Unrelenting demand for Canada’s storage and distribution warehouses is vaulting that segment of the real estate market into a new echelon, with industrial properties in and around cities such as Toronto and Montreal commanding some of the fastest-rising prices in the world.

The market for warehouse space is so strong that the national vacancy rate has fallen to a record low of 1.6 per cent, according to commercial real estate services and investment firm CBRE Group Inc. Supply is so tight that some landlords have been able to raise rents more than 100 per cent in tenant turnovers and lease renewals.

The returns have attracted some of the world’s most sophisticated real estate players. In June, Prologis Inc. PLD-N, a massive industrial property owner based in San Francisco, bought land in the Greater Toronto Area to develop a new warehouse. The $500-million purchase price amounted to almost $2.5-million per acre, more than double the going rate five years ago.

Yet there are fears this can’t last much longer. Major retailers have cautioned that the e-commerce boom has reached its limit, and this spring Amazon spooked investors by announcing plans to sublease some of its warehouse space. At the same time, interest rates have spiked, making commercial mortgages more expensive, and incessant inflation has sent development costs soaring.

So far, though, industrial properties here have defied fears of a sector-wide cooling, and the markets in four Canadian cities are the tightest in North America. “The party is not over,” said CBRE Canada vice-chair Paul Morassutti. “It might not be quite the rager it was, but it’s definitely not over.”

In mid-August, Summit Industrial Income REIT, which exclusively owns Canadian warehouses, reported quarterly earnings and disclosed that its average rent increase this year when a lease was renewed or in a tenant turnover was 46 per cent.

Summit also reported that the national average rental rate across the sector rose to a record high of $12.25 per square foot. Five years ago, it was less than $7.

Demand for warehouses took off around 2016 as e-commerce gathered steam, then shot up through the pandemic as consumers relied heavily on online shopping. Although e-commerce growth has slowed of late because lockdown restrictions have lifted, online sales are still rising overall, just at a slower rate.

CBRE estimates that for every billion dollars in e-commerce sales in Canada, approximately 1.25 million square feet of warehouse inventory are needed. That means another 90 million square feet of space could be needed in the next five years. Canada currently has 1.9 billion square feet of industrial space.

The need could be even greater if just-in-time inventory systems become more prevalent, with companies increasingly turning to onshore sourcing in order to mitigate the supply chain issues that have plagued them over the past 2½ years.

High transportation costs have also boosted industrial property values, something Mr. Morassutti said is underappreciated. Typically, logistics and transport expenses account for 70 per cent of supply chain outlays, while real estate is only 5 per cent of the burden. That means that for every dollar saved on logistics – by having warehouses closer to the customer, for instance – a company can theoretically pay 14 times more on rent.

This month, Summit disclosed that it recently re-leased a one-storey warehouse in Markham, Ont., northeast of Toronto, after only one month of downtime and increased the monthly rent by 42 per cent. At another property in the GTA, the REIT re-leased the space with no downtime – and a 117-per-cent rent increase.

Summit’s shares, which trade on the Toronto Stock Exchange, have soared 223 per cent, including distributions, over the past five years. Rivals Granite REIT and Dream Industrial REIT, which own a mix of Canadian and international properties, have gained 98 per cent and 86 per cent, respectively. The equivalent return for the S&P/TSX Composite Index is 57 per cent.

Because residential real estate has cooled so quickly in Canada over the past six months, and commercial sectors such as office properties have also struggled, there are fears warehouses will get hit, too. The main concern is that, with the pace of construction at a record high, the market will eventually get flooded with industrial properties.

However, even after all the properties currently under construction are completed, the total amount of square footage available will increase just 2.3 per cent, according to CBRE.

As for fears that Amazon is scaling back in the U.S., which sent a chill through the entire sector, that just hasn’t materialized. “What’s interesting is we’ve been monitoring the market pretty closely to see what Amazon is doing,” Granite REIT chief executive Kevan Gorrie said on a conference call with analysts and investors this month, “and there are so far almost zero, it’s negligible, the number of assets that Amazon is actually looking to sublease.”

Because the industrial market has been so hot, it is widely believed there will be some softening, particularly in other countries. “There are some U.S. markets that don’t have many constraints on land or constraints on development, and those markets are finding rents stabilizing much quicker,” Dream Industrial CEO Brian Pauls told analysts and investors on the company’s quarterly conference call.

“But in the GTA, certainly, and in Montreal, what we’re seeing are rents continuing to grow,” he said.

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