The Fed’s rate changes in 2024 have set the stage for renewed market activity, says Cliff Booth of Dallas-based Westmount Realty Capital.
The Federal Reserve’s interest rate policy shift has profoundly impacted the commercial real estate market, particularly since the central bank began aggressively hiking rates by 525 basis points starting in 2022 to tame inflation. This dramatic shift from historically low rates created significant uncertainty, causing a widening of bid-ask spreads. However, recent developments—including three rate cuts totaling 100 basis points in 2024 and a U.S. presidential election outcome—have led to narrowing spreads and improved market sentiment as we shift into 2025 with opportunities for increased transaction volume.
Over the past few years, heightened uncertainty and recalibration of asset valuations has led to significantly widened CRE bid-ask spreads across property types in the wake of the Fed’s rate hikes. This resulted in a prolonged period of price discovery in which sellers were reluctant to adjust pricing downward from pre-2022 valuations to reflect higher borrowing costs and increased cap rates, while buyers sought pricing adjustments to account for more expensive borrowing costs.
At the heart of this disconnect lies the fundamental relationship between CRE valuations and interest rates. As borrowing costs rose, the net present value of future cash flows declined, leading buyers to lower their offers. The rapid pace of rate increases left both buyers and sellers uncertain about the future trajectory of rates and economic conditions, leading to a mismatch in pricing expectations. Higher financing costs curtailed deal activity as potential buyers struggled to secure favorable loan terms, reducing transaction volume. Similarly, many sellers were not forced to capitulate to a new market environment. Instead, they continued to hold and worked with lenders on other underperforming deals utilizing loan extensions and modifications. CBRE reported that the average bid-ask spread for Class A office properties in major markets widened to approximately 10 to 12 percent in late 2022, up from 5 to 7 percent in 2021. JLL noted similar trends across industrial and multifamily assets, with spreads expanding by 8 to 10 percent in key Sun Belt markets.
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