Cap Rate Compression

Commercial real estate cap rates have been compressed by 360 basis points over the last decade. Yet capital continues to pour into real estate. Though some observers suggest we are nearing the end of both the economic and capital markets cycles, growth may continue in the near-term amid low inflation and positive global demographics.

Sustainable Sources

Deposits by consumers between the age of 40 and 54 are rising globally as they save for retirement, college costs and other goals, generating a huge pool of capital to be deployed. The U.S. boasts the world’s deepest well of pension savings, but European economies, including Germany, the Netherlands and the United Kingdom, and Asian countries such as Japan, boast high savings rates as well.

Institutional Allocations

As excess savings seeks investment, bond prices have risen and yields have declined, encouraging investment managers to seek higher returns in real estate and increase their exposure to the sector. Japanese institutional investors, for example, have raised allocations in recent years, pouring trillions of dollars into the market. Subsequently, cap rates have trended lower.

Monetary Policy Outlook

With benchmark interest rates declining or in negative territory around the globe, central banks have less flexibility to respond to an economic downturn. Watch for the kinds of unconventional monetary policies implemented during the last recession, such as quantitative easing, which has been shown to further depress cap rates. That portends real estate price stability going forward.