The global pandemic had a lasting influence on the economy in the form of heightened inflation. In response to this inflationary environment, the Federal Reserve started hiking interest rates in 2022 to force demand and prices down. These rate hikes, among other factors, contributed to a rebalancing of supply and demand in the industrial real estate sector.

Inflation and Industrial Real Estate

Prior to 2022, excitement to feed market demand led to record construction. Vacancy rates for industrial properties hit record lows as businesses sought bigger and better facilities to accommodate higher consumer demand or more advanced manufacturing techniques.

However, as interest rates climbed, those new developments became cost-prohibitive. Then, as a wave of new warehouses and factories hit the market, vacancy rates started climbing. These factors combined to slow the industrial building boom, and the sector began to rebalance itself after two years of elevated and unprecedented demand. Key metrics like vacancy and absorption rates began to trend back toward pre-pandemic levels.

The national vacancy rate for industrial eventually leveled out just under 7% in 2024 as interest rates kept climbing. Higher lending costs added more risk to speculative building projects, and investors, developers, and property owners put new facilities on hold as they waited for both vacancy and interest rates to fall.

What Fed Rate Cuts Mean For Industrial in 2025

By Fall 2024, inflation finally demonstrated enough of a downward trend for the Federal Reserve to cut interest rates by half a percentage point. The agency has also demonstrated a willingness to cut rates further in the coming months as long as the economy remains strong.

The industrial real estate sector’s response to the rate cuts has been positive overall. Initial rate cuts have spurred confidence in commercial real estate as a whole, and industrial stakeholders have demonstrated a willingness to deploy capital once again. This confidence will only climb as rate cuts make it cheaper to borrow and build.

Though rate cuts will have little impact for the rest of 2024, 2025 should be a strong year for industrial real estate as long as inflation stays under control. Even now, tenants have demonstrated a desire to add space.  Some of the benefits of rate cuts next year may include:

• Construction costs. While hard costs are unlikely to decrease, lower interest costs may result in the building pipeline beginning to fill up again as developers seek to capitalize on the growing demand for data centers and advanced manufacturing facilities.
• Slower rent growth. Rent growth has grown at a rapid pace until very recently. Rent increases should also stabilize as inflation falls, creating a more favorable leasing environment for tenants.
• Investment opportunities. Lower inflation means that REITs and other investors will pour more capital into the industrial real estate sector, especially given how well industrial weathered the pandemic and the inflationary environment overall.
• Supply chain benefits. Logistics operators, reshoring manufacturers, and data centers—which all need increasingly advanced facilities—should have more luck finding suitable locations.

Of course, there are risks that industry stakeholders should watch for in 2025 as well. For example, if the construction pipeline heats up too fast, vacancy rates could begin to climb again before they’ve had a chance to fall in any significant way. Also, inflation isn’t guaranteed to trend downward long-term, and the Federal Reserve has made it clear that they don’t have any sort of long-term plan and will simply react to inflationary trends as they happen. That means rate hikes won’t be far behind if inflation goes up.

Still, as things currently stand, the long-term outlook for industrial real estate in 2025 and beyond remains bullish. The issues that plagued the sector in 2024, such as overcapacity and economic volatility, will hopefully be only a bad memory as the industry moves into a stronger environment.

About Phoenix Investors

Founded by Frank P. Crivello in 1994, Phoenix Investors and its affiliates (collectively “Phoenix”) are a leader in the acquisition, development, renovation, and repositioning of industrial facilities throughout the United States. Utilizing a disciplined investment approach and successful partnerships with institutional capital sources, corporations and public stakeholders, Phoenix has developed a proven track record of generating superior risk adjusted returns, while providing cost-efficient lease rates for its growing portfolio of national tenants. Its efforts inspire and drive the transformation and reinvigoration of the economic engines in the communities it serves. Phoenix continues to be defined by thoughtful relationships, sophisticated investment tools, cost efficient solutions, and a reputation for success.