CORFAC News

By Mason Capitani, SIOR, Principal, L. Mason Capitani/CORFAC International

Rising interest rates should have a profound effect on commercial real estate sale values, but with a substantial amount of capital staying on the sidelines, it's early to know when and how far values will come down. As we are in the early stages of a rising interest rate environment, brokers and real estate advisors are in a position where they must guide would-be buyers and sellers when establishing commercial property values. Similar dynamics are playing out across the country, according to the independent member firms in CORFAC International.

My colleague Geoffrey West, senior vice president, MDL Group/CORFAC International in Las Vegas, researched required investor cash-on-cash return premiums to project future cap rates amid this historic pace of interest rate increases. Based on these figures, he notes that values should come down to 70-75% of peak value. We’re not yet seeing movement on the sellers’ side as the market is somewhat stagnant with increasing inventories, and buyers continue to wait to get better pricing and returns. Meanwhile, the inventory lagging on the market continues to put upward pressure on cap rates. 

“No one wants to catch a falling knife,” said West. “We’re trying to advise clients on where the bottom is, as motivated sellers may want to get in front of the market rather than chasing it.” On the buyers’ side, his advice for now would be to wait for opportunities in the market especially if the desire to purchase is not based on a specific need for the asset or a specific need to place capital. “We’re still early in the cycle for opportunistic purchases.”

Scott Hensley, CCM, SIOR, principal, Piedmont Properties/CORFAC International in Charlotte, also believes it’s too soon to know what the full impact of interest rate increases will be. He says it will affect purchase types differently. 

“Owner-occupied property valuations are likely to be affected less than investment properties. We have a client who has been negotiating on an industrial building to relocate his company. From the time we first toured the building to the date it was under contract, his interest rate increased more than 1.5%, which will equate to an annual cost of $73,800. While painful for our client, the need to accommodate his growing company outweighed the increased annual cost.”

For investment properties, buyers have a different attitude. “With interest rates on debt at 6% to 7%, the amount of equity required to make 5% cap rate deal pencil out is significant. Less than 12 months ago, investors could secure debt at 3% to 3.5%. We are starting to see some reduced price offerings which is a sign the demand has softened,” Hensley said.

While offering blanket advice is difficult, Edward Backer, SIOR, senior vice president, Intelica CRE/CORFAC International in St. Louis, provided these insights, “If you’re a well-capitalized buyer there’s certainly a great opportunity to take advantage of lower-priced assets where you can push returns. Alternatively, if you’re an owner and considering selling you have to evaluate your buyer pool and pricing expectations. For those that can be patient and wait for market equilibrium, it’s probably wise to do so.”

We may be in a holding pattern, but when buyers or sellers become motivated by necessity or opportunity, the key to moving when the price and time is right is working with a knowledgeable advisor who has been continually tracking these movements in your market. 
 

This article was originally published in Wealth Management Real Estate's 2023 Market Outlook.