Self storage executives at the recent New York Self Storage Association’s 2022 Investment Forum expressed confidence that pricing will remain firm in the face of rising loan rates, citing the sector’s robust investor demand and strong operating performance.
More than $15 billion of self-storage properties traded in 2021, according to Yardi Matrix, more than double any previous year, while prices hit all-time highs. But the recent spike in interest rates is putting the market to the test. The 10-year Treasury rate, which often is used as a proxy for the “risk-free” rate to price transactions, has increased about 150 basis points since January. That has increased fixed mortgage rates commensurately. “In a short time, the cost of capital has spiked dramatically,” noted Tom Hughes, director at Harrison Street Capital.
Panelists at the event in Tarrytown, N.Y., said that the sector is well positioned to thrive in an inflationary environment because income comes from short-term leases and that customer demand is poised to grow because of lifestyle trends.
“There will be some softening of cap rates, but not as large as it should be given the increase in interest rates,” said Brandon Goetzman, a managing principal at the Blue Vista Equity Group. Goetzman was speaking as part of a NYSSA panel moderated by event organizer Nick Malagisi, a managing director at SVN Commercial Real Estate Advisors.
Banks are responding to the rising rates by reducing the amount of leverage they are willing to provide. NYSSA panelists said deals that featured 70% loan-to-value ratios are being lowered to 60% or 65%, with some transactions seeing high bidders drop out as a result. “Some deals are retraded because the winning bidders are not able to perform,” said Devin Huber, a founder of the BSC Group.
How much impact will the increase in financing costs have on acquisition yields? In order to maintain current pricing levels, investors will either have to cut already-thin premiums over the risk-free rate or underwrite continued large growth in rents.
Christian Sonne, an executive vice president at Newmark, said that in self storage the average transaction over the last quarter-century was priced to yield a 3.84% premium over the 10-year Treasury bond. More recently, as storage prices have climbed, investors’ premium has been 1.88%, about half the long-term rate, Sonne said. “I’ve never seen such compressed spreads,” he observed. “Folks are relying on appreciation, not cash flow.”
Yet many in the sector believe that cash flow will keep rising at above-trend levels and prices will remain firm in the face of rising rates. Self-storage rents increased by 10% in 2021, per Matrix, as demand skyrocketed due to demographic and lifestyle trends that were exacerbated by the pandemic.
“The pandemic has created structural growth in self-storage demand,” Sonne said. Investors “believe it is a haven against uncertainty and a hedge against inflation.”
Read the full analysis: NYSSA: Self Storage Prices to Hold Firm as Demand Rises