Medical Outpatient Buildings Are a Good Segment for CRE

There’s steady occupancy and growing investment interest, says JLL, but also some challenges, especially with conversions.

The face of medical real estate has been quickly changing, as noted in a recent JLL report, Medical Outpatient Building Perspective.

“Demographic trends, technology and reimbursement changes are continuing the shift toward outpatient care, driving demand for outpatient medical buildings,” the authors wrote. “Growing specialties are taking a more holistic view of lifelong health and wellness.”

The financial aspect is enormous. According to the Peterson-KFF health system tracker, people 65 and older comprise 18% of the population and 36% of total health spending. Add in those 55 to 64, and those numbers increase to 31% and 55%.

Procedures and treatments that can be done in outpatient settings typically incur far less expense than the same work done in a hospital. That keeps driving a shift in settings, with inpatient volumes expected to drop 0.7% in the next five years while outpatient is projected to increase over the same period by 10%.

“When I first heard the rebrand of the medical office building to medical outpatient, I said, ‘Is that gimmicky?” Abby Waner Bartolotta, vice president of healthcare solutions at JLL, tells GlobeSt.com. “But it’s a huge difference and it’s so nuanced. The whole way we’re approaching healthcare is it’s shifting away from going to this big office building usually on a campus.”

There are certain specialties in particular helping to drive outpatient treatment in dedicated real estate. Endocrinology is fast growing because of the increase in the prevalence of diabetes and new therapies. In addition, at least 123 cancer centers were opening, expanding or affiliating as of the end of 2023, as Becker’s Hospital Review reported.

Orthopedics and rehab are also likely to see more outpatient work as the population ages. Behavioral health is also well-positioned for outpatient work.

Tech companies getting into healthcare are another reason for the expansion of outpatient properties. “OneMedical, the primary care provider owned by Amazon, is 60% in retail properties, 36% in traditional or medical office and 5% in first-floor retail in multifamily buildings,” according to CoStar data cited by JLL. “Convenience is key for healthcare consumers, so to compete with new entrants, health systems must prioritize this, especially for primary and urgent care needs.”

Making outpatient of interest to investors is a supply and demand issue. There’s been steady demand and limited construction. “Net absorption for 2023 stood at 16.9 million square feet, and while slightly slower than annual totals in 2021 and 2022, the pace of demand still exceeds pre-pandemic levels,” JLL wrote. “Absorption has outpaced construction every quarter since Q2 2021 as completions have slowed while demand accelerated. This drove occupancy up from 91.4% at the end of 2020 to 93.0% in Q4 2023.”

“Investors are wanting to know where we’re peaking with interest rates,” Bartolotta says. “There are some new players looking to invest in it, largely because of what happening in office. REITs’ share of medical outpatient buildings is increasing because private investors can’t transact. The makeup of ownership tends to be more REIT heavy, and new ownership is seeing the opportunity to place asset types that are a lot more sticky [and capable of keeping good-credit tenants].”

Current landlords that want to convert existing properties such as office buildings face some basic challenges, like having enough parking spaces or enough distance between a drop ceiling and deck to accommodate specialized HVAC systems. “That right away can reduce the list of potential conversions,” Bartolotta says.

Credit: https://www.globest.com/2024/04/23/medical-outpatient-buildings-are-a-good-segment-for-cre/

The Fed Backpedals the Rate Cut Happy Talk

Recent economic developments have clashed with the idea of unstopped success in taming inflation and, as a result, lower interest rates.

Just weeks ago, the Federal Reserve sounded more upbeat than it had in a while. While not a slam dunk, progress on reducing inflation and clearing a way for rate cuts was steady. Members of the Fed looked toward three rate cuts in 2024.

Inflation, both in the Consumer Product Index and Personal Consumption Expenditures, has been proving itself more resilient than previously thought, and the jobs numbers have topped expectations. As a result, the Fed is signaling that expectations of immediate rate cuts are perhaps not sound.

Fed Chair Jerome Powell has consistently emphasized that the key to eventual rate cuts would be an ongoing picture “good” economic data showing an approach to a 2% inflation rate. However, “‘recent data have clearly not given us greater confidence and instead indicate that it is likely to take longer than expected to achieve that confidence,’ Powell said at a moderated question-and-answer session in Washington,” according to the Wall Street Journal.

He did say that the central bank wasn’t considering rate hikes but noted that the Fed would leave rates at their current levels “as long as needed” if the agency considered it necessary. If the economy slowed sharply, rate cuts could happen, but to date there are no clear indications that such a deceleration was evident.

