Commercial Real Estate Markets On Fire According To Auction.com Research Report

Deal Volume Hit a New All-Time Peak in Q1 as Cap Rates Compressed Toward Multi-Decade Lows

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May 18, 2015, 02:30 ET

IRVINE, Calif., May 18, 2015 /PRNewswire/ -- Auction.com, LLC, the nation's leading online real estate marketplace, today released its Q1 2015 Commercial Real Estate (CRE) Market Monitor™, which shows that the CRE market continues its remarkable recovery. Total CRE deal volume in the first quarter hit a new all-time peak at $124.3 billion, a 47.4 percent increase from a year ago and a 0.1 percent increase from the prior quarter – a notable achievement, since investors typically seek to finalize their transactions in the fourth quarter, before the end of the tax year, thereby causing a first-quarter pullback in deal volume. This is the first instance of a Q1 quarter-over-quarter increase since 2007.

CRE Deal Volume; Sources: RC Analytics, Auction.com Research

Year-Over-Year CRE Pricing; Sources: Moody’s, RC Analytics, Auction.com Research

CRE Risk Premiums; Sources: RC Analytics, Department of the Treasury, Auction.com Research

"Investors continue to drive up market prices and compress cap rates, which suggests that they're probably ahead of what the underlying fundamentals would support, especially in some of the hotter markets and sectors," said Auction.com Executive Vice President Rick Sharga. "Part of this is due to the availability of capital and the low interest rate environment we're in. But the continuing infusion of foreign capital is also a big factor – China and Singapore investors in particular have ramped up their U.S. CRE investment, and the $1.95 billion purchase of the Waldorf Astoria in Manhattan by the Chinese firm Anbang Insurance Group was the highlight of the first quarter."

This wave of foreign capital into the U.S. CRE market has continued despite the recent strength of the dollar, which creates unfavorable exchange rates. But it is uncertain how long this trend will continue. The European Central Bank recently initiated a major quantitative easing program in Europe and China is now rumored to be considering its own foray into easing. This torrent of liquidity abroad has the potential to steer some capital flows into Europe and China that would have otherwise gone into U.S. real estate as investors seek to maximize their returns.

CRE Market Activity Overview

All five sectors saw a year-over-year volume increase in the first quarter of 2015, though a quarterly increase was only seen in industrial and hotel. The hotel sector experienced an impressive 68.1 percent year-over-year jump in volume (due in large part to the Waldorf Astoria sale) and the industrial sector's deal volume is nearly double its year-ago level. Transaction volume in the office and apartment sectors increased 42.5 percent and 67.8 percent, respectively, year over year. The retail sector, which continues to face structural headwinds like online shopping and declining space per capita, saw the smallest year-over-year volume increase, 4.8 percent.

CRE Deal Volume

Property pricing remains on a steady upward trend, up 15.9 percent from a year ago. Office, apartment and industrial sector prices are up 15.9 percent, 16.6 percent and 17.3 percent, respectively, from a year ago. Retail and hotel pricing have also rebounded following two quarters of relative weakness, with retail increasing 13.7 percent and hotel up 10.8 percent year over year.

Hotel, retail and industrial sector pricing continues to work back up toward pre-recession peaks, in contrast to the office and apartment sectors, which have already surpassed these levels, according to the Moody's/RCA CPPI. However, industrial prices are just 1.6 percent below their prior all-time peak and are likely to surpass it in the second quarter of 2015.

Retail property price growth has reaccelerated after slowing in the second half of 2014. However, retail property prices remain 9 percent lower than their prior all-time peak, and all but the economically strongest retail markets have struggled to make inroads in absorption and effective rent growth.

Risk Premiums Increase as Cap Rates Compress

Auction.com's calculations of CRE risk premiums show that they are up from a year ago across all five sectors, with the apartment sector seeing the most significant increase – a 38 bps jump – and office, hotel and retail risk premiums trailing slightly with respective 37, 32 and 31 bp hikes, followed by the industrial sector's 28 bp increase.

"The gradual upturn in risk premiums reflects the recent run-up in pricing and valuations across all CRE sectors," noted Auction.com Chief Economist Peter Muoio. "In our view, the increase in risk premium is primarily driven by the rapid drop in treasuries in the face of global capital market shifts versus the more languid pace of recovery for real estate fundamentals."

CRE Risk Premiums

Due to a decline in the 10-year U.S. Treasury rate, which has dropped 70 bps in the last year, cap rates saw a year-over-year decline in all five sectors. Cap rates are significantly below their 10-year average, with office, apartment and retail cap rates now at their lowest since 2001. The office and retail sectors each saw cap rates decline 30 bps from the previous quarter – the most significant quarterly compression among the sectors.

Muoio noted, "While the Federal Reserve is expected to increase interest rates at some point in 2015, which would lead to increases in the 10-year U.S. Treasury rate and potentially put upward pressure on cap rates, the current higher risk premiums should act as a buffer to keep cap rates from rising significantly."

CRE Cap Rates

CRE Sector	Current Cap Rate	10-Year Average	High	Low
Office	6.5%	7.2%	9.3%	6.5%
Apartment	5.9%	6.4%	8.7%	5.9%
Retail	6.4%	7.1%	9.1%	6.4%
Industrial	6.9%	7.6%	9.5%	6.8%
Hotel	8.0%	8.5%	9.9%	7.8%

Sources: RC Analytics, Auction.com Research

About Auction.com:

Auction.com, LLC, is the nation's leading online real estate marketplace. Founded in 2007, the company has sold over $30 billion in residential and commercial real estate assets. Auction.com has over 900 employees and headquarters in Irvine and Silicon Valley, California as well as offices in Austin and Plano, Texas, Atlanta, Denver, New York and Miami. Visit www.auction.com for more information.

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SOURCE Auction.com, LLC