2019 for commercial real estate is full of high expectation, especially for the Phoenix area. Just like 2018, 2019 will have major positive economic signs such as strong population growth, solid job numbers, and a continuous business-friendly environment. The industrial market is riding a long run of near record-breaking net absorption of nearly 8 million square feet a year. That’s a lot of money! Keep reading to continue learning more.
If you liked commercial real estate in 2018, you’re going to enjoy 2019 just as much.
Often, sequels don’t live up to the high expectations set by their predecessors, but when it comes to the general health of the commercial real estate market in the Greater Phoenix area, another year like 2018 is very welcome.
All of the major economic signs point to another positive year for the market, with strong population growth, solid job numbers, and a very business-friendly environment. There are very few factors that seem to be working against continued growth in the overall economy and in commercial real estate, specifically. One factor is the shrinking availability of land to develop in the central cores of the Valley cities. Another and more pressing issue is the cost of doing business for a developer.
“The biggest challenge I see is construction costs,” said Rommie Mojahed, director of retail leasing & sales investments for SVN | Desert Commercial Advisors. “With all the new development and demand, the labor pool has been shrinking and the construction costs have been increasing. With the land cost up and the construction costs, it could be a real challenge for developers.”
But those factors won’t likely be enough to stall Arizona’s growth, as each of the sectors appears set for continued success.
The industrial outlook for 2019 was summed up by Cushman & Wakefield’s executive managing director Will Strong thusly: “I never thought I would say it, but it’s actually cool to be an industrial guy.”
The industrial market is riding a long run of near record-breaking net absorption of nearly 8 million square feet a year. The market is seeing a wide range of industrial products being delivered, from small manufacturing space to huge distribution centers, and Strong and other market experts expect that to continue in 2019.
“The development pipeline feels about right and the industrial market is best served to avoid the historical inclination to overbuild and repeat the boom and bust cycle Phoenix can quickly experience,” said Jeff Foster, vice president, and leasing officer in the Phoenix market for Prologis. “Metro Phoenix is well situated with the availability of best in class facilities either recently completed, under construction or in the planning stages to compete well with other markets for regional user requirements of all sizes.”
According to numbers compiled by NAI Horizon’s Don Morrow, in the third quarter of 2018, there were 5.6 million square feet of the industrial product under construction, with much of that poised to come online in 2019. If net absorption remains strong, expect rents to hold firm or even continue to rise.
“The Phoenix industrial market is benefiting from rent growth, premiums in investment yield comparable to primary markets, industry diversification, affordable housing, and an abundance of labor,” Strong said. “It feels like we will continue to see cap rates hold steady or maybe even compress in part because of these factors.”
Both Strong and Foster cited the Central Airport and the Southwest Valley as the hot submarkets for industrial products. Goodyear will see a lot of new, large-scale industrial activity, as will the Loop 303 and the new South Mountain 202 corridor.
“In the Central Airport submarket, look for 25,000-100,000 square foot users being prevalent,” said Foster, “and larger users heading west for more affordable big blocks of space.”.
The potential obstacles for industrial growth in the Valley, according to strong, is the ever-looming, ever-rising cost of materials and labor to get the products built, as well as global trade uncertainty (tariffs and trade wars). Despite those potential hurdles, Strong is confident the industrial sector will continue to flourish in Arizona.
“Consumer confidence is at an 18-year high, a sharp acceleration in industrial production, the ISM Manufacturing Index at a 14 year high, and jobless claims at historic lows make me feel good about the national economy,” Strong said.
Metro Phoenix added 18,300 office sector jobs, year over year, through the third quarter of 2018 and the market is expected to continue to be healthy in 2019, according to Cushman & Wakefield managing director Sean Spellman.
“Job growth is expected to continue, fueled by affordable living and favorable tax environments for businesses,” Spellman said. “This translates directly into office leasing demands. Vacancy rates will continue to decrease in existing office product. There may be small fluctuations due to tenants relocating from existing product to new construction, but generally, the trend line will continue downward.“
One office product that Spellman expects to see rising vacancy rates are the older, unimproved buildings. Those kinds of buildings will likely lose tenants to newer, upgraded products that feature more amenities and higher-quality finishes.
Spellman noted that the main challenges to building new office products in 2019 will be construction costs, which is the key issue across the commercial real estate spectrum and finding places to build new office products.
“There is still demand for infill development (in core areas), but the sites are few and far between,” Spellman said. “Many potential sites have been purchased by multi-family developers. The price of most infill land doesn’t lend itself to office development.”
The hot submarkets heading into 2019 are north Tempe along Tempe Town Lake and the Price Corridor in Chandler. Of the just over 3 million square feet of office product currently under construction, 1 million of that is in North Tempe and 872,954 is in the Price Corridor. The southeast Valley along Loop 202 is expected to continue to be the most active submarket for new office products. Showpiece office products in those submarkets like The Watermark, The Grand Building 2, Rio2100 Building 2, Chandler Viridian and Park Place make up a large chunk of that new square footage coming into the market.
“The southeast Valley boasts strong employment areas that can support numerous more jobs,” Spellman said.
Another office market segment that is expected to enjoy a strong 2019 is the medical office market. The Mayo Clinic expansion in Phoenix will bring on 1.4 million square feet of new medical and medical office space. Also, the area around Mercy Gilbert Medical Center already has two medical office buildings in the early stages of construction, with more sites in the contracting phase. Medical office buildings will fill in around existing medical centers as the demands of the Valley’s growing population increase.