Real Estate Watch: Airport Area/Central Coast
Investors Buy Into Airport Opportunities
By GARY STACHE
Demand for commercial property investment in the John Wayne Airport area is surging for all types of space, thanks to a weak economy and low money market returns.
This increased demand has resulted in premium prices for properties.
Demand for industrial warehouse investment is strong. Vacancy rates are tight and tenant rollover costs are the lowest of all types of space.
This has resulted in capital rates,which factor in interest rates to come up with a present value,of 7% to 8%.
Vacancy for multitenant industrial “incubator” space also is low due to the lack of space in and around the airport area. As a result, cap rates have dropped 50 to 75 basis points in the past six months to 8.25% to 8.75%.
And vacancy virtually is nonexistent for retail space with good locations in the John Wayne Airport area. Retail rents are expected to increase.
Retail, which has investors actively interested after making a comeback in the past few years, is seeing cap rates from 7% to 8.25%.
Demand for office space in the John Wayne Airport area is lower than industrial or retail space. Still, class A and class B space is attractive in the area vs. other regions of Orange County and California.
Investors, realizing the office market is down, see this as a rare opportunity to buy office buildings in the airport area.
Because of the strong demand, cap rates have started to drop to the 8.5% to 9.25% range.
But cap rates don’t tell the whole story.
The real news is the leveraged returns that investors are seeing thanks to the disconnect between cap rates and interest rates.
With interest rates at a 40-year low, the positive leverage,the increase in return between the cap rate and the interest rate,is incredible.
For instance, investors can buy office space at a 9% cap rate and borrow at 6.25%. That yields a pretax cash flow of 11% before taking future appreciation or depreciation into account.
Investors are looking to take advantage of this leverage that they may never see again.
Some owners say they don’t want to buy at these prices and plan to wait until cap rates go up.
But they’re not considering that once the economy improves, interest rates rise faster than cap rates. For instance, if interest rates increase 150 to 200 basis points, cap rates are likely to rise 50 to 100 basis points. So, while cap rate pricing will be better in the future, leveraged returns won’t be as high as today because the spread will decline.
This is a rare market: both buyers and sellers can take advantage of the disconnect between cap rates and historically low interest rates.
Stache is a senior vice president with CB Richard Ellis’ Private Client Group in the Newport Beach office.
