Rising inflation will likely favor property types with a shorter than average lease term like multifamily and self-storage, while industrial deals with lower lease terms remaining will command premium pricing as buyers mark to market rents more quickly.
That’s according to a new capital markets report from Newmark, which notes that borrowing costs will increase as interest rates continue to rise. At least a half-point hike is expected in June, with other increases to follow at the Fed’s remaining meetings this year. Higher rates will make debt more expensive as commercial and multifamily rates increase, and that will impact levered IRRs and will “undermine levered returns achieved by real estate investors,” Newmark analysts note in the report.
“If debt costs rise substantially, it is possible certain investors may experience ‘negative leverage,’ wherein mortgage costs exceed capitalization rates,” the report predicts. “Investors using limited or no leverage are expected to have a considerable advantage bidding on and winning deals during the remainder of 2022, particularly in negative leverage situations and when interest rate volatility impacts financing.”
So far, though, deal volume has continued unabated, increasing by nearly 56% year-over-year in the first quarter, to reach nearly $171 billion, a historic first-quarter high that overtook the previous record set in 2007, per Newmark data. The amount of dry powder held by North America-focused closed-end real estate funds hit $250 billion on the heels of a record year for capital deployment in 2021. Newmark estimates the dry powder set aside for equity investments translates to about $573 billion in spending power.
The firm also predicts that the creation of net-zero carbon-focused funds and reporting benchmarks will pick up major steam globally. Lenders are already beginning to reward ESG commitments, in a reversal of a prior stance. And specific “green lending”products are being offered by some firms to enable them to directly offer better financing options to borrowers whose assets meet ESG principles.