial availability rates declined to 9.7 per cent, the ninth straight quarter of decreasing availability and lowest since the third quarter of 2001.

Research from King Sturge shows that US rents turned the corner last year. After negative movement in North American industrial rental values over the first half of 2005, the latter part of the year saw a degree of stability return with average occupation costs inching back upwards by 0.6 per cent.

In most US locations in the survey, rental rates were generally flat, with stronger concessions from landlords appearing in the market. There were, however, exceptions, such as Portland, Oregon, where the market continues to strengthen, with a continuing flight to quality and improving rental values.

ProLogis says that 23 of the top 30 markets in the US posted vacancy-rate declines in the second half of last year and 11 of them have made a full recovery from pre-bubble-burst. They are Indianapolis; Las Vegas; Los Angeles; Orlando; Phoenix; Portland, OR (again); Reno; Seattle; Tampa; south Florida; and Washington, DC. Columbus, OH, lags due to a mini economic downturn in 2004 and the first half of 2005 – but a 2.6 per cent decline in industrial vacancies during the latter half of 2005 indicates it may now be rebounding.

In its US construction pipeline report, ProLogis says that new industrial development appears to be restrained despite those exceptionally good economic conditions. While the pace of development starts increased in the second half of 2005, deliveries of new product are nonetheless expected to total 120 million to 130 million square feet in 2006, or 2 1/2 per cent of existing inventory. That’s low compared to prior periods of sustained economic recovery.

CBRE says that, in fourth quarter 2005, new construction starts for industrial space dropped but are still robust, with 25.4 million sq ft nationally in the fourth quarter, down from 38.4 million square feet in the third quarter of 2005.

Markets reporting the lowest availability rates were Long Island at 4.8 per cent, Las Vegas at 5.3 per cent followed by Salt Lake City at 5.9 per cent. The highest availability rates were filed by Boston at 19.9 per cent, Austin at 19.1 per cent and Jacksonville at 17.7 per cent.

“Many observers are wondering whether developers may have exchanged their former restraint for unbridled exuberance,” said Leonard Sahling, ProLogis first vice president of research. “We don’t think so. Far from having a free rein, commercial property developers today are constrained by numerous internal and external checks and balances – enough to maintain a tight leash on new construction.”

According to Sahling, those checks include greater market transparency, more stringent regulations governing commercial lending, and increased concentration of real estate ownership in the hands of publicly traded companies.

Financing of developments is all important. A property developer’s reputation counts for less in the US than it does on this side of the Atlantic. Unlike the UK market, lenders insist on big pre-lets before they make funds available for development.

Pat of the reason is that land is in ready supply. There is less financial bunce for a developer in a US site, because the US is not short of land. In the UK, tight supply means you can’t as a developer enjoy paper capital growth waiting for a speculatively-built shed to let when anyone can put up a shed on the lot next door. But some trends are similar. Like we have our East Coast ports, thronging with goods from China, the US has the same at its West Coast ports.

This means that distribution hubs within shouting distance of the West Coast ports have buoyant logistics property market. But there the similarity ends, for the US allows “inland ports”. Goods can arrive in California but they don’t have to clear customs until they hit Chicago.

Wal-Mart is building a 3.4 million sq ft distribution complex near Chicago. The complex comprises of two buildings of 1.6 million sq ft and 1.8 million sq ft, and it will form Wal-Mart’s import distribution centre.

Located at the CenterPoint Intermodal Center in Elwood, Illinois, the development has direct access to the adjacent 621-acre Logistics Park Chicago which could one day be the country’s largest inland port. Trains to and from the West Coast Ports are received directly into the LPC and the whole site is a designated Foreign Trade Zone. NAI Logistics Group advised Wal-Mart.

Comparing the US to the UK makes us feel a little paltry. But if – as so often it feels – we are the 51st state of the American Union, then we’re doing jolly well.

UK vs US

UK top rents: £23 per sq ft

US top rents: San Francisco £10 per sq ft

UK new space take-up in 2005: 11.1 million sq ft (down 26 per cent on 2004)

US new space take-up in 2005: 167 million sq ft

(up 3.7 per cent on 2004)

Source: King Sturge / ProLogis

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