Powell isn’t the only one from the Fed making such remarks. In a speech before the International Research Forum on Monetary Policy on Tuesday, Vice Chair Philip Jefferson said, “Real GDP growth in the fourth quarter of 2023 was 3.4 percent, and I expect first-quarter economic growth to slow down but remain solid as indicated by the solid growth in retail sales in March and February. Recent readings on both job gains and inflation have come in higher than expected. The economy added an average of 276,000 nonfarm jobs per month in the three months through March, a faster pace than we have seen since last March. And the inflation data over the past three months were above the low readings in the second half of last year.”

He added that “if incoming data suggest that inflation is more persistent than I currently expect it to be, it will be appropriate to hold in place the current restrictive stance of policy for longer. I am fully committed to getting inflation back to 2 percent.”

In a CNBC interview, Atlanta Federal Reserve President Raphael Bostic said that inflation would decline “much slower than what many have expected.” He added, “If the economy evolves as I expect, and that’s going to be seeing continued robustness in GDP, unemployment and a slow decline of inflation through the course of the year, I think it would be appropriate for us to do start moving down at the end of this year, the fourth quarter,” he further said.

And Loretta Mester, president and CEO of the Federal Reserve Bank of Cleveland in an April 2 speech, said, “I continue to think that the most likely scenario is that inflation will continue on its downward trajectory to 2 percent over time. But I need to see more data to raise my confidence.”

Original: https://www.globest.com/2024/04/17/the-fed-backpedals-the-rate-cut-happy-talk/

‘The new norm’: Austin coping with influx of multifamily properties

Austin’s multifamily market is dealing with an oversupply of available units
— a “too much of a good thing” scenario. National and local apartment data collector ALN Apartment Data indicated that this trend is likely to persist through at least 2024. Its data ranks Austin eighth in the country for cities with the most new units under construction. As of September, it recorded 63,882 units under preconstruction, 41,071 units under construction and 10,124 units under lease-up or being filled. Add to that another 17,364 units under construction/lease-up, and Austin’s apartment cup runneth over.

“The Austin multifamily sector is currently grappling with an oversupply of units, largely driven by significant new construction in recent years,” said Cheryl Higley, managing director of debt & equity for Northmarq’s Austin office, which offers comprehensive services in debt, equity, investment sales and loan servicing. “This oversupply has led to vacancy rates reaching a 20 year high. However, there are indications that the market will gradually balance out in the long run.”

One key factor influencing this balance is the projected growth in the population of young adults aged 20-34 in Austin. With a forecasted increase of 1.8 percent in 2024, Austin leads major U.S. markets in the growth rate of this demographic. “Given that this age group is more inclined towards renting rather than homeownership, the continued influx of young adults into the city, in addition to the expected drop-off in new units, suggests a more balanced multifamily market in the long run,” Higley noted. A seasoned professional with more than 22 years of experience in multifamily asset financing, Higley emphasized the importance of location in driving investment decisions amidst the current market scenario. “A couple years ago, multifamily properties in Austin were trading at similar cap rates, regardless of quality and location,” she said. “We currently have a multifamily listing in North Austin that would have traded at a 3 cap a couple of years ago, but now it’s approaching a 7 cap. This significant shift in cap rates underscores the impact of market dynamics on investment strategies.”

Multifamily owners are strategizing in response to market conditions, with some focusing on new acquisitions while others reinvest in existing properties. Age of the asset plays a significant role in decision-making, with buyers showing interest in older properties in strategic locations. “Owners are taking a more strategic view as their loans are maturing, evaluating between a refinance or sell scenario. We are seeing more owners adopt a ‘wait-and-see’ approach until market conditions become more favorable,” observed Higley, who, along with a team of Northmarq professionals, delivers tailored solutions to clients’ needs, attracting diverse capital sources while providing personalized services for buying and selling
multifamily properties.
Regarding the economic outlook, Higley remains cautious. “We need to be prepared for a higher-for-even-longer reality and a dim path for interest rate markets in the near future,” she said. “It is unlikely that interest rates will return to the historically low levels experienced over the past decade, but the market will eventually accept the new norm and pick up transactional activity.” While the Austin multifamily market currently faces challenges due to oversupply and shifting dynamics, there are signs of resilience and opportunities for growth. With a strategic approach to investment and a focus on emerging market trends, stakeholders can position themselves for success in the long term.

Original: https://rednews.com/2024/04/the-new-norm-austin-coping-with-influx-of-multifamily-properties/

CRBE: A Multi-Perspective View on Cap Rates

CBRE EA estimates cap rates at the sector level using four different methods and compares these with our CBRE EA cap rates.

