Skip navigation
senior man with doctor
chart increase hanakaz/iStock/Getty Images

Cap Rates May Tick Higher

Market participants are already observing some pent up demand among buyers and sellers.

Mirroring the broader commercial real estate market, sales volume of seniors housing and care facilities dropped sharply in the second quarter, falling 66 percent year-over-year to $1.3 billion, according to Real Capital Analytics.

Overall, 41 one percent of survey respondents believe that transaction volume will decline over the next year, while 29 percent think it could increase and 30 percent said it will likely remain the same. A majority of respondents (58 percent) also expect it will take more time to close transactions over the next 12 months.

However, some market participants are already observing some pent-up demand among buyers and sellers. The question is when activity will resume. “Obviously, people’s programs for 2020 sales got pushed way back. So, our queue in terms of properties we’re analyzing for potential sale has never been bigger,” says Rick Swartz, a vice chairman and co-head of the Senior Housing Capital Markets Group at Cushman & Wakefield. Swartz expects some of those sales to start coming to market in late September with the fourth quarter of 2020 and the first quarter of 2021 likely to be busy investment periods.

On the buy side, there has been a lot of capital raised among some of the major seniors housing investors, including specialty funds and mixed-asset funds. “There is a significant interest in putting money to work and they want to see deals, but because of COVID they are being a little more cautious,” says Swartz. Although investors believe operators have a pretty good grasp of the impact of the virus on operating expenses, the biggest caution is around leasing, he says. Investors are looking for stabilized core properties, as well as those properties in strong submarkets with a history of good leasing prior to the pandemic, he adds.

About half of respondents (53 percent) expect cap rates to rise over the next 12 months, while 24 percent anticipate no change and 23 percent think cap rates could decline. That does show a change in sentiment compared to the 2019 survey in which 43 percent had predicted an increase in cap rates over the proceeding 12 months.

“What we have heard is that there hasn’t been a broad correction from a cap rate perspective or levered IRR target for investments. But we are seeing a more conservative approach to underwriting, particularly as it relates to the leasing velocity, says Jay Wagner, executive managing director and co-head of the Senior Housing Capital Markets Group at Cushman & Wakefield. The more conservative underwriting is impacting year-one numbers for projected NOI, which as a result is driving pricing down slightly, he adds.

Stabilized, core properties in strong markets are likely to see minimal or no impact on pricing. Meanwhile, situations with a value-add component requiring more leasing to raise occupancies could see discounts of 5 to 10 percent, he adds.

Pascoe also expects to see some distressed buying opportunities emerging over the next 12 months. At the same time, there is a lot of capital that has been raised that is looking for those opportunities. “Just how far we go into distressed pricing is still to be seen,” he says. Government programs, such as PPP loans have helped operators weather the challenges. However, if the virus continues to weigh on occupancies, those funds will run out at some point. “I do believe there will be opportunity, but I couldn’t tell you when,” he says.