Distribution space in major metro areas and secondary locations are both in high demand right now. The market for industrial real estate in the United States is hot in many regions across the country right now, presenting opportunities for developers, landlords, and users alike. The sector has still not fully recovered from the recession that began in 2008, meaning that the strong market will likely continue for some time, at least another few quarters. The recently-released Colliers International first quarter 2015 Industrial Market Outlook shows that the vacancy rate in the U.S. fell for the 21st straight quarter to 7.0 percent. Absorption in the quarter was 58.6 million square feet, up 21.4 percent year over year. Nearly 50 million square feet of space were added in the quarter. “In many markets,” noted the report, “a growing supply is needed given the rate of expansion in the economy, pent-up industrial demand, and tightening market conditions.” Given the positive absorption rates and tightening market conditions, rents in many markets are being pushed up. Signifiant rent increases year over year for warehouse space ranging from the 15-percent to the 25-percent range have been reported in markets such as Oakland, Silicon Valley, Denver, Detroit, San Francisco, Miami, Chicago, San Diego, and Cincinnati. Cyclical processes and structural changes in U.S. supply chains have spawned a dynamic interplay in industrial development between primary and secondary markets. For example, Indianapolis has benefited from the development of new regional distribution space to serve the Chicago metropolitan area, three hours away by truck, thanks to lower costs and more favorable business conditions. Officials in Illinois are now responding with efforts to attract some of that business. At the same time, structural supply chain changes, driven by internet commerce but applicable as well to brick-and-mortar retailers and suppliers, have created the need to position inventory closer to customers. This is driving demand for smaller warehousing space in both major and secondary metropolitan areas. “The current environment represents the strongest fundamentals from a landlord perspective in my 30 years doing industrial real estate,” said Jack Rosenberg, national director for logistics and transportation at Colliers International. Demand has been so strong that more developers have been willing to build warehouse space on spec. “Before, we would see mostly build-to-suit activity,” said David Egan, head of industrial research for North and South America at CBRE. “Now we are seeing a 50/50 balance. Developers are more comfortable jumping into the water with spec.” Internet sellers, as well as their more traditional counterparts, are increasingly looking for recent-vintage buildings rather than retrofitting older structures. “They need more ceiling height because of the way they stack product,” Egan said. “Even 2007 buildings don’t have what they need. A lot of the spec building is coming in response to that.” One of the trends driving growth nationally are the lower prevailing capitalization, or cap, rates, the ratio between income and asset value that investors expect. In past years, 10 percent cap rates were an accepted benchmark. These days, cap rates hover around the five percent range in many major U.S. markets. This allows developers to more easily envision their desired profits, spurring them to build, and landlords to charge lower base rents, thereby driving up occupancy rates. “Cap rate is the metric that drives our business and we are experiencing a perfect storm,” said Rosenberg. “There was almost no development in this sector between 2008 and 2013. Buildings were built before they were absorbed, there was no capital available, and underwriting criteria were tight. Now people need space and there is not space available. The supply is just catching up with demand.” Foreign capital has been entering U.S. industrial real estate in a big way in recent times, bidding values up and accounting at least in part for the lower cap rates. “In previous cycles most foreign capital came from Canada,” said Egan. “Now it is coming from all over the globe and it is coming in big chunks.” Late last year, the Government of Singapore bought IndCor Properties from Blackstone Group for $8.1 billion. The strong growth seen in top-tier locations for the last couple of years is now fueling a similar pattern in smaller markets, according to Egan. “We are in the fifth year of a serious expansion in a lot of markets and growth is getting a little tapped out,” he said. “Now we are starting to see growth take place in secondary markets, such as Kansas City and Indianapolis, that are well located on transportation corridors.” Big users, most notably Amazon, have been locating regional distribution centers in Indianapolis to service markets in Chicago and Ohio. “Indianapolis was seen as a lower-cost alternative to Chicago with a more favorable business environment,” said Egan. “Indianapolis did see a bump, but Chicago and Ohio, realizing the situation, started cutting deals with distributors.” At the same time, internet sellers, in particular, increasingly want to be able to make same-day deliveries to customers. This has galvanized a trend toward finding smaller spaces within cities, primary and secondary alike, where those kinds of delivery schemes can be actuated, according to Egan. “There is now increasing demand for light industrial space of 200,000 square feet and below,” he said. “Users need locations closer to their customers which often means in core metro centers. Buildings located in those centers are now right in the bullseye. We are seeing a dramatic and sudden spike in demand for those smaller sites. I see that as the sweet spot for the next year or two.” Of course, the current hot market can’t last forever. It is inevitable that conditions will cool; the only question is when. “It seems like people slow down their decision making during the third and fourth quarters before a presidential election,” said Rosenberg. “New presidents prefer recessions to come in their first year so that voters don’t remember by the time they are up for reelection. I’d have to say I’m a little nervous about the second half of next year.”