Commercial Property Sales Slow as Rising Interest Rates Sink Deals

Commercial real estate is showing the first signs of a slowdown in more than a year, disrupted by rising interest rates that are already wrecking some deals.

According to MSCI Real Assets, April home sales were $39.4 billion, down 16% from the same month last year. The decline was followed by 13 consecutive months of increases.

Hotels, office buildings, apartments for the elderly and commercial real estate recorded a sharp drop in sales. Sales of other property types, such as retail and apartments, rose in April, but analysts and brokers said activity could now be slowing in those sectors as well, as rising interest rates discourage some investors from making competitive bids.

In March, total commercial property sales were up 57% compared to the same month last year.

“That there was a very rapid pace of growth the month before — the speed of that transition is shocking,” said Jim Costello, chief economist at MSCI Real Assets. A drop in sales can be a leading indicator of stress in property markets, as prices typically change more slowly, he added.

After an early pandemic scare that saw sales of most types of commercial property fall, commercial property sales began to recover in late 2020. Low interest rates and strong demand, particularly from multifamily and industrial tenants, propelled home sales throughout 2021 and into this year.

Now that interest rates are significantly higher — the yield on 10-year Treasury bills, a common benchmark for commercial mortgages, has nearly doubled this year — real estate investors, reliant on heavy debt, are among the first to emerge from the crisis advised the market, brokers and investors.

In some cases, investors find that their short-term rate of return is less than their mortgage rate as the cost of borrowing has increased. Lenders, in turn, are now tightening their standards for more speculative deals, brokers said.

In certain sectors, such as smaller industrial and retail real estate, potential buyers who wrote letters of intent to buy real estate weeks ago are now dropping their bids because borrowing costs have risen so rapidly, said Joshua Campbell, senior vice president at Stan Johnson Co., a commercial real estate agent.

“That wasn’t the case two or three years ago,” said Mr. Campbell.

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Other investors are turning away from deals that are already under contract. According to a person familiar with the matter, Innovo Property Group recently backed out of an agreement to purchase an office tower in Midtown Manhattan for $855 million after rising interest rates made it harder to find a mortgage. The reversal meant the investor lost its $35 million deposit, according to another person involved in the transaction.

Rising interest rates in recent weeks have left many investors with the choice of losing their deposit or paying much more than expected on their mortgage, said Jay Neveloff, partner at law firm Kramer Levin Naftalis & Frankel LLP.

Most have moved forward with planned purchases, he said, but other investors are now more cautious about signing new deals. This will inevitably depress prices. “Pricing must not be blind to changes in capital markets,” said Mr. Neveloff.

As the buyer pool narrows and interest rates rise, sellers will be more likely to make concessions to close deals, said Henry Stimler, a senior executive in the multifamily capital markets division at real estate firm Newmark.

His firm recently brokered the sale and financing of a $457.5 million multifamily portfolio focused on the Carolinas, where rental growth has surged over the past year.

“It’s now becoming a buyer’s market,” said Mr. Stimler.

write to Will Parker at will.parker@wsj.com and Konrad Putzier at konrad.putzier@wsj.com

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