Are CAP Rates Heading Back Down?
That is a pretty broad question. I can’t say for sure for every single product type nor do I really care about CAP Rate trends for multi-tenant office/industrial/multi-family/etc. buildings in the midwest/south/east/etc. I can make an intelligent guess and say no, CAP Rates are not heading back down, they are continuing to rise – industry-wide. By this I mean nationally, on average, over all property types, prices may still be falling. Again, I can’t say for sure and I don’t really care either.
In my specific niche I can say that there is heavy downward pressure on CAP Rates right now. Whether or not this pressure will manifest itself as a sustained price rally is yet to be determined. The main source of this pressure is one of simple supply and demand. We get several inquiries from investors and brokers every single day for clean, “shiny penny” single-tenant NNN leased properties. The level of requests (demand) have risen steadily over the last several months to a point where I’m no longer shocked to hear 5% and 6% CAP Rate figures (gasp!) quoted for the best assets. Who woulda thunk it? To be clear, the product type I am referring to here is best of class, single-tenant NNN leased properties – office, industrial, medical or retail. Quality single-tenant net leased (STNL) properties can be found in all of these product types but is most commonly available in the retail sector. The reason for this is simple. A tenant like IBM does not need 600 office locations to reach their customers. Taco Bell does.
Back to CAP Rates. What we are hearing from our small community of investors and brokers is that people are quite simply fed up with sitting on cash on the sidelines waiting for these purported deals of a lifetime. [SIDE NOTE: A client of mine was just sent instructions from an escrow officer for setting up an interest bearing account for their initial deposit. The interest rate offered? 0.35%!!] They are simply not appearing. Banks are letting out distressed assets at a snail’s pace and the assets they do sell get bid up to prices that basically remove any real upside. Not surprising because you have the same supply/demand forces at work in the distressed circles as well.
With development of new properties slowed to a near standstill, it is understandable that a large, liquid supply of money chasing an essentially fixed supply of assets will push prices higher. This is exactly what is happening in my world. Not for every property. Not in every location. This is happening (justifiably) for the best properties in the best locations. Unfortunately for some buyers, they are jumping in head first and pushing prices up on assets that should not be invited to the price increase party. We are seeing this with Jack in the Boxes and 7-Eleven’s (to name just 2 tenants) nationwide – in locations that should not have comparable returns to those of Southern California, SF Bay Area, NYC, etc. Just because someone else is willing to pay a premium price for a property in Timbuktoo does not mean it is a good deal and that you should try to outbid him. It is happening though. Too often, in my opinion. This can lead to one of two outcomes: 1) prices remain strong, everything stabilizes and all is well; or 2) another bubble bursts. I can’t say which one will happen but the undeniable flight of investment dollars from 0% returns in the bank to the safest commercial real estate assets is creating bidding wars for the best assets. At least the investors are not 80% leveraged this time around.
I see the writing on the wall. Back in the heyday (2004-2007) we used to say that every broker seemed to have 5-CAP-itis – list a deal a slap a 5% CAP on it. I’m not quite sure if the same strain of this virus is going around again, maybe a variant though – 6-CAP-itis. Buyer beware.
havent you heard? stnl deals are like bonds. they trade all the time. where they are doesnt matter, just the name on the building. those were the good days, eh? haha.
the best of class, best of location assets are seeing solid improvement across the board. but there are only so many of those deals out there and only a few people can afford them. what amazes me is some of the asian craziness i see closing ed hanleys deals. nothing against him, i think hes very good at his job, but what are this buyers thinking? damn asian money.
moving on, i agree completely on the distressed asset issue. we have tried to bid on some strip retail in scottsdale and so cal (outlying markets) that were not bad deals, but had loans about double what they were worth. so we bid on the NPLs thinking we might be able to get some cash flow on a re-worked loan or we could foreclose and operate. turns out our bids were terribly low (not really, they represented 7% caps after our cash purchase and capital required to stabilize the deal). completely amazed me to see our bids get wiped out in the first couple hours. banks are doing a good job of throttling the available deals. i hope that opens up so we can get some deals without bidding against a mass of morons trying to beat the next guy out.
re: cap rates going up
Is this true for the inland-empire/corona market ? Solid retail investment properties in that market have been only 70% leased for years (since early 07). On a related note.. how accurate are the assessments for CRE @ the riverside county clerk recorder (http://pic.asrclkrec.com/). The assessed values appear to be ~30% below the 05-06 peaks.