Net Lease Inventory in Flux as Owners Hold Onto Assets Longer
Owners are no longer able to sell their properties for more than the purchase price.
The volume of transactions for the single-tenant net lease market in the first half of 2023 fell well below the level for the prior year, according to a new report from The Boulder Group. As a result, the supply of properties is increasing as properties sit on the market longer.
Owners are reacting by holding their assets longer, rather than consider a sale. In 2Q 2023 the number of properties coming on the market was 20% fewer than in the first quarter. In recent years, owners could sell their properties for more than the purchase price because of cap rate compression, even though the lease term was shorter, the report noted. “This strategy no longer holds true in the current cap rate environment,” it added, leading owners to hold on.
Consistent with other reports, The Boulder Group found that cap rates in the single-tenant net lease market have risen for five consecutive quarters in all three sectors: retail, office and industrial. For retail, the jump was 7.27% (27 bps), while office and industrial each rose 6.8% (3 bps) in the second quarter.
“The rise in interest rates, combined with available investment returns in other fixed income investment opportunities, continue to be the primary drivers for the upward pressure on cap rates,” the report stated.
The rise in cap rates was especially high for tenants in segments of the net lease market exposed to an “oversaturation” of such tenants. This group included dollar stores, drug stores, and “coffee users.” Tenants with large scale expansion plans continued to increase the supply of properties on the market, the report noted. Accordingly, dollar stores experienced some of the highest cap rates in the net lease industry. In 2Q2023 they rose by 28 basis points, 16 basis points more than the overall net lease sector.
“Within the private capital buyer pool, all-cash or low-leverage investors will focus on higher quality assets with a strong preference for income tax free assets,” the report concluded. “While the depth of the 1031 buyer pool remains shallow, institutional investors will take advantage of larger scale transactions or one-off transactions within their acquisition cap rate targets.”