Boston Cap Rates Show Continued Appreciation in City and Inner Suburban Areas

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Doug Jacoby

Boston — Strong economic growth, abundant capital, and a favorable supply and demand environment led to broadly stable capitalization rates for U.S. commercial real estate assets in the second half of 2018, according to the latest research from global property advisor CBRE.

The CBRE North America Cap Rate Survey provides insights on movements for the major property asset classes. Cap rates remained generally unchanged across the sectors in H2 2018. Industrial cap rates tightened marginally across all segments, while office, multifamily and hotel cap rates were generally stable. Continued cap rate stability is expected in H1 2019, with multifamily and retail sectors experiencing the most mixed sentiment.

“Investment activity remains robust, driven by a strong economy, significant amounts of capital, and a sense that supply and demand in real estate markets is very well balanced. The U.S. remains the best performing of the advanced economies, due to job growth and earlier tax cuts. Cap rates were very stable in 2018, and pricing firm. We see this situation continuing in 2019, with a weaker global economy putting downward pressure on the 10-year treasury. Real estate spreads remain very competitive,” said Richard Barkham, Global Chief Economist, CBRE.

In Boston, while cap rates remained broadly stable across the sectors in H2 2018, they revealed a contrasting performance for city/inner suburban areas versus suburban assets.

“The Boston investment world is still a world of haves and have nots. While implied cap rates in the city of Boston and inner suburban areas reflect continued appreciation, suburban cap rates, outside of industrial assets, show expectations of little to no rent growth on a relative basis. As treasury yields have pulled in since mid-2018, cap rates have remained stable. Foreign capital still remains an important component of Boston investment opportunities,” said Douglas Jacoby, Executive Vice President, Capital Markets, CBRE.

Among the major commercial real estate sectors:

  • Office cap rates increased by a greater amount for CBD properties than suburban in H2 2018, especially in Tier I markets. Suburban cap rates were relatively flat across all classes and investment strategies. Cap rates are expected to remain unchanged in approximately three-quarters of CBD markets and two-thirds of suburban markets in H1 2019.

“Liquidity remains ample and will continue to fuel office acquisitions in 2019. For assets deemed to be reasonably priced, bidding pools are wide and deep. Continued strength of property fundamentals, balanced occupier demand and supply, robust capital flows, and accommodative pricing of debt and equity all combined to ward off material expansion in yields. Demand in both gateways and strong growth markets from domestic and global capital will continue throughout the year,” said Chris Ludeman, Global President, Capital Markets, CBRE.

  • Industrial and logistics cap rates declined by 7 bps to 6.34% for acquisitions of stabilized assets in H2 2018. Cap rates for stabilized properties of all classes fell, with Class A industrial properties declining 7 bps to 5.07%, Class B falling 13 bps to 5.98%, and Class C down 2 bps to 8.02%. Expected returns on cost for value-add assets decreased 2 bps overall to 7.45%.

“Strong market fundamentals—tightening vacancy, robust tenant demand and rent growth—are attracting investors both domestic and from all over the world. While cap rates on year one NOI continue to compress, investors are still extremely attracted to the sector given the expectations for increasing returns through rental rate growth over the hold period,” said Jack Fraker, Global Head of Industrial & Logistics, CBRE Capital Markets.

  • Multifamily cap rates and returns on cost remained at historically low levels in H2 2018. Cap rates for infill stabilized assets averaged 5.26% and expected returns on cost for infill value-add acquisitions averaged 6.00%. Suburban stabilized assets priced at 5.56% on average, while expected returns on costs averaged 6.30%. Cap rates and returns on cost edged up slightly from H1 2018.

“Multifamily cap rates were largely stable in H2 2018 and overall market sentiment continues to be positive. Headwinds that were expected to moderate sales last year, such as rising interest rates and additional supply in some markets, had little impact. The sector offers an attractive pricing environment and predictable cash flow. Investors continue to move out the risk curve to find new opportunities and greater yields,” said Brian McAuliffe, President, Capital Markets, CBRE.

  • Hotel cap rates were mostly stable in H2 2018, with increases of only 3 bps or less on average for all CBD and suburban submarkets. The CBD hotel cap rate remained below 8% (7.97%) and was under the long-run average. Suburban cap rates moved up 1 bp to 8.49%. Most market segments and geographic areas had quite modest, single-digit upticks or downticks in cap rates ranging from minus 2 to plus 9 bps.

“Hotel sector fundamentals have offered few, if any, surprises. This combined with continued high liquidity in the debt markets has allowed for relative stability in cap rates. While one might anticipate upward pressure because of late cycle fundamentals and some volatility in the capital markets, the weight of capital focused on the sector has kept cap rates in check,” said Kevin Mallory, Global Head and Senior Managing Director, CBRE Hotels.

  • Retail cap rates for both stabilized and value-add properties increased for all retail segments in H2 2018. Recent store closure announcements have disproportionately affected the power center segment, with the average cap rate increasing by 13 bps to 8.42% in H2 2018. Demand for high-quality assets was strong, with cap rates for Class A product in all three retail sectors the lowest, ranging from 4.83% to 8.42%. Cap rates for both power and neighborhood/community center stabilized properties are expected to remain unchanged or increase slightly in H1 2019.