Investors in U.S. net lease transactions keep a keen eye on yield… where it was, where it is and where it’s going… and that trend is unlikely to change in 2017. Deal makers continue to shift from known portfolio plays and trophy locations in gateway cities like New York, Los Angeles, Seattle and Chicago, into secondary and tertiary markets to seek yield where cap rates have not yet compressed as significantly.
“Dallas proved to be a very active net lease market during the third quarter in all sectors, but specifically office and industrial,” said Matthew Berres, Senior Vice President of JLL Capital Markets in the Los Angeles office. “Yield combined with high quality assets, economic strength and diversity is making many investors sacrifice location in a primary market and gravitate to a secondary market with strong credit quality.”
This shift to secondary and tertiary markets is happening at a time when, according to the most recent U.S. Net Lease Investment Outlook by JLL, net lease activity in the U.S. is down 20.5 percent since last year. Much of this decline occurred during the first half of 2016, followed immediately by a third quarter in which sale-leaseback volumes nearly doubled and single-asset transactions increased 3.5 percent year over year. The expectation is that net lease sales will continue to rebound in Q4, but will fall short in year-over-year comparisons.
“What I see in 2016 is that the market is normalizing if you look at a three-year average,” said Berres. “Exceedingly low cap rates over the past several years have allowed investors to monetize their assets that were purchased during the recession at above market cap rates, transition into new properties and enter into the next hold cycle. Portfolio volumes are down due to a significant amount of corporate sale-leaseback transactions that took place in 2015, but single asset transactions are up compared with last year.”
Throughout the third quarter, the U.S. office market was the only net lease asset type in the black for sales volume, with $15.8 billion representing a slight 0.3 percent gain from the prior year. Industrial net lease sales were at $8.6 billion, representing a 31.1 percent year-over-year decrease and retail was at $7.1 billion, a 37.9 percent year-over-year decrease.
In contrast – and within that activity – the nation recorded year-over-year single-asset sales volume increases of 26.2 percent for office and 1.8 percent for industrial. Sale-leaseback volume was up 9.5 percent for office assets nationwide and 13.2 percent for industrial. Retail continued to struggle with a negative 25 percent year-over-year change for single assets and an 87.9 percent decline for sale-leasebacks.
“Investors still have sizable allocations of capital for net lease, and both institutional and private investors are attracted to the net lease product given lease term length and structure, quality of the real estate and strength of the tenant’s credit,” said Berres. “We are anticipating plenty of opportunity and a strong outlook for the product type in 2017.”