Cap Rates Normalize Amid Stabilizing Market

Over the past several weeks real estate experts have seen signs of stabilization in the market, particularly in the multifamily sector. However, they caution that valuations may not immediately respond to the 50 basis point rate cut announced by the Fed yesterday, as the industry adjusts to a new normal.

“I’m optimistic that we’re at the forefront of the next cycle,” Mitch Sinberg, senior managing director of mortgage banking at Berkadia, told GlobeSt.com.  “The bid-ask spread that’s been persistent for the last 18 months has largely come together. We’re seeing a lot more groups who were on the sidelines now coming out to acquire deals.”

Sinberg points to increased transaction activity in recent weeks as a positive indicator, attributing it partly to reduced volatility in the 10-year Treasury yield. “These are all barometers and indicators that things are slowly going back to normal,” he explained.

However, both Sinberg and his colleague Roberto Pesant, senior managing director of investment sales with Berkadia, emphasize that the Fed’s rate reduction may not have an immediate impact on property values. “We fully expect the Fed to lower the overnight rate,” Sinberg noted in an interview with GlobeSt.com earlier this month before the rate reduction. “We just think that’s already priced at the longer end of the curve, and that’s how real estate is valued generally.”

They also agree that cap rates are approaching historically normal levels after a period of extremes. “I think the people who are waiting for 3 caps to come back are going to be waiting a very, very, very long time,” Sinberg states. “Conversely, I think the groups that are waiting for this immense distress to occur, and cap rates to expand at 7% are also going to be waiting for a very, very long time.”

Pesant concurs, adding, “We think cap rates are approaching normal levels. The cost of debt is also at levels that make these cap rates somewhat attractive. Talk of negative leverage is pretty much gone at this point.”

Both experts suggest that cap rates in the low to mid-five percent range represent a healthy, sustainable level for the market. However, Pesant noted that certain markets, like South Florida, may continue to command a premium.

“I think in South Florida, we will always have a slight premium on values,” Pesant explained. “The way that South Florida multifamily has performed since COVID, and its strength and resiliency means investors can look at it expecting a little bit lower yield than they would in some other markets across the country.”

The stabilizing market conditions are drawing investors back into the multifamily sector. “There’s a lot of pent-up optimism and demand out there, and we’re continuing to see groups come into the multifamily market that has been sidelined for the last 24 months or so,” Sinberg said.

Pesant added that the apparent stabilization of interest rates is crucial for many investors. “It’s going to allow the groups that are not trying to be pioneers and be out further on the risk spectrum, but take on the risk that’s typically associated with buying a multifamily deal, they’re coming off the sidelines,” he says.

Looking ahead, Pesant and Sinberg anticipate a gradual increase in transaction volume as market participants adjust to the new environment. “We are optimistic that over the third and fourth quarter, as there’s consistency and as people get used to a lower rate environment, transaction flow will increase,” Pesant predicted.