LOS ANGELES—Rising interest rates andcap rate compression: how long can thiscontinue? We're hearing these questions a lotthese days: “What is the 2014 outlook for cap rates and interestrates? When will cap rates start rising again?”

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In an exclusive GlobeSt.com interview with Los Angeles-CBRE'sfirst vice presidents Alex Kozakov andPatrick Wade, who co-lead a retail investmentsales team based in Downtown Los Angeles, the team commented on thecontinued compression of cap rates. “Cap rate compression whileinterest rates slowly continue to rise is a rare occurrence forcommercial real estate,” the team says.

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GlobeSt.com: Why are cap rates compressing asinterest rates slowly rise?

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The CBRE team: Historically,as borrowing costs have risen, cap rates have increased along withthem. Today, however, due to an over-abundance of capitalcombined with a lack of inventory, we are seeing a continuedcompression in cap rates while borrowing costs rise.

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There are four significant causes for this:

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- A seemingly never-endingflood of capital and a lack of quality supply (particularlynet-leased credit tenants in areas with dense populations and soliddemographics) creates a lack of internal investments.

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- We're continuing to seehigh net worth families and trusts become tired and frustrated asthey hold their money in banks and watch it earn less than 1%interest every year. Due to this search for a return,investors have continued to aggressively price assets and have beenmore tolerant to risk throughout 2013 and the beginning of2014. Credit tenant net-leased investments provide analternative yield opportunity typically between 4 –5%.

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- Foreign capital continuesto see US real estate (compared to investments in their homecountry) as a safe haven due to the relative stability in thegovernment and real estate markets, and because of this, they arewilling to pay much higher premiums to own assets they believe willbe a safe, solid investment for themselves and their families formany years to come.

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- Multifamily propertieshave also been trading at all-time lows, and we are now seeing manyexchange buyers depart from this product type, seekingmanagement-free, passive investments that they can hold long-termwithout having to put in a large amount of effort tomaintain.

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GlobeSt.com: What are some specific examplesof this that you've seen in the market?

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The CBRE team: During thecourse of the past year, we have seen extremely low cap rates andaggressive prices per foot with our own properties. Forinstance, in the past couple of months, our team has sold twonet-lease Chase Banks in Los Angeles County atrecord-setting cap rates below 4.5% and over $1,000 per squarefoot. We also sold a net-lease Starbucks at a sub-4% cap ratefor over $2,000 per square foot. Recent multi-tenant salesincluded a Starbucks-anchored strip center in Oxnard and aneighborhood shopping center in Van Nuys, both of which achievedprices well in excess of $400.00 per square foot. All ofthese deals sold all-cash. We are continuing to see cap ratescompress as investors strive to obtain properties they believe aresafe yet profitable investments.

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Retail assets led all commercial property types in terms ofprice appreciation in 2013, up more than 23% for 2013. Thenational average cap rate for retail properties continued tocompress during Q4 2013, dropping by slightly more than 59 bps on ayear-over-year basis to reach 6.5%. Moving forward, CBREEconometric Advisors projects that the yield on the 10-year USTreasury will reach approximately 4.5% by 2016. Suchinflationary pressures will inevitably place upward pressure on caprates, but commercial real estate has generally been considered anappealing inflationary hedge. As such, retail assets shouldcontinue to attract strong investor interest as the spread betweencap rates and US Treasury yields normalize.

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GlobeSt.com: This can't last forever. What arethe possible outcomes?

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The CBRE team: Much willdepend on the Federal Reserve policy. At the end of last year, theFed announced that it will begin to taper asset purchases with areduction in the rate of instrument purchases—by about 12%. If the economic recovery stays on track, the Federal Reserve willcontinue these reductions in the rate of its purchases. Thisimplies that longer-term interest rates will continue to increaseduring that period.

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In our opinion, we will continue to see the same trend over thenext twelve months. As long as there is a limited supply ofinvestments in the market and a lack of alternative investmentoptions in the financial market, investors will continue to look atcommercial real estate as a viable option, which will allow caprates to continue to compress. However, as borrowing costscontinue to rise and the upcoming wave of CMBS debt becomes due tomature over the next 24 to 36 months, we will see an upwardadjustment in cap rates.

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Natalie Dolce

Natalie Dolce, editor-in-chief of GlobeSt.com and GlobeSt. Real Estate Forum, is responsible for working with editorial staff, freelancers and senior management to help plan the overarching vision that encompasses GlobeSt.com, including short-term and long-term goals for the website, how content integrates through the company’s other product lines and the overall quality of content. Previously she served as national executive editor and editor of the West Coast region for GlobeSt.com and Real Estate Forum, and was responsible for coverage of news and information pertaining to that vital real estate region. Prior to moving out to the Southern California office, she was Northeast bureau chief, covering New York City for GlobeSt.com. Her background includes a stint at InStyle Magazine, and as managing editor with New York Press, an alternative weekly New York City paper. In her career, she has also covered a variety of beats for M magazine, Arthur Frommer's Budget Travel, FashionLedge.com, and Co-Ed magazine. Dolce has also freelanced for a number of publications, including MSNBC.com and Museums New York magazine.