Single-Tenant Net-Lease Properties See Record Cap Rate Compression

Cap rates for single-tenant net-lease office, retail and industrial properties fell to all-time lows last quarter as investors, including many in the Bay Area, scrambled for higher-yielding investments.

Experts say the cap rate compression seen in Q3 could be a sign of more activity to come in the investment type, especially if those leased by businesses deemed nonessential start to see sales activity pick up. The Federal Reserve's latest forecast of near-zero interest rates through 2023 is likely the biggest driver of interest in net-lease properties, John Cumbelich & Associates Investment Sales Broker Sade Ghorban said.

“Investors have to turn somewhere to obtain yield,” said Ghorban, who is based in the Bay Area. “To do that, you’re usually looking at bonds, and you’re not finding it in bonds.” 

Nationwide, single-tenant net-lease cap rates compressed by 19 basis points for retail properties, 10 basis points for office and 11 basis points for industrial, according to The Boulder Group, a real estate services firm specializing in the property type. Both Ghorban and The Boulder Group Senior Vice President John Feeney said there are fewer deals happening for nonessential retail, like movie theaters, as owners look to wait out more of the coronavirus pandemic unless the price is right.

“The one thing that really sticks out today in the net-lease space is just truly how bifurcated the market has become,” Feeney said. “It’s really a segment where there’s basically two sets of properties: essential and nonessential. Right now, the nonessential ones are just on hold.

“There’s a disconnect between what buyers would be willing to pay for those types of properties with the risk they’d be taking and what sellers would be willing to let them go for.”

Ghorban said the trend is playing out in the Bay Area as investors are even more drawn to single-tenant net-lease properties because of concerns about an overheated stock market and the uncertain outlook for multi-tenant office properties amid the coronavirus pandemic. 

Ghorban, who also facilitates deals on out-of-state properties, said there is an ongoing urge by older buyers to transition from management-intensive properties like multifamily to a more passive income like what many single-tenant net-lease properties provide. 

Even so, overall transaction volume for the properties both nationwide and in California is down. The Boulder Group expects 2020 deals to fall significantly short of 2019 totals, while sales volume in California was down 19% through September, CoStar Bay Area Director of Market Analytics Jesse Gundersheim said. 

“Everybody is looking for some sort of distress or distressed asset, and where you’ll find that is not necessarily in single-tenant net-lease right now,” Ghorban said. “You’re going to find that in multi-tenant office and multi-tenant retail.”