In a market rife with uncertainty, investors seeking risk-adjusted, recession-proof opportunities continue to be attracted to single-tenant, net-lease assets. As a result, total single-tenant net lease sales volume at the end of the third quarter had increased by 24 percent year-to-date, to $55.2 billion, according to a recent report from CBRE. It is now on pace to exceed last year's sales record of $69.6 billion, according to the real estate services firm.
“This sector is growing and will probably total more than $70 billion this year in transaction volume,” says Will Pike, chairman and managing director of the CBRE net lease property group and corporate capital markets.
The industrial sector has been leading single-tenant net lease sales, with transactions totaling $22.3 billion year-to-date at the end of the third quarter, compared to $19.8 billion during the first three quarters of 2018. In the third quarter, single-tenant net lease industrial transactions jumped 48.5 jump to $10.2 billion, compared to $6.9 billion during the same period last year.
Large-scale acquisitions by private equity giant the Blackstone Group accounted for $3.1 billion of the total industrial sales volume in the sector, according to David Bitner, who heads Americas capital markets research at real estate services firm Cushman & Wakefield. He says that institutional investors and private equity funds are driving the overall increase in transactions. According to the CBRE report, acquisition volume by institutional investors increased by 75.8 percent year-over-year in the third quarter to $7.3 billion, up from $4.1 billion in the third quarter of 2018. Private buyers accounted for $8.8 billion in acquisitions, up by 29.3 percent year-over-year.
Single-tenant net lease sales volume “is less driven by market (fundamentals) than by actual credit under the lease,” says Pike, noting that the longer the lease and the stronger the credit, the lower the cap rate. “Investors seek reliable cashflow amid uncertainty or when recession is feasible, and so gravitate to this type of investment.”
Nationally, industrial cap rates average 6 percent, but in some Southern California markets high-quality industrial assets are trading at under 4 percent, notes Bitner. And while in some submarkets cap rates can dip below 4 percent, investors are still interested in the limited number of assets that become available because rent growth for this asset class has ranged between 8 and 10 percent in the Los Angeles basin for the past several years. “Any folks paying sub-4 caps are expecting significant rent growth,” Bitner notes.
Meanwhile, a secondary market location might serve as an intangible benefit for investors. For example, a secondary market location is very important to tenants involved in manufacturing if that market has a highly-skilled labor pool, like in Spartanburg-Greenville, S.C., says Jack Fraker, vice chairman and managing director with global industrial & logistics group at CBRE. “These tenants make big investments to turn industrial real estate into manufacturing facilities, so they want long-term leases.”
Smaller markets also provide a slight pricing discount for investors in terms of cap rate, as there is a slightly higher risk due to the more limited pool of potential tenants to fill the space if the current tenant pulls out.
But overall, investors are increasingly focused on net-lease investment opportunities in high-growth secondary markets, with the Inland Empire in Southern California and Portland, Ore. showing the largest increases in sales volumes year-over-year.