Chicago Industrial Predictions: Absorption May Slow in Second Half of 2019

As we begin 2019, there are several opposing market forces at work that are sure to influence each of us, and our respective firms and clients. These market dynamics will ultimately dictate who has a great year and why — or why not. 

This year, it seems the signals are more mixed than in the past several years, so making predictions about the local industrial real estate market is somewhat daunting. Nonetheless, here is what to look for in 2019.

Geoffrey Kasselman, Newmark Knight Frank

A tale of two halves 

Listen carefully: skip vacations, stay in town, hunker down and make as many deals as you can in 2019. Based on current supply and demand dynamics with several significant users already in play (build-to-suits, new leases, renewals, etc.), plus a recent wave of speculative deliveries, look for the first and second quarters to be fairly robust in terms of gross absorption. This should extend the growing record of 35 straight quarters of positive net absorption, dating back to the second quarter of 2009, with at least two to three more such quarters.

But, like in sports, what happens in the first half can be overshadowed by a shift in momentum or other significant change in the second half, the net sum of which remains to be seen for 2019. In the third and fourth quarters, expect to see a confluence of adverse real estate factors, economic issues and geo-political domestic and global concerns make real headway in slowing the local industrial market. 

Several large newly vacated spaces will occur, and a spate of new speculative buildings will deliver in the third and fourth quarters. This will occur just as consumer confidence erodes, corporate profits stumble (thanks to tariffs, interest rate uncertainty, upward pressure on wages and materials, and so on), and domestic politics kicks into high gear (investigations and the 2020 presidential election, etc.). Meanwhile, trade challenges with China are likely to reduce net exports and gross domestic product, and in late March, Brexit becomes official and is poised to have global ramifications before the end of the year. 

What do users do? Hit the snooze button, taking a wait-and-see approach while slowing the demand side of the equation. Consequently, the fourth quarter of 2019 may be the first quarter of negative net absorption in over 10 years, ending the record run at 38 quarters.  

Continued activity 

Watch for continued top-shelf activity across the board for industrial portfolio transactions in 2019, especially in the first half of the year. With fresh allocations, few asset class alternatives that will outperform industrial, an influx of foreign capital in pursuit of better yields than where the capital originated, and keen awareness of where we are in the cycle especially amongst the ‘use it or lose it’ custodians, local capital markets activity could initially be on a record pace. 

However, as the year goes on, the cyclical “flight to quality” will be noticeable, and such activity will likely be reduced for reasons already stated. It won’t be a record year for local industrial capital markets, but it may come close. 

Growing labor shortages 

Often overlooked by many real estate stakeholders, labor is an essential element of most occupiers’ operations. The Chicago metro statistical area unemployment rate is hovering at or near an all-time low of 3.6 percent. The ramifications for real estate are huge, with significant to severe shortages in several classifications such as truck drivers, construction, manufacturing, delivery, entry-level/unskilled and temp labor. Job training takes time and money, or alternatively, employers can elect to pay more. However, both approaches are inflationary. 

In certain submarkets, such as the I-55 and I-80 corridors, a glut of large-inventory buildings requires hefty, creditworthy users to sign long-term, multi-million dollar leases. But these types of users know a labor ‘desert’ when they see one, and they all do their homework to a credible extent. Therefore, labor shortages will certainly be in the headlines in 2019.

E-commerce, last mile 

Grouped together as they directly overlap, e-commerce and last-mile logistics will continue to evolve in 2019 and be a primary driver of market activity during the year. While the promise of last-mile nirvana has been somewhat evasive to date, there should be another incremental step forward in 2019 as deals near the central business district take shape despite the elevated price points. 

Likewise, as online shopping proliferates, and sellers improve at same-day or next-day delivery, corresponding real estate activity is sure to pave this path. Watch for creative repositioning and adaptive reuse of large-block city retail, and for third-party logistics and return logistics companies to be in the news throughout the year.

Other trends to watch 

1) As capital, labor and construction costs rise, overall project costs rise. Project lag times suggest that developers will continue to have some notable successes in 2019, but for those being teed up today, they will need tax increment financing or other offsets, or they may not pencil.

2) Opportunity Zones will grab their share of headlines in 2019, as sheltering investment gains have always been a harbinger of market activity.

3) ‘PropTech’ (property technology) will drive enhanced efficiencies, more effective marketing and relatively faster transactions, with better overall transparency.

4) There will be heightened mergers and acquisitions (M&A) activity in 2019 impacting local firms, as shrewd operators position for scaled growth, recession proofing and overall return on investment for their investors or shareholders.

5) All of us will be using artificial intelligence (AI) applications in our respective businesses to some extent before the end of the year.  

Yes, there are ‘X’ factors to be reckoned with. Change is the only certainty, like it or not. Here’s to embracing 2019 with a zest unknown to mankind (thank you Jim Harbaugh). May it be another great year for everyone!

— By Geoffrey Kasselman, SIOR, LEED AP, Executive Managing Director, Newmark Knight Frank. This article originally appeared in the February 2019 issue of Heartland Real Estate Business magazine.

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