It’s not uncommon for a Commercial Real Estate (CRE) investor to view rising interest rates with a watchful eye. Industry-driven data often reflects a distinct correlation between rising rates and declining property values, but sometimes it’s best to look at the bigger picture, asserts a recent report from TIAA Global Real Assets Research.
Today, investors calculate capitalization (cap) rates to gauge CRE pricing; in essence, cap rates indicate the rate of return on a real estate investment property. The rate of return is calculated by comparing the property’s Net Operating Income (NOI) with a price-to-earnings ratio.
According to the report, historic data proves that rising interest rates do not necessarily play a major factor in total performance. Instead, property performance has remained resilient, despite rising rates. For investors, it’s best to consider how the property performs overall in conjunction with rising rates.
The report went on to say, “more importantly, historical data show that changes in treasury yields do not necessarily result in changes in cap rates. Even assuming lags between interest rate and cap rate changes, analysis found no statistically significant relationship between the two variables.”
TIAA Global Real Assets Research states that interest rates and cap rates have a complex partnership and should not be considered equally when analyzing CRE market data. While admittedly, property performance is highly dependent on the economy and market environments, the ultimate impact of a fluctuating interest rate is almost impossible to predict.
From the 1980s to today, history has shown several times in which cap rates and interest rates don’t align, and even sway in opposing directions, according to EY. In the end, factors including changes to supply and demand, transaction activity and economic trends all impact the trajectory of cap rates and real estate values.
Stefanie Donahue is a freelance writer based in Bellingham, Washington. She’s a well-versed communicator with an extensive background in journalism and media production. Her writing draws from the insight of industry experts to uncover best practices for real estate investors.