The Real Estate Capital Scoreboard® – September, 2023


Chicago, Illinois, September 1, 2023 – As the summer draws close, a realty capital market stalemate exists with little movement.   Potential sellers enjoying attractive long-term fixed-rate debt avoid seeking new opportunities, while buyers attempt to find repriced “bargain” deals based on mortgage rates that have doubled in the past two years.  These conditions lead to the following funding market conditions when compared to capitalization rates:

Debt Yield Dip Below Cap Rates:  As lenders foreclose on underperforming assets, benchmark underwriting tests reflect dipping into debt yield tests.   Properties sold by lenders demonstrate pricing in the higher-single-digit range or more in line with debt yields.  Highly distressed asset sales reach double-digit figures as extremely high vacancies plague such deals.  Buyers hunt for bargains well above debt yield ranges as costly conversion options emerge, mainly office-to-residential ventures.

New Construction Yields Reflect Wider Spreads on Exit Cap Rates:  Limited new construction focuses on select apartments, speculative industrial assets, and build-to-suit commercial ventures.  Lending sources require substantial equity (typically 35% or more) based on more conservative cost underwriting.  Return-on-cost yields widened to more historical levels, ranging from 100 to 200 basis points higher than the expected exit cap rates.  Lower spreads of 50 to 100 basis points vs. cap rates are rarely witnessed, except for presales backed by extremely strong credit tenants.

Benchmark Treasuries Barely Lower Than Core Cap Rates:   Select “trophy” properties hover at stubbornly high prices, often within 200 basis points of ten-year treasuries.   Institutional investors still value income growth and inflation protection as key yield ingredients for such properties, mainly searching for multifamily assets.

The Real Estate Capital Institute’s® director, Mr. John Oharenko, thinks, “In August, rates hit their highest levels in over two decades.  Market repricing continues to be driven by borrowers forced to refinance at rates about double their original rates.”

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