Industrial Most Stable Asset Class Due to Strong 2017 Rent Growth Expectations
San Diego CA— Capitalization rates on U.S. commercial real estate showed slight expansion, but were largely stable in the second half of last year, as ongoing investment demand, especially from foreign buyers, limited price softening from the rise in interest rates and cyclical factors, according to the latest research from global property advisor CBRE Group, Inc.
The CBRE North America Cap Rate Survey provides insights on movements for the major property asset classes. Cap rates in the second half of 2016 either largely stayed the same or increased
slightly compared to the first half of the year. The industrial sector remained the most stable sector, benefiting from market expectations that it will have stronger rent growth than other asset
classes in 2017.
- In the office segment, Los Angeles is one of only two markets expected to show broad cap rate decreases across all segments in the first half of this year. While this is true for CBD assets across the U.S., Los Angeles stands out in that its suburban office segment is the only also expecting a broad cap rate compression. Investment in office assets has been driving overall investment activity in Southern California, with an especially strong appetite from foreign buyers interested in snapping up trophy assets in leading markets. This is now spreading from only the highest-visible assets in downtown to more suburban locations in Los Angeles, Orange County and San Diego. All three areas had a remarkable 2016 in terms of foreign investment.
- Los Angeles, Orange County, and San Diego are among the U.S. markets with the lowest cap rates at 4.63 percent for Class A retail properties, and all experienced cap rate compression of 13 to 25 basis points. Investors still have a lot of faith in the high demand within coastal communities to outperform secondary markets in all economic climates. This demand is driven by locals as well as the continuing strong visitor influx.
- Among stabilized Class A infill multifamily assets, Los Angeles and San Diego were among the markets with the lowest cap rates at 4 percent. California leads the country with the lowest suburban cap rates for multifamily. A shortage of multifamily housing, a growing economy, and a large renter population are all contributing to strong multifamily supply/demand fundamentals. These strong economic and demographic factors are fueling investor sentiment, which has driven cap rates to record lows.
- The markets with the lowest cap rates for CBD full-service hotel properties were Washington, D.C. (6.00%), Seattle (6.25%), New York (6.25%), Boston (6.50%), Los Angeles, Orange County and San Diego (all at 6.75%). Los Angeles, Orange County and San Diego had a remarkable 2016 in terms of foreign investment, with high levels of foreign capital also allocated towards hotel assets, contributing to the low cap rates. Similar to other sectors, confidence in the continued attractiveness of coastal markets to locals and foreign visitors alike and the appreciation of property values continue to buoy demand in this category.
“The second half of 2016 was noteworthy for the election of Donald Trump and a Republican controlled congress, as well as a rising interest rate environment. Late cycle factors combined with rising interest rates put pressure on pricing towards the end of the year; however, strong capital flows, especially from foreign investors, meant that cap rate expansion was only modest,” said Spencer Levy, Americas Head of Research, CBRE.
“Despite concerns about capital flow controls in China, inbound real estate investment from that country in the last two months of the year was very strong. For the first time since 2007, China
was the largest foreign investor in U.S. real estate, accounting for approximately one-quarter of total cross-border investment,” Mr. Levy added.
Among the major commercial real estate sectors:
Robust fundamentals, along with record-setting metrics for net absorption and rental rate growth contributed to the industrial sector remaining as the most stable asset class. Tenant demand
exceeded new supply last year and that trend is expected to continue in the coming years. A large majority of markets expect industrial cap rates to remain unchanged in H1 2017 for both stabilized and value-add properties.
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