The State of Net Lease

Trying to summarize the present and near future of net lease is complicated and difficult because of the complex interaction with other markets, says Chris Lomuto, associate vice president in Northmarq’s San Francisco region.

“It’s a very interconnected ecosystem of tenants and buyers and sellers and lenders and consumers,” Lomuto told GlobeSt.com. Net lease activity and pricing have depended heavily on other areas of CRE, like 1031 exchanges by multifamily property owners, unlike some other property types.

To understand where net lease is now, it’s important to pinpoint what it typically is and how it got to its status a few years ago. Although the category can include many things — retail, fast food, pharmacies, big box stores, industrial, medical healthcare, and even some single-tenant offices — most in the industry mean single-tenant with an emphasis on retail or industrial.

Net lease as an investment category has been around for many years, as the existence of NNN REITs has shown. That changed when the category “got really hot after the Global Financial Crisis,” Lomuto said. “I’m not sure that’s causation as much as correlation. But people became a lot more aware of triple net real estate as an asset to invest your money.”

Also, after the subprime crisis, there was a strong interest in multifamily as a safe investment with a strong upside. “There was so much interest, people were acquiring multifamily real estate, which meant people were selling,” said Lomuto. Many former multifamily owners saw large capital gains and needed to put the money into other investments as a tax strategy. “They had a broker tell them you can sell this management-intensive building for a three-and-a-half cap and buy something that is high quality with a single tenant on a long lease and earn 4%” with no tax consequences at the time.

As a result, 1031 buyers were swapping out of multifamily and into triple-net-lease, “pricing out the sophisticated investors all day long,” Lomuto said It was easy because the former multifamily owners had cash, a need to park it, and strong tax incentives that made higher prices look good. The number of exchange buyers and the total of their capital was so large that they “quite substantially moved the market.”

That ended with post-pandemic inflation and the resulting interest rate hikes. Tax incentives were no longer enough to power oversized deals and “the taps got shut off.” Lomuto noted that while the volume of high-spending buyers dropped, developers continued to work, building new projects to sell. Much of it is momentum, including projects often taking a couple of years and having an existing business process to keep doing what was done before.

Lomuto points to the rising number of ads on CRE marketplace CREXI. In 2023, there were 932 new ads a month but in 2024, that has risen to 1210 by his count. The result is more supply and less demand, explaining the compression of prices and reduction of volume. “When interest rates went up, the tide rolled out on real estate as a whole,” he noted, comparing the market to a lot of ships stuck in the mud. “We’re just going to mop the deck on all these ships then we’re back afloat again, but it’s daunting when you think about what happens if the tide doesn’t come back in.”