Phoenix Ranks as the Second-Largest Data Center Market in the U.S.

Metro Phoenix prevails as the second-largest data center market in the nation, according to JLL’s new H2 2023 North American Data Center Report. Bolstered by its availability and affordability of power, and its available land for new development, the market during the second half of 2023 completed leases for 748MW of new data center capacity and has 2.8 million square feet (703MW) of capacity under construction. This ranks second only to national data center leader Northern Virginia, with 1.6GW of transactions completed during the same time period and more than 13 million square feet (1,339MW) under construction.

As with other primary U.S. data center markets, most of the net leasing in metro Phoenix is occurring in under-construction or planned product, rather than existing inventory. Across the nation, JLL expects this pre-leasing trend will continue to accelerate as construction and power delivery timelines are not likely to slow over the next 12 months. 

“The availability of power and land remain primary factors in data center market success, and Phoenix fares extremely well in both of these categories,” said Mark Bauer, Senior Managing Director and Data Center Solutions Group Co-Leader, JLL. “That has kept local demand on a steady uptick, creating exponential absorption and positioning Phoenix top-of-mind for a wide spectrum of users as they continue to search for capacity.”

According to Bauer, this requires users and operators eyeing metro Phoenix to plan ahead, thinking about their needs for the next several years and pursuing opportunities to satisfy those requirements based on current and planned new development.

The metro Phoenix data center inventory currently totals just over 6.9 million square feet (740.2MW). At present, only 156,556 square feet (24.5MW) of that is vacant. More than 2.8 million square feet (703MW) is under construction and another 2.7 million square feet (634MW) is planned.

Due to strong demand, data center rental rates nationally have risen 5% for small requirements under 250 kw and 11% for large requirements of 5MW plus from H1 2023 to H2 2023. Prices rose highest in markets with rapidly diminishing availability. Phoenix, as an example, saw rates rise 17% to 30%, depending on capacity tranche.

Cost of power in metro Phoenix also rose by 17.3% last year, reflecting an increase from 6.5 per kilowatt hour to 7.5 cents per kilowatt hour. This keeps Phoenix still highly competitive among leading and emerging markets. It is significantly lower than California, where average rates exceed 14.0 cents per kilowatt hour, and Northern Virginia, where power rates jumped 34% between 2022 and 2023.

“Rents and power rates are a primary part of the all-in costs for users, making Phoenix’s cost competitiveness a major operational advantage,” said Bauer. “They also drive the market’s attractiveness among developers, ensuring our pipeline of space and capacity will continue to expand. This is critical as AI evolves, pushing our requirements larger and larger.”

According to the JLL report, AI and Large Language Models (LLM) like ChatGPT require tremendous amounts of power, and its popularity is soaring. ChatGPT had just over 100 million monthly users in January 2023. By November, it had over 100 million active users weekly. Additionally, training of ChatGPT-3 consumed over 1,287 MWh of power. With hundreds of millions of daily queries, ChatGPT uses about as much power as 33,000 households.

Cloud and hyperscale users are also driving demand. As these users dominate in the larger markets, smaller enterprise users are pressed to find colocation space and power to meet their needs. Some enterprise users are evaluating the shift from enterprise to cloud due to rising costs, latency and information security concerns and are moving toward a “distributed cloud” environment or outsourcing enterprise data center operations. Additionally, proximity to interconnection points is driving site selection for data center demand, but these edge deployments tend to be smaller. 

From a capital markets perspective, data centers are seeing increasing investor allocations, with the sector enjoying a 9% CAGR in transactions since 2013 – the highest of any sector other than life sciences.

“The size of data center user requirements continues to increase at a rapid rate, which has condensed data center development timeframes and increased the need for capital,” said Carl Beardsley, Senior Managing Director, Data Center Leader, Capital Markets, JLL. “Previously, a data center operator could ramp into a multi-billion-dollar development over a five-to seven-year period. The pre-leasing dynamic has caused private equity firms to deploy capital at a faster rate, which opens an opportunity up for more entrants in the capital stack.”

Companies with backing from these funds are expanding rapidly but often don’t have the framework for the talent and processes to run these data centers. These companies are turning to facilities and property management experts with a deep bench of engineers trained for critical environments. Data centers are a unique asset class, requiring specific skills to operate at their best, and, with labor shortages for trained engineers, investors seeking to capitalize on this opportunity will need to partner with seasoned operators.

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2024 PHX MARCH MARKET REPORT

For Buyers:

“That is one good thing about this world… there are always sure to be more Springs.” ~Lucy Maude Montgomery

Spring is peak home buying season in Greater Phoenix. March is the 2nd most popular month for new listings historically (the most popular is January), and the beginning of a 4-month long closing season that lasts until June.  Supply is up 14% over last year, still 31% below normal, but 16,886 active listings feels like an avalanche compared to 2 years ago when there were only 4,400 to choose from.

Higher mortgage rates continue to keep buyer competition lower than normal, but even mild declines in the rate have resulted in a boost in weekly accepted contracts. Closings over asking price have edged up seasonally to 17% of March sales so far, but the majority of sales are negotiated down by an average of 2.1% below list.
 
Builders have been ramping up new single family home permits over the past 7 months, up 32% since June 2023.  Over the last 3 months, 73% of new home sales closed have involved builder incentives paid to the buyer, with at least 50% paying $11,500 or more. These incentives typically go towards buying down the mortgage rate and saving the buyer $100’s on their monthly payments.

Those who have been keeping these updates over the past year have probably noticed that the median sales price has barely moved for 10 months. Starting at $440,000 from June-July 2023, stagnating at $435,000 from September-December, dropping to $430,000 from January-February 2024, and now back up to $441,000 in March. While the current appreciation rate from last March measures +5.8%, over the next 2 months this will start to move closer to 3%, which is in line with the rate of inflation.

This 10-month stagnation in price, which has endured erratic mortgage rates ranging from 7-8%, has allowed some breathing room for annual incomes to catch up to prices. While low affordability rates are leading negative headlines this month, they are largely based on 2021 median family income from the U.S. Census, which doesn’t reflect the influx of higher paying jobs, inbound migration fueled by the “work from home movement”, and private sector income growth experienced in Greater Phoenix in 2022 and 2023. Updated income reports combined with an expected mild decline in rates this year provide a reasonable expectation that affordability is set to improve. In short, don’t listen to affordability reports that say the majority of homes are not affordable to the masses. You only need to find the one home that’s affordable to you. Don’t give up.

For Sellers:

Spring is statistically the best time to be a seller in Greater Phoenix as buyer activity closes in on its seasonal peak from April through May before slowing down from June through December. This season some areas and price points have been heating up more than others compared to last year, but heat is not all about demand because it’s difficult to increase sales without supply for sale.

For example, areas with the highest percentage increase in contracts over the past 2 months happen to be on the edges of the Valley, such as Black Canyon City, Carefree/Cave Creek, Rio Verde, Sun Lakes, Wittmann, El Mirage, and Avondale. However, with the exception of Avondale, none of these areas feel particularly hot to active sellers because there’s more competing inventory to accommodate the increase in demand.

When supply is taken into account, the hottest areas of Greater Phoenix where supply isn’t quite sufficient for Spring demand gravitate to the south. Namely Avondale, Tolleson, South Phoenix, Ahwatukee, Chandler, Gilbert, and San Tan Valley. While median prices in these areas are still flat, reasonably priced sellers are selling 1- 2 weeks faster than the current 4-week median time frame.
 

 Commentary written by Tina Tamboer, Senior Housing Analyst with The Cromford Report
©2024 Cromford Associates LLC and Tamboer Consulting LLC