Industrial Market Ready for Three Potential Demand Scenarios

Savills sees the industrial market cooling, with vacancy increasing 100 basis points off last year’s record low to 4.8%, while blockbuster rent growth is slowing down.

It says that nearly 700 million square feet is under construction, so elevated supply is virtually guaranteed in the near term, it said.

There are three ways that vacancy rates could play out during the next 18 months.

Savills has devised three trajectories to stress-test the market: a base case of normalizing demand, an upside where recent heightened activity resumes, and an increasingly unlikely downside case of a major contraction on par with 2008.

In all instances, the current historically low vacancy, as well as a pause in new construction starts, provides a substantial buffer that will keep vacancy in the single digits and rents well above pre-COVID levels.

In the first scenario, with “normalized demand,” slow and steady economic growth will cause net absorption to retreat to 2019 levels, averaging 61.1 million square feet over the next six quarters.

This equates to less than half of the record quarterly average the sector saw from 2021 and 2022.

Savills said heightened new supply “will push vacancy higher until it tops out at 6.4% in Q3 2024, a height not seen since 2016.”

In a second scenario, if the frenzy resumes, after a one-year blip, historically elevated demand begins again as the economy grows on a solid footing in the context of a soft landing.

Savills said net absorption would be on par with 2021 and 2022 levels and vacancy would fall gradually as landlords gain the upper hand again next year.

Trends around e-commerce, onshoring, and population growth/migration produce quarterly would make this happen, “aided by the stall in construction starts that impact deliveries by mid-2024,” according to the report.

Additionally, rent growth wouldn’t hit double digits “but is still strong historically speaking.”

There is a low risk of a significant recession, but if a major pause occurs, the vacancy would rise substantially as net absorption drops to 2009 levels.

Meanwhile, elevated new supply would continue to hit the market and even under this worst-case scenario, “vacancy still would not reach double digits, face rents would decline modestly in addition to higher concessions to lease up vacant space, such as free rent.

Even still, Savills says net effective rents would remain substantially above pre-COVID levels.

Savills said that in most markets “tenants have an opportunity to capitalize on the current environment to secure more favorable lease terms over the next 12 months before conditions begin to retighten,” which will likely take the form of more flexibility and concessions as face rent relief “would not occur under the most likely scenarios.”