Net Lease Retail & Office Cap Rates Reach 10-Year Lows

By Randy Blankstein, President, The Boulder Group: Cap rates for the single-tenant, net-leased retail and office markets reached their lowest levels in the past decade in the fourth quarter of 2013.

 Randy_Blankstein_480x270Cap rates for the single tenant net leased retail and office markets reached their lowest levels in the past decade in the fourth quarter of 2013. However, cap rates for the net leased industrial market increased during the same period. The fourth quarter of 2013 represented the first time in the past decade that cap rates for the net leased retail market were below 7 percent. Net leased office properties experienced the largest cap rate decline of 30 basis points in fourth quarter.

Although interest rates in the fourth quarter remained above early 2013 levels, cap rates have not increased. Investors’ perception was that cap rates would follow the rising interest rate climate; however this correlation did not occur. In the fourth quarter of 2013, cap rates for retail and office properties achieved ten year lows of 6.8 percent and 7.4 percent, respectively. Supply constraints continue to be a primary factor to the current cap rate levels within the net lease market. As many institutions and real estate funds have year-end acquisition targets, the third and fourth quarters typically experience higher transaction volume when compared to the first and second quarter. The increased amount of transactions caused by acquisition goals further contributed to the decrease in supply. Additionally, investors were able to refinance at historically low rates which allowed single tenant property owners to hold rather than sell.

Net leased retail properties continue to be at the forefront of investor demand as evidenced by their premium over the entire net lease market. For example, retail properties were priced at a 55 and 130 basis point premium over office and industrial properties, respectively. The spread between closed and asking cap rates for retail properties increased 12 basis points in the fourth quarter of 2013 when compared to the previous quarter. This was the first time since the first quarter of 2013 that the spread had not declined.

The national single tenant net lease market should remain active in 2014 due to investors’ search for yield combined with a greater institutional acceptance of the net-lease sector. In a recent national survey conducted by The Boulder Group, the majority of active net-lease participants expect cap rates to rise in 2014. The largest segment of net-lease participants expects cap rates to rise more than 25 basis points by the end of 2014. The most cited reason by participants was the expectation that interest rates will increase.