There are several ways the industry looks at capitalization rates (cap rates) for commercial properties. Comparing them considering the current generational shift in cap rates is helpful for understanding pricing. In this Viewpoint, we estimate what cap rates should be at the sector level using four different methods and compare these with our CBRE Econometric Advisors (CBRE EA) cap rates. Our examination of cap rates reveals that some property types are appropriately valued while others will likely see additional cap rate expansion.

CBRE EA produces current cap rates through our investment performance model based on data and input from capital markets experts. These are the product of NCREIF cap rate data, macroeconomic fundamentals, deal level data, and the CBRE Cap Rate Survey, which includes CBRE professionals’ estimates on current cap rates. Our most current cap rates are 5.2% (industrial), 5.3% (multifamily), 6.4% (office), and 6.4% (retail). This reflects the average for all markets covered by CBRE EA.

We use the following methods in our comparison.

1. A popular way of estimating cap rates is to add the average historical spread of cap rates over the 10-year treasury to the current yield. In this piece, we use the average spread from 2010-2020, which was 230 (multifamily), 280 (office), 320 (retail), and 340 (industrial) basis points (bps). The current 10-year yield sits at 4.25% as of February 15, 2024. Using average spreads from this period may miss some of the structural shifts in demand since 2020, which could make these cap rate estimates too high (industrial) or low (office).
2. Secondly, we use a fair value cap rate and leverage the Gordon Growth model. We use the two components of a cap rate, the discount rate (risk-free rate (10-year treasury) + risk-premium) minus the expected income growth rate. In this case, we use our average sector level risk-premiums from our CBRE EA Hurdle Rate model. For expected income growth, we use an estimated 10-year forward annualized NOI growth calculated as the unweighted average of EA markets.
3. Next, we estimate a Debt Service Coverage Ratio (DSCR) implied cap rate. DSCR is operating income divided by debt-servicing costs. This is calculated by multiplying the all-in cost of debt (5-year swap rate + credit spread + amortization factor) by the LTV by the DSCR. For this Viewpoint, we use an amortization factor of 1.5%. For LTV, we use a loan level dataset from CBRE using the loan amount weighted 2023 average for each sector. CBRE debt experts provided credit spreads and DSCR as of January 5, 2024.
4. Finally, we report REIT implied cap rate as reported by NAREIT (T-Tracker Q3 2023). This is calculated using the relationship between current REIT stock prices and expected income.

Figure 1: Cap Rate Estimates, Q4 2023

Source: CBRE EA, CBRE Deal Slicer, and NAREIT.

We report our current cap rate estimates as well as the four calculations per sector in Figure 1. The cap rates suggest that the office sector has the furthest cap rate expansion to reach appropriate pricing for trading volume to recover. The spread-implied cap rate, 7.0%, roughly 60 bps higher than our current estimate, is likely underestimated given the 2010-2020 average spread does not account for the structural change toward less demand for office space post-2020. Our current estimate also differs from the REIT implied cap rate of 7.7% by 130 bps.

The multifamily sector, with our current estimate of 5.3%, is substantially below the spread and REIT implied cap rates of 6.5% and 6.4%, respectively. However, it is slightly above the fair value and just below the DSCR implied cap rate.

Our current retail cap rate of 6.4% is below the DSCR implied rate of 6.9% and below the REIT and spread-implied cap rates. Our fair value estimate is significantly below our current cap rate at 5.4%.

Our current industrial estimate of 5.2% also is below the fair value estimate of 5.7% and above REIT implied rate of 4.7%. The spread-implied rate is significantly higher, although likely due to the average spread issue we discussed for the office sector, but in reverse, meaning investor demand for industrial has increased in recent years relative to 2010-2020.

In Figure 2, we compare the current cap rate against the median of our four calculated cap rates. We use those two cap rate estimates to value a property with a $10 million annual NOI. We then report the percentage difference in these values as an implied bid-ask spread. The office sector has the largest spread—over 18%—while multifamily sits at 11%. The industrial and retail sectors’ lower bid-ask spreads suggest pricing is more appropriate.

Figure 2: Implied Bid-Ask Spread

Source: CBRE EA.

In conclusion, we believe the recent cap rate expansion is close to its end. However, the office and multifamily sectors seem to have more room for further expansion based on these estimates. Retail and industrial seem to have more appropriate pricing now. Using multiple perspectives to analyze cap rates can be helpful during these volatile times. In future work, we hope to compare these methods across time. There may be important signals hidden in the relationship between different pricing methods.

Original: https://www.cbre.com/insights/viewpoints/a-multi-perspective-view-on-cap-rates?utm_medium=email&utm_source=ExactTarget&utm_campaign=EA+VP+-+A+Multi-perspective+View+on+Cap+Rates&utm_content=Explore+the+Viewpoint