Investment in net lease office real estate more than doubled in the second quarter of this year, going up by 65.7 percent compared to the second quarter of 2018 to $8.2 billion, according to research from real estate services firm CBRE. Investment in net lease real estate overall, including office, industrial and retail properties, increased by 33.8 percent to $20.6 billion—a record since CBRE began tracking the market in 2002.
The sharp increase in investment in the office net lease sector involved some very big deals, including the sale leasebacks of Manhattan's 30 Hudson Yards for $2.2 billion, two San Francisco assets, Park Tower at Transbay for $1.1 billion and Youtube's headquarters for $221 million; and GE's global headquarters in Boston for $252 million.
With the stock market on a roller coaster ride and looming potential for a recession, there is a flight to safety among investors, and net lease properties offer compelling risk-adjusted returns, says Will Pike, vice chairman and managing director of CBRE”s net lease practice.
“Today, with warning signs of a coming recession, net lease real estate is especially attractive to investors, as these assets can provide steady returns during a recession, as opposed to the potential volatility in the stock market,” adds Marc Imrem, managing director of the national net lease and sale leaseback group with real estate services firm Transwestern.
For example, Imrem notes that the 10-year U.S. Treasury bond today offers a 1.723 percent annual dividend, which means a $1 million investment would only yield a dividend of $1,723 annually. But investment in net lease assets could generate a 5.0 to 7.0 percent annual return. In addition, Imrem notes that with the Federal Reserve setting the annual inflation goal at 2.0 percent U.S. bonds won’t keep pace with inflation.
Investment sales of all three net lease property types involving institutional and private investors rose by 45.9 percent to $8.0 billion and 46.5 percent to $10.5 billion, respectively, in the second quarter. International investment in net lease real estate, however, jumped by a whopping 78.4 percent, to $3.9 billion—the second highest quarterly total on record. By contrast, cross-border investment volume in the broader U.S. commercial real estate market declined by 37.6 percent during the same period, notes Pike.
International buyers represented 18.8 percent of net lease transaction volume, with Canada, Germany and South Korea investors in the lead, according to CBRE. Net lease assets in New York City, San Francisco, Miami, Houston, Los Angeles and Chicago attracted the most foreign capital. Foreign investors prefer office and industrial assets because they tend to invest large amounts of capital in large assets or portfolios, noted CBRE researchers.
“There’s a tremendous amount of global capital flowing into U.S. net lease real estate,” says Pike, noting that foreign institutional investors are attracted to net lease real estate for similar reasons as U.S. institutional investors. “It is difficult to determine the precise amount of foreign equity being deployed into office transactions without clarity of the full capital stack of each transaction,” he says, but a couple of the top five largest office net lease assets trading hands in the second quarter involved partnerships with foreign investors.
The U.S. net lease market offers foreign investors better yields than bond opportunities in their own countries, Imrem adds, noting that bonds in some foreign countries, especially in Europe, provide negative returns.
PPike predicts the upward trajectory of investment in net lease assets will continue through the rest of the year and will likely surpass the total reached in 2018.
