Survey: Despite Pandemic-Based Uncertainty, Investors Exhibit Increased Risk Appetite

CBRE, San Francisco, Seattle, Los Angeles
Courtesy of Lukas Blazek

Meghan Hall

The coronavirus pandemic forced investors to press the pause button in 2020. Experts in the industry acknowledge that the virus has caused “significant” uncertainty in commercial real estate, a trend that is now continuing as the Delta virus takes hold. However, a survey released by CBRE indicates that despite the challenges posed by COVID-19, investors are becoming more willing to re-enter the market.

After more than a year of pandemic, the full picture of its magnitude is difficult to measure. CBRE notes in its analysis that the virus caused “extraordinary” market conditions. Cap rates in particular are created by dividing a property’s annual income by its sales price. CBRE adds that many markets “had limited investment activity” over the course of 2020, making pricing and predicting cap rate ranges incredibly difficult. 

The brokerage firm, therefore, indexed its 2021 report on 2019 numbers, which revealed somewhat surprising results: Market recoveries are well underway and cap rates are expected to rise through the year’s end. Recovery has been primarily driven by massive fiscal and monetary policy responses, which have stabilized the economy and therefore benefitted commercial real estate.

“The rapid recovery across U.S. real estate markets was mostly made possible by the massive fiscal and monetary response to the COVID-19 downturn that stabilized the economy and benefited property values,” said Chris Ludeman, Global President of Capital Markets for CBRE. “While some uncertainty remains, a strong economic recovery will continue to benefit property fundamentals, investment volumes and values.”

CBRE’s survey notes that 75 percent of commercial real estate investors responded that risk appetite has increased during the first half of 2021, compared with just a small percentage (less than five percent) who noted they had become more risk averse. The results of the survey are thus far backed by transaction volumes, which have risen 32 percent year-over-year, as well as observed cap rate movements.

Along the West Coast, cap rates for many markets and central business districts have fluctuated in a variety of different ways since 2019. In Oakland, cap rates for offices have remained in the 4.5 to 5.5 percent range over the past two years. In San Francisco, cap rates have risen from between around 5 percent to 5.25 percent. San Jose’s office cap rates have declined from between six to seven percent to between 5.5 and six percent. Sacramento’s cap rates have also ticked up slightly, typically ranging from 6.5 to seven percent.

In Southern California, markets exhibited similar behaviors to cities in the North of the state. Los Angeles saw its cap rates compress by 0.25 percentage points, while Orange County’s rose to about six percent. San Diego’s office cap rates also declined, and now range from 5.5 to six percent.

In the Pacific Northwest, Seattle was the lone city listed. There, office cap rates declined slightly from a max of about 5.25 percent to five percent.

Across the West Coast, cap rates for infill multifamily markets were either stable, or they compressed. Oakland and San Francisco saw declines in cap rates, while Sacramento and San Jose held steady. Across Southern California–the Inland Empire, Los Angeles, Orange County and San Diego–cap rates held stable for all markets, hovering around four to 4.5 percent. 

In Seattle, cap rates fluctuated little. Portland–not highlighted in the CBD office portion of the report, was the sole market to see cap rates for multifamily infill assets rise. CBRE reports that cap rates increased slightly to 4.75 percent.

For all markets, no suburban multifamily assets reported an increase in cap rates, a trend that is a testament to the asset class’ strong fundamentals during the pandemic.

The belle of the ball, however, continues to be industrial. Cap rates across all west coast markets listed show compression between 2019 and 2021, reflecting strong investor appetite and growth in ecommerce during the pandemic. Markets such as the Inland Empire, Los Angeles, Orange County, Oakland, San Francisco and San Jose saw cap rates for industrial space as low as 2.8 percent. Seattle and Portland followed behind with cap rates as low as 3.5 percent and 4 percent, respectively. Sacramento and San Diego’s cap rates remained higher; the former with cap rates beginning around five percent, and the latter’s cap rates sitting around 4.5 to five percent.

Looking ahead, most in the commercial real estate industry expect cap rates to compress for industrial and logistics properties, as well as for assets in the multifamily sector. Cap rates for office, retail and hotels will likely remain flat, but could vary depending on individual market conditions.