NEW YORK CITY-“The unknown speed and strength of the recoveryhave many in the industry anxious,” comments an investor in thelatest PricewaterhouseCoopers Korpacz Real Estate Investor Survey.Combine that with a relative dearth of institutional-grade assetson the market, and the result is what the report calls “calm” dealflow.

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However, a majority of commercial real estate investors seelight on the horizon in the form of shrinking cap rates. Averagecap rates declined in 17 of the survey’s 30 markets over the pastquarter, with declines ranging from two basis points for San Diegooffice to 58 for Pacific Northwest properties in the same sector.Over the next six months, survey respondents expect cap rates tohold steady in 18 markets and foresee further declines in 13others, by as much as 100 basis points.

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In particular, investors surveyed by PwC cited 100-basis pointpotential declines in near-term overall cap rates for Manhattanoffice, national warehouse and national apartment. For the 18individual office markets in the survey, average overall cap ratesremain lower for central business district submarkets than in thesuburbs. This suggests that investors continue to see less risk andbetter investment potential in CBD assets.

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“Higher barriers to entry and a lack of land for new developmenttend to keep supply and demand a bit more balanced in a market’sCBD,” according to the report accompanying the PwC survey. “As aresult, CBD assets typically achieve higher rental rates. Inaddition, downtown cores tend to provide better forms of masstransportation and embody a 24-hour, live-work lifestyle thatappeals to many individuals and firms.”

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Along with slim pickings at the institutional-grade end of themarket, properties at the other end of the spectrum—distressedassets—haven’t been set out on the shelves at nearly the rate manyin the industry expected. Citing Real Capital Analytics data, PwCnotes that sales of troubled properties have accounted for only 25%to 30% of the industry’s total volume.

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However, when it comes to distress, the correlation betweenvolume of assets and number of sales is not as strong as you mightthink, according to PwC. The low percentage of distressed trades isactually “a greater reflection of investor preference than ofofferings as most buyers steer clear of ‘junk’ and focus on coreassets,” the report says. “In fact, strong competition amongwell-capitalized buyers has elevated sale prices and loweredoverall cap rates for many prime properties.”

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The report finds varying conditions for the property sectors.Retail, it says, continues to struggle despite encouraging economicdata for retail sales and job growth. One reason is that much ofthat job growth is in temporary hires. In office, notwithstanding adeclining vacancy rate in several major markets, surveyed investorsexpect a slow rebound for the sector.

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The industrial market has begun to stabilize, and thereforequality warehouse assets are seeing multiple bids and stronginterest from perspective buyers. Leading the recovery is theapartment sector, as reflected in an uptick of transactions. Thereport says multifamily sales volume for the first quarter of 2010nearly doubled to $4.3 billion from the same time period a yearago, based on RCA data.

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Paul Bubny

Paul Bubny is managing editor of Real Estate Forum and GlobeSt.com. He has been reporting on business since 1988 and on commercial real estate since 2007. He is based at ALM Real Estate Media Group's offices in New York City.