CRE transaction volume is being hindered by a stubborn bid-ask gap

In order to advise subway users to cross the gap between the train entrance and platform, the phrase “mind the gap” was first used in England.

Today, a bid-ask transaction is the standard in commercial real estate, where bidders and sellers are divided by a chasm between their estimated values of a contract. Unfortunately, as MSCI stated in its Q2 2023 capital trends report, this pricing difference is significantly affecting deal volumes.

The observation is consistent with what many in CRE have reported as anecdotal to GlobeSt.com since September 2022, namely that deal transaction volumes have decreased significantly and that potential buyers and current owners are still too far apart on price expectations for higher levels of deal volume to close across most property sectors.

The industrial sector is the most evenly balanced, maybe because data suggests that rents are high and support buyers’ perceptions of their value. The price expectations gap, according to MSCI, shows that little movement is needed to bring buyers and sellers together, as volume is still elevated relative to history. Industrial is experiencing small price drops.

However, there are large gaps and declining volumes in the office, retail, and multifamily sectors, which creates a vicious cycle. Because it is more difficult to find supporting data for values, price discovery is required more when there are fewer transactions.

The worst of these, according to MSCI, is the office sector, where there is a 7.4% difference between buyer and seller expectations. A liquidity-adjusted version of the RCA CPPI for offices would have required a 17.6% YOY fall, according to the predicted gap, to bring volume to a more typical level for the quarter.

The company agrees that an “outside shock” for offices, such as significant distress sales, might draw customers back in while assisting in the creation of new prices that are acceptable to both parties. MSCI views this as a low-probability, unlikely optimistic take. Less optimistically, they stated that the price expectation difference would widen even further in the upcoming quarters.

The evidence implies that rising cap rates have been absorbed by pricing changes. All main property types, even the industrial one that was least impacted, have higher cap rates, according to the RCA Hedonic Series.

However, they added, Relative to the levels seen before the low-interest rates in 2021 and 2022, some sectors are still priced dearly. In the second quarter, industrial cap rates were 60 basis points lower than the average for 2015–19. In contrast, CBD office cap rates were 40 basis points higher than the pre-pandemic norm.