Net Lease Investors Take a Hard Look at CRE Fundamentals

In analyzing report metrics in our Q2 2019 Net Lease Overview, we noted a focus on fundamentals, a bump in sales activities, and third, a three-sector impact. Let’s explain the third point first.

Q2 numbers were influenced mainly by the automotive, big box, and dollar store sectors; all three types experienced a jump in sales, though their cap rates differed.

Here’s what happened:

• Sales deals in the automotive sector increased — especially in premium markets. Lease terms were also on the rise.
• The big box sector also experienced an increase in sales, with the California and Florida premium markets leading the way. Especially attractive to investors were properties occupied by solid, credit-worthy tenants and long-term leases.
• Unlike trends in the big box and automotive sectors, dollar stores experienced a decrease in Q2 sales. However, more sales took place in prime locations, closer to major metropolitan markets, versus small towns or rural communities.

A highlight of Q2 was the overall increase in sales activity, similar to what we reported from Q1 2019. The first three months of 2019 were impacted by a palpable sense of relief, as the government shutdown came to an end. Moving from spring into summer, sales continued to be robust, with average cap rates falling by about 10 basis points. As we moved into the second half of 2019, sales activity doesn’t seem to be slowing down.

Net lease investors are being impacted by several factors, including the Federal Reserve and its interest rate manipulation. Speaking of which, it’s really too soon to determine the impact of the Fed’s recent rate decrease, though we noted, in a previous article, that the net lease sector is impacted by more than interest rates, but lower rates is definitely positive.

Just as important are real estate fundamentals.

Investors, these days, are on the hunt for long-term income. They are less interested in taking risks, and more focused on properties occupied by reliable, brand-recognizable credit-worthy tenants, willing to sign long-term leases. Also on the must-have list: Prime locations, complete with high visibility and ease of access. Finally, investors want to see longer-term tenants in these properties, to ensure continued cash flow and rent appreciation.

It goes without saying that such properties are likely to command higher premiums on the price side, meaning an increase in property values and cap rate decreases.

Sales activity continues robust within the next-lease sector, with investors focused on real estate fundamentals when it comes to decision making. It’s expected that this trend will remain the same through the remainder of 2019, as the upcycle continues to lengthen, and investors continue to seek out long-term income, complete with reliable tenants and brand recognition.