Podcast: The Sky’s Still Intact, but the Deals are Falling Apart

Location Cubed

Key Points: 

• Real estate deals are folding due to increased interest rates
• Specific asset classes will feel the sting of interest rate hikes more than others
• Cap rates could rise to similar levels as interest rates

This episode of Location Cubed has a little bit of everything. Weaver’s Howard Altshuler spilled the beans about his vacation trip to Boston, which included stepping inside the iconic “Cheers” bar. Altshuler was surprised by the city’s fantastic development, especially in the seaport district where there is a lot of mixed-use development, all accessible on foot.

But all isn’t sunny in the development world. Deals are falling apart. What are the causes? There’s that thing called rising interest rates. The feds have raised interest rates twice this year, and with indications that there could be additional raises on the way.

“From the standpoint of real estate, things aren’t working anymore,” Altshuler says. “Because the higher interest rate on the base creates a potentially bigger credit risk. Instead of LIBOR (London Interbank Offer Rate) plus one hundred fifty, now its LIBOR plus two hundred, so you’re getting a double whammy here.”

“The challenge comes when deals are proforma’d out at one rate, and later the rate is increased,” says Weaver’s Rob Nowak. “Either the parameters of the agreement need to change, or the deal is dead. I’ve seen anecdotal evidence from the media, and our client base. Some folks are taking the lesser of two evils option, saying it’s better to walk away from this deal.”

Altshuler believes walking away isn’t necessarily the first step but perhaps a renegotiation tactic to return to the seller and look for a different pricing structure could be negotiated. Office space and industrial assets are a couple of areas where long-term pricing strategies come into the mix when considering the value of a current deal. These types of assets may not have the flexibility to stay in a deal without restructuring pricing.

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