3Q Single-Tenant Net Lease Cap Rates Decrease

Single-tenant net lease sector cap rates decreased for the first time across all asset classes in the third quarter, reported Boulder Group, Northbrook, Ill.

Cap rates for office properties fell 16 basis points during the quarter to 6.98 percent. Industrial asset cap rates fell 10 basis points to 7.27 percent. Retail property cap rates fell 12 basis points to 6.11 percent, said Boulder Group Vice President John Feeney. “This represented the lowest level in the net lease retail sector since the third quarter of 2016 when cap rates were at a historical low of 6.10 percent,” he said.

The 10-year Treasury yield also reached its lowest level of the year–2.06 percent–during the quarter before ending the quarter at 2.33 percent, Feeney noted.

“Competition for retail assets increased in the third quarter as evidenced by the spread between asking and closed cap rates,” Feeney said, noting this spread decreased 14 basis points during the quarter. “While cap rates compressed among all of the net lease sectors, premium pricing for single-tenant properties is concentrated in top-tier assets with long-term leases, credit tenants and core markets.”

In this compressed cap rate environment, some investors seeking yield are turning to shorter-term leases or tenants with credit concerns if the underlying real estate fundamentals warrant the risk, Feeney noted.

“Private and 1031 [like-kind exchange] buyers will continue to aggressively seek net leased investments as the passive nature of the leases and tax deferral remains appealing,” Feeney said. He noted 1031 exchange and private buyers accounted for nearly 70 percent of single-tenant retail transactions in the third quarter and more than 85 percent of transactions that were priced below a 6 percent cap rate. “This illustrates the premium that private investors are willing to pay when seeking top-tier properties with long-term leases and strong credit tenants,” he said.

Feeney predicted the net lease market will likely remain active throughout the remainder of 2017 as institutional and fund investors look to meet fund allocations by year-end. “Furthermore, the 1031 exchange buyer pool will continue to create competition amongst net lease investors,” he said. “Net lease investors will continue to carefully monitor the capital markets and continue their disciplined acquisitions as most believe in a likelihood of more favorable pricing in the future.”