Sir Isaac Newton’s Third Law of Motion states that for every action there is an equal and opposite reaction. In the world of commercial real estate, the law might be applied — loosely — to the relationship between employment growth and cap rate compression.
In a new report from commercial real estate brokerage CBRE entitled “Cap Rate Dynamics,” the firm dissects the close, and surprising, correlation between the two.
“There is quite a clear relationship between job growth and cap rates,” CBRE writes. “The greater number of jobs added, the lower the cap rate.”
The firm also notes that cap rates have compressed — pushing up prices for assets — as employment gains have taken hold.
“The U.S. economy has been growing for more than eight years — the second-longest expansion since the 1850s — and average cap rates for U.S. commercial real estate have fallen throughout that period.”
Cap rates, or capitalization rates, are percentages that help calculate the value of income streams produced by properties or portfolios.
CBRE’s data shows that while the total number of U.S. jobs has bounced up by 9% in recent years, cap rates have fallen to an average 6.5% in the central business district office sector.
Using federal Bureau of Labor Statistics and its own data from mid-2009 through mid-2018, CBRE contends that markets such as Dallas/Fort Worth; Houston; Atlanta; and Chicago, among others, have experienced “less cap rate compression than the trend line would suggest based on the number of jobs added” and are “most likely to see cap rate compression in the future.”
Hot Florida markets like Tampa and Miami, in particular, fall below the CBRE trend line comparing cap rate ratios and the number of jobs added.
But the two cities are in good company in regards to growth and investment, clustered among Charlotte, N.C.; Nashville; San Diego; Philadelphia; and Raleigh, N.C. CBRE’s data suggests that falling cap rates have corresponded with the total number of jobs added during the nine-year period that was measured.