Are Cap Rates Closing In On Peak Levels?

Cap rates are nearing their peak levels, foreshadowing the approach of more stable conditions in the commercial real estate sector, despite ongoing challenges posed by tight lending standards and potential market distress. This is the main conclusion CBRE draws from the results of the company’s latest cap rate survey.

The report notes that volatility marked bond markets in the second half of 2023, with 10-year yields nearing 5.0 percent in October, only to drop below 4.0 percent toward the end of the year. This fluctuation in bond yields threw a wrench in deal flow, ultimately generating an increase in cap rates when compared to the first six months of 2023.

Among the report’s other key findings:

• The average cap rate increased from 6.4 percent to 7.0 percent. Further, this expansion took place across multiple property types.
• Class C office properties in central business districts saw the largest cap rate increase, an average rise of more than 100 basis points. In contrast, suburban cap rate expansion was generally less than 50 basis points.
• Cap rates for neighborhood retail properties showed the highest stability among all property types.
• Multifamily cap rates have been rising more rapidly in cities such as Charlotte, N.C., and Orlando, Fla., where market conditions are weakening.

Aggregated across all product types, the most common survey responses regarding cap rate movement over the next six months was “no change.” There has been a substantial shift in expectations from a year ago, when roughly 15 percent to 20-plus percent more survey respondents predicted cap rate increases across all five major CRE asset categories.

The Fed’s latest decision of keeping the federal funds rate at its current target range of 5.25 to 5.5 percent has brought some degree of optimism among capital markets. Though cuts might not be around the corner, investors expect the Fed’s monetary policy to loosen later this year.

Two-part methodology

CBRE’s survey examined investment sentiment on both market conditions and capitalization rates for stabilized properties. More than 250 CBRE personnel completed the survey in mid-November through December 2023.

In addition, the survey accessed 3,600 cap rate estimates across more than 50 geographic markets served by CBRE. However, the document notes that the estimates do not reflect the most recent events or the latest market conditions due to the rapidly changing investment landscape.