CRE investors more confident in early 2021, but pricing for some asset classes still lags
Commercial real estate property valuations have been touch-and-go since the Covid-19 pandemic, but there were signs of recovery in the first half of 2021.
A recent capitalization-rate survey by CBRE Group Inc. found, unsurprisingly, cap-rate compression among industrial real estate, one of the hottest asset classes pre-pandemic and since. Cap rates, a commonly used valuation measure in commercial real estate, are determined by dividing a property’s net operating income by current market value. Cap rates compress when a property’s value increases without changes to its NOI.
The multifamily sector, especially in suburban parts of metro areas, is also seeing widespread cap-rate compression, CBRE found.
Darin Mellott, Americas director of research at CBRE, said most investors reported feeling recovery for several product types was starting to take place late last year, and the survey’s results confirm those anecdotes.
“For as severe as the disruption was, the recovery was very quick, robust and broad,” Mellott continued.
Cap rates for industrial real estate decreased by an average of 79 basis points nationally, while multifamily cap-rate compression averaged 31 basis points in infill markets and 41 basis points in suburban markets.
Investors surveyed by CBRE reported feeling office, retail and hotel cap rates would remain flat for the rest of 2021. When investors were asked about pricing levels in their home markets, 59% reported seeing a large discount — 30% or more — for shopping malls since the pandemic.
Grocery-anchored centers, however, are generally faring better within the retail sector today than they were in 2020, said John Kevill, president of U.S. capital markets at Avison Young USA Inc.
He said hotels remain tough to figure out, adding destination-type properties are doing well and underwriting is aggressive for those types of assets.
Leisure markets like Las Vegas; Fort Lauderdale; Florida; and West Palm Beach, Florida; saw hotel cap-rate compression in H1, according to CBRE. But 13 markets among the ones examined by the real estate firm saw cap-rate increases compared to early 2019. Many of those are gateway or business travel-oriented cities, like Chicago, New York and Washington, D.C.
Office remains a mixed bag for investment since the pandemic has upended expectations around remote versus in-office work.
“(Office) trades have tended to be event-driven, where there’s a loan maturity or an asset plan that’s been completed or a fund life issue for the ownership,” Kevill said.
CBRE’s survey found varying results based on central business district versus suburban office space, as well as by metro area.
For example, cap rates for stabilized CBD office assets in the first half of 2021 increased in three California metro areas — San Francisco, Orange County and Sacramento — compared to H1 2019. They also increased in Jacksonville, Florida; Nashville, Tennessee; Detroit; and Philadelphia, for the same product type and time period.
Ten metros in CBRE’s survey saw cap-rate increases for suburban office properties: Denver; Oakland, California; Houston; Nashville; Miami; Cleveland; Columbus, Ohio; Detroit; Minneapolis/St. Paul; and Philadelphia. Again, that was between H1 2019 and H1 2021.
“They’re really looking at the competing assets for that tenant base … can you justify a little bit of a better story for this asset than others in the market?” he continued. Office velocity will likely come back when companies are back in the office and there’s proof-of-concept of the new hybrid work model, Kevill added.
Mellott said, broadly speaking, the continued economic recovery will translate into stronger commercial real estate fundamentals, which will translate into stronger values. He said he didn’t think the Covid-19 Delta variant, which has led to a surge in case counts and hospitalizations across the U.S., would present an unsurmountable problem for commercial real estate.
Rather, Mellott said, it could prolong uncertainty and recovery timing for certain asset classes, such as office.
Both Mellott and Kevill said alternative asset classes — think data centers, senior housing, cold storage — are also becoming more popular with investors. CBRE’s survey did not include cap rates for those property types but, Mellott said, there’s elevated interest for those more niche sectors.
Kevill said, for both more mainstream and niche asset classes, the widespread availability of data and information is compelling more investors to enter commercial real estate. That’s led to a lot more private capital sources in the market today.
“As we look at deals and bring things to market, we’ve found buyers in today’s market can really come from anywhere,” he continued. “We never cease to be surprised as to who is showing up, how they’re capitalizing it and how they’re pricing it.”