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Cap Rates Draw Eyes Past Interest Rate Increases
U.S. cap rates were flat-to-down in the third quarter of 2018, despite eight Federal Reserve interest rate increases since the end of 2015. Research by Real Capital Analytics (RCA) shows office cap rates hit 6.7% in Q3 2018, up 10 basis points from Q3 2017, a trend that is largely flat given the mix of what sells each period.
Across the property sectors, cap rates for hotel, apartment and industrial properties were down from a year earlier, though RCA’s CRE economist Jim Costello notes only on the order of 10 to 20 basis points. For the industrial sector, the trend through 2018 has been flat, largely because the bulk of the decline occurred in late 2017.
The only property sector that RCA says has exhibited a measurable increase in cap rates is the retail sector. Cap rates for retail properties averaged 6.5% in Q3 2018, though they were closer to the 6.4% range in 2016.
So why have cap rates remained stable this year, despite the increases in the target range of the fed funds rate? Costello says it’s because changes in the long end of the yield curve matter more for real estate pricing. Cap rates have been mostly stable this year, in line with the stability of the 10-year UST. Since February the 10-year UST moved in the 2.8% to 3.1% range. With that stability, cap rates were stable, while deal volume was growing slightly.
Costello says, “With a higher interest rate environment, buyers may return to a sense of caution and desire price adjustments before jumping into new investments. Owners of properties will be hesitant to accept higher cap rates when they look back at comparable properties that have sold over the last few quarters. In combination, buyers and sellers may move further apart on price expectations.”
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