Rising Rates Causes Investors To Reassess Their Assets
The current investing environment can be calculated by many variables – rising interest rates, inflation, and fear of a recession. Commercial real estate investors are reevaluating their strategies to determine which assets have the best returns. Are multifamily and industrial still viable and safe investments, having proved their resiliency during the pandemic? Is it time to test higher risk, higher yield assets?
The Urban Land Institute’s Real Estate Economic Forecast projects commercial real estate transaction volume to reach $800 billion in 2022, compared to 2021’s deal total of $846 billion. The forecast also expects transactions to reach $725 billion in 2023 and $750 billion in 2024.
According to research by MSCI Real Assets, a global investment research firm, property sales are declining in core sectors. Only apartments, retail, and hotels reported positive transactions in May 2022 compared to May 2021.
A reason multifamily continues to be targeted by investors is that apartment landlords can combat inflation by hiking rents at the end of traditional 12-month leases. Private equity is aggressively buying single-family homes to place in the market as rentals. According to the National Association of Realtors, institutional investments are taking up a significant portion of existing home sales, accounting for 13.2 percent of residential sales in 2021.
Deals that do not make economic sense are being exposed to inflation and rising interest rates. The cost of capital varies by property type and location, yet cap rates continue to compress. However, an analysis by First American Financial Corporation believes cap rates may soon rise again. Noting that cap rates have a historical relationship between interest rates, rental income, strong occupancies, and debt in the economy, the company cited that inflation has remained prevalent due to the pandemic-induced supply chain issues. As a result, sellers will likely reduce prices and push cap rates to entice buyers.