Key Points:

• The industrial real estate market is stabilizing after a period of rapid growth, with supply outpacing demand, leading to higher vacancy rates and more tenant-friendly conditions through 2025.
  
  
• Construction of new industrial space has slowed significantly, which will allow demand to gradually catch up and prevent prolonged oversupply.
  
  
• During this period of oversupply, tenants will have a window of opportunity to gain negotiating leverage in leasing discussions. Similarly, owners may be able to acquire properties at a discounted rate from developers eager to manage the risk of price declines.
  
  
• Long-term fundamentals, like eCommerce and supply chain modernization, remain strong, positioning the sector for a rebound as vacancies fall and cap rates decline.

Over the past five years, pandemic-driven forces significantly disrupted the industrial commercial real estate (CRE) market. However, the market now appears to be rebalancing. Even before the pandemic, demand for industrial space was strong, but COVID-19 restrictions accelerated the use of eCommerce, pushing the need for industrial space to new heights. Developers seized the opportunity to meet the increased need for space and, with the help of low interest rates, delivered an unprecedented wave of new industrial space to the market. 

The industrial sector is now settling into a new equilibrium. Leasing demand and supply are aligning and, as a result, industrial capitalization (“cap”) rates are stabilizing around 6.4 percent, up 1.2 percent since mid-2022. This stabilization in cap rates¹ indicates that the industrial purchase market is also finding its balance alongside the leasing market. 

“The current softness in industrial demand is likely a short- to mid-term phenomenon. As new supply wanes and core drivers persist, the industrial sector will be poised for recovery, rather than a collapse.“

Industrial’s Goldilocks Moment

In recent years, deliveries of new industrial space have far outpaced leasing demand. Since the third quarter of 2022, more industrial space has been delivered each quarter than was leased². This drove the national vacancy rate up from a historic low of 3.8 percent in mid-2022 to 7.4 percent by the second quarter of 2025. However, while vacancy has nearly doubled, construction starts have slowed considerably, hinting at a future tightening of supply. 

First American’s Industrial Potential Cap Rate (PCR) model indicates that industrial vacancy (a measure of leasing demand) and industrial construction starts (a gauge of future supply) significantly influence industrial cap rates. With fewer projects starting, oversupplied conditions will ease, as demand catches up – especially since many long-term drivers for industrial space remain in place. 

As is almost always true in CRE, demand to lease space drives demand to own it. Since a cap rate reflects the market’s pricing of an income stream generated by a commercial property, stabilizing vacancy rates will be a sign that industrial cap rates are poised to decline.

If You Build it, They Will Come…Eventually

While vacancy rates may be rising, the construction pipeline is shrinking. After peaking at an all-time high of 180 million square feet in the third quarter of 2022, new construction starts of industrial space has since fallen to 55 million in the second quarter of 2025. In other words, despite the increase in vacancy rates, the outlook for future industrial space is shifting as construction starts decline. 

Looking ahead, the reduction in future supply will give demand a chance to catch up, though that process will take time. This process will take longer if leasing demand is seriously curtailed by falling consumer demand in the event of a recession. Ultimately, long-term drivers, like eCommerce, nearshoring, and  modernizing supply chains, will continue to underpin industrial real estate demand, setting the stage for a gradual rebalancing as the market adjusts to this new normal. 

Where’s Peak Vacancy?

As the industrial market rebalances, the key question is how much further vacancy rates will increase. The national industrial vacancy rate is currently 7.4 percent, with approximately 300 million square feet of industrial space under construction. Recently, around 60 percent of new industrial deliveries have been delivered vacant. If that pace continues, and two thirds of outstanding construction comes to market empty, then the national industrial vacancy rate would increase to about 8.3 percent. 

Though that would represent a meaningful increase in vacancy compared to the mid-2022 low, it would not be unprecedented. The last time industrial vacancy rates were around 8.3 percent was mid-2013, and the industrial market was robust enough to achieve low, but positive, single-digit rent growth. In short, though vacancy rates may continue to rise, the increase is likely to be limited.

Pendulum Economics: The Market Will Rebalance

Commercial real estate is cyclical. Barring major shocks, the pendulum typically swings and reverts to the mean. Currently, that pendulum has swung back from a red-hot market with limited space available to a market where supply is outpacing demand. By the end of 2025, industrial tenants will have more options and will find themselves in a more tenant-friendly environment. Meanwhile, investors may be able to purchase industrial properties at a discount, especially from developers eager to manage the risk of price declines. In this case, however, asset selection will be critical as it will be competing in the medium term with elevated supply.

The current softness in industrial demand is likely a short- to mid-term phenomenon. As new supply wanes and core drivers persist, the industrial sector will be poised for recovery, rather than a collapse. When demand does eventually catch up to supply, and vacancies begin to level off, industrial cap rates are expected to decline. While the sector’s long-term outlook remains solid, significant movement in industrial cap rates is unlikely through the rest of 2025.  

Second Quarter 2025 Industrial Potential Cap Rate Model

• The industrial PCR was 6.2 percent, a decrease of 0.1 percentage points as compared with the first quarter of 2025.
  
  
• The industrial PCR decreased by 0.6 percentage points as compared with one year ago.

Industrial Cap Rate Outlook Gap

The gap between the actual industrial cap rate and the industrial PCR provides insight into the likelihood of shifts in the actual cap rate. If the industrial PCR is below the actual industrial cap rate, it indicates that fundamentals supported lower cap rates than were observed. If the industrial PCR is above the actual industrial cap rate, it indicates that fundamentals supported higher cap rates than were observed.

• In the second quarter of 2025, the actual national industrial cap rate of 6.4 percent was 0.2 percentage points higher than the industrial PCR, indicating that market fundamentals supported lower cap rates than were observed.
  
  
• The gap between the industrial PCR and the actual industrial cap rate increased slightly in the second quarter as compared with the first quarter of 2025, from 0.1 percentage points to 0.2 percentage points.

^{[1] A cap rate is one measure of return on investment provided by a building and is equal to the net operating income (“NOI”) generated by the building divided by the price of the building. For example, a multifamily property purchased for $100,000 that generates income of $10,000 a year has a cap rate of 10 percent. Higher cap rates represent higher rates of return, and vice versa.}

^{[2] Using net absorption as a measure of net change in leased space. Net absorption is equal to the quantity of space leased minus the quantity of space vacated in a given period and, therefore, represents the total change in leased space.}