Single-Tenant Net Lease Cap Rates Back to ‘Familiar Place’

Recent interest rate increases had little effect on single-tenant property cap rates, said NNNet Advisors, San Francisco.

“Median and average cap rates for [single-tenant net lease] sold properties in the first quarter dropped back down to the historically low levels that we saw one year ago,” NNNet Advisors’ Net Lease Property Report said.

The median cap rate fell 5 basis points during the quarter to 6.08 percent, the report said. The average cap rate fell 13 basis points to 6.27 percent.

But NNNet predicted interest rates will continue their upward trend and said cap rates will eventually do the same. “While interest rate increases have a direct impact on the cost of borrowing, they are also a reflection of what many see as a strengthening economy,” the report said. “This balance weighs heavy on investor sentiment. While there exists a general feeling that things are looking better for the economy as a whole, the increasing cost of capital is a real factor when underwriting new acquisitions.” 

NNNet Advisors noted for investors using debt, cap rate levels needed to create positive leverage have increased. “These buyers continue to underwrite transactions using real-time costs of debt and an exit plan that includes both price and timing,” the report said. “In order to make acquisitions that pencil out, this buyer generally needs to purchase a property in the 6-plus cap range and have enough term on the lease remaining to interest lenders.” 

The report noted a number of 1031 exchange and cash buyers in the market at the moment. “These buyers have likely relinquished a property at a low cap rate, are motivated by the carryover of a large gain, are less likely to require a large amount of new debt and are more likely to make a decision based on their near term situation,” NNNet said, noting that these buyers continue to drive low cap rates in the sub-$5 million property range.

NNNet acknowledged buyers will likely not hit as many “home runs” in this cycle of the market as they have in recent years. “Accepting the reality of the current and future cost of debt and future cap rate levels keeps these buyers disciplined to only act on opportunities that make sense both now and in the future,” the report said.