Glass Half Full: 2015 vs. 2007

by Emery Shane


Pricing has made a long run-up since 2009 for reasons you probably already know: low base prices, increased occupancy, rising rents and investors seeking cash flow. In fact, the market is awash in cash for the right assets.


Cap rates are as low as 2007, and even lower for smaller NNN assets and certain credit/core properties. Similar to 2006 – 2007, underwriting has become more “fanciful.” The vacancy rates used in marketing are less than actual or market, management and reserves are below realistic costs, and projections of growth… well, you get the idea.

These bullish tendencies are great for current pricing.  It is a seller’s market. However bullish it is currently, small yet significant changes are occurring. In the real estate capital markets, prices continue to be high and currently stable because supply has decreased – not because demand has increased.  Lower yields on tier-one assets have dropped to below equilibrium status, thus pushing some buyers to accept tier-two assets to obtain yield targets.   This has the effect of assisting price increases and stability in second-tier properties or markets.

Secondly, in the private capital marketplace, prices were being pushed by the significant rise in prices in key markets, such as New York, California, Washington, D.C., and Florida, which has now slowed.  Thus, the quantity of exchange  buyers coming from 3.5% to 5.0% Cap  markets has diminished, though not stopped.

Low Cap rate multi-family sales are still a key driver in the exchange marketplace, but currency devaluations are also a strong driver. Our firm recently closed a publicly traded net lease asset with buyers from Argentina fleeing a  30% to 40% currency devaluation against the dollar.

Another similarity to 2006 and 2007 is that public and private capital market pricing is also now being supported by the quantity of lenders and low rates. Lenders are competing for business, which has driven rates below four percent for shorter maturities. Lenders are offering better terms, which includes higher LTV’s, interest only periods, lower reserves, and using non-market vacancy rates.  Their credit standards, plainly stated, have been lowered.

The glass half full viewpoint, or offset from 2007, is that rents “overall” are not as supercharged as they were in 2007, except for outparcels; baby boomers are hungry for yields; and tenants are still expanding without an obvious overbuilding boom (except perhaps in Texas).

We are in a strong, but nervous market.

From our viewpoint, there is considerable risk underneath the current façade of strength. What we are now seeing is that some assets are taking longer to sell, with fewer total buyers, and some push-back on underwriting standards.  This indicates to us that the market for larger tier-two assets ($10MM plus-less than 70% Credit), will be very susceptible to market shocks, costs of financing, and changes in the public market perceptions.

Current market conditions offer all the hallmarks of the last phase of the bull market, with both buyer and lenders lowering standards, accepting below market yields, with fanciful underwriting, with nonprofessional buyers dominating the purchasing market, it might be the time to reposition your real estate  portfolio.