Cap rates after the rate cycle.

Between March 2022 and July 2023, the federal funds rate rose 525 basis points. Transaction volumes in commercial real estate fell 55–65% across asset classes. Office cap rates widened by 150–250 basis points. Multifamily cap rates widened by 75–125 basis points. Community retail cap rates widened by 50–80 basis points.

The relative resilience of community-retail cap rates is partly compositional — the asset class was never as aggressively compressed as office or multifamily during the zero-rate era — and partly fundamental. Community retail entered the tightening cycle with higher starting yields (6.0–7.5% for neighborhood strip centers versus 3.5–4.5% for multifamily), which meant the spread to risk-free rates remained positive even as Treasuries rose. At no point during the hiking cycle did the average community-retail cap rate fall below the 10-year Treasury yield — a line that multifamily and office crossed repeatedly between 2021 and 2023.

The spread story

At a 4.25% 10-year Treasury yield (approximate level as of early 2024), a 7% community-retail cap rate provides a 275-basis-point spread. This is compressed from the 350–400 basis-point spreads typical of 2018–2019, but it remains within the historical range and well above the effective spread available in most other real estate asset classes.

The important comparison is not community retail versus Treasuries — it is community retail versus the alternatives. Multifamily, repriced to a 5.0–5.5% cap rate, offers a spread of 75–125 basis points over the 10-year. Industrial, at 5.5–6.0%, offers 125–175 basis points. Office, at 7.0–9.0%, offers wider nominal spreads but with vacancy and re-leasing risk that makes the effective yield far less certain. On a risk-adjusted basis, community retail's 275-basis-point spread over Treasuries is arguably the most attractive position in the real estate capital markets.

What to underwrite now

For buyers entering the market in 2024, the discipline is to underwrite the cash flow, not the cap rate. A 7% cap rate on stable cash flow is a fundamentally different asset than a 7% cap rate on cash flow that includes above-market rents, near-term rollover risk, or deferred capital expenditures. The rate cycle has shaken out the tourists — the buyers who were in community retail for yield arbitrage rather than operational value creation — and the remaining transaction volume is dominated by operators who underwrite to a stabilized, post-capex cash flow rather than a trailing NOI.

The cap rate tells you what the market thinks. The cash flow tells you what you own.

Our acquisition filter has not changed: we underwrite to a 7.5% unlevered yield on stabilized cash flow, with a 12-month deferred-maintenance budget fully capitalized at close. If the deal does not pencil at those terms, we pass — regardless of where the market is pricing comparable assets. The rate cycle validated that discipline: every asset we acquired at or above our threshold has maintained its yield through the repricing. The assets we passed on — the ones that "worked" at a 6% cap rate with leverage — are the ones trading at discounts today.

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