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Commercial-Property Buyers Optimistic Even as U.S. Economy Slows, PwC Says

Commercial real estate investors are optimistic that a U.S. industry recovery will continue even as the economy shows signs of slowing, according to a report today from PricewaterhouseCoopers LLP.

A lack of new supply and low interest rates are helping to drive investor interest in commercial properties, PwC’s New York-based unit said in its quarterly report. Capitalization rates, which decline when real estate prices increase, fell in 27 of 31 markets surveyed.

Buyers are pursuing deals as the market improves, and concern that that the economic recovery will falter has deterred “very few” investors from acquiring assets, PwC said. The Standard & Poor’s 500 Index has fallen 5 percent from this year’s high on April 29 after signs of slower U.S. growth, including data showing that employers in May added the fewest jobs in eight months.

“The lack of oversupply, strong corporate earnings and a pattern of job creation, not just one bad report -- that’s what is fueling cautious optimism that the economy will recover and rents will rise,” Mitch Roschelle, partner at PwC’s U.S. real estate division, said in a telephone interview yesterday.

There will be “very few additions” to the commercial- property supply in the near term, which will help absorb existing space and drive up rents as tenant demand increases, according to the report. Lease rates remain below peak levels for most property types and increased in 25 of 31 markets surveyed.

Office Buildings

Office properties led cap-rate declines in the second quarter, the report showed. The average cap rate for office buildings in central business districts was 6.95 percent, down 1.2 percent from a year earlier. Cap rates, a measure of yield, are net income divided by the sales price.

“The notion of rent increases is exactly what’s fueling the lowering of the cap rate and the raising of the values,” Roschelle said.

The Northeast is the strongest office market, with nine out of 10 regions surveyed in recovery or expansion this year.

Most investors polled expect cap rates for all property types to hold steady or fall in the next six months, PwC said.

Multifamily buildings are leading the industry’s recovery. They had the lowest average cap rate in the second quarter at 6.1 percent, down 1.6 percent from a year earlier.

Two-thirds of investors view current market conditions as favorable to sellers, and all 81 multifamily markets surveyed are expected to be out of recession by the end of the year, according the report.

A potential challenge of a commercial real estate recovery is the “dark cloud” of mortgage debt, PwC said.

“Surveyed investors are treading carefully as they realize that troubles could arise if interest rates rapidly increase at the same time and a large pool of commercial maturities peaks over the next two years,” Susan Smith, editor-in-chief, said in the report. “If those factors play out, overall cap rates would likely rise and negatively impact property values.”

To contact the reporter: Ashwin Seshagiri in New York at aseshagiri@bloomberg.net

To contact the editor responsible for this story: Kara Wetzel at kwetzel@bloomberg.net.

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