However, multifamily and industrial, which were very popular in the post-pandemic period, may see further cap rate compression going forward. Multifamily cap rates increased 121 basis points from the second quarter of 2022, according to CoStar data. The sector finished 2023 at an average of 6.8%, which is on par with the 6.6% at the end of 2019 just before the pandemic, indicating that multifamily is resetting from temporarily lower cap rates. In contrast, the industrial sector has only increased 27 basis points over the same period, attributing this to strong fundamentals driven by inflated cash flows and demand for last-mile logistics centers. As inflation eases and tenants switch leases, cap rates are likely to rise further in certain industrial markets and subsectors.
While greater stability in both monetary policy and yields will ease borrowing costs, costs will remain elevated, and cap rates will remain elevated despite expectations of further declines in 10-year Treasury yields through 2026. The widening spread between long-term yields and CRE cap rates will restore investor risk appetite, drawing investors back into all commercial sectors as transaction volumes pick up from the second half of 2024 following rate cuts. However, valuation compression will be a major concern for owners looking to refinance or avoid distressed asset sales.