The truth about interest rates and financing.
The headlines surrounding interest rates and financing can be scary…but, thankfully, the truth is much less so.
Yes, interest rates are higher than they have been over the past few years. But, historically speaking, they’re still relatively low. And, the reality is, if you’re looking for a commercial or industrial property for your business, the interest rate is only one factor to consider. There are far more significant issues to think about.
We sat down with Bruce Rydeen, owner-agent at CERRON Commercial Properties, to discuss his perspective on interest rates, including a historical look at interest rates and his experience over his 20 year career with what changing rates actually mean for buyers. Here’s what he had to say.
What is your perspective on current interest rates and their effect on the commercial real estate market?
This has been a topic of a lot of client conversations recently. And people are obviously concerned, because interest rate percentages have gone from the mid-to-high 4s to the low 6s, which feels like a big shift. And, certainly when it comes to some investment properties, higher rates make those deals more challenging.
But, if you go back and look at the history of interest rates, there are two main things you’ll notice:
- Rates (high or low) don’t last forever. They typically run on about a 3-4 year cycle (or sometimes longer), and we’ve just come through a longer period where they were on the lower end.
- Historically speaking, current interest rates are relatively normal. Looking at historical interest rates, 6% is not that abnormal if you consider trends over the last 50 years. Over the past 6-10 years, rates have been abnormally favorable. But the market has to adjust at some point, as we’re seeing now.
What does this mean for clients? How do changing rates affect their deals?
So what do rising interest rates really mean for a commercial real estate purchase? It depends a little on the type of purchase the client is making.
When it comes to investors, interest rates can be a bit more of an issue, because higher rates take more of a bite out of their return.
For example, on a 2 million dollar deal, with a 20-year mortgage rate at 4.75%, the monthly payment would be about $11,400 a month for principal and interest. At 6.25%, the same mortgage would be $13,194 a month. So it’s almost $2,000 a month more ($24,000 a year), which is significant—but it isn’t disastrous.
However, an owner/user client will be less impacted by higher interest rates.
For this buyer, the question that’s more important than the interest rate is whether the facility works for their needs and is good for their business. Does the building function properly? Does it get you what you need? Does it supply room for growth? These are the questions they should ask when buying.
Facility costs are only one component of the total cost structure for a business. For many businesses, the return on the business itself is greater than the return on their real estate.
Owner/user buyers should also look at their options with the Small Business Administration (SBA). The SBA 504 program, for instance, is now below 6% interest, which is quite favorable. So for those who qualify for SBA, that’s another tool they can use to bring down their interest rate.
What are the primary factors clients should consider when deciding to buy or build in this market?
There are three main factors clients should consider when buying or building a new facility (and these are true regardless of interest rate):
- Location
- Whether the facility works for your needs
- (If you’re buying) The overall quality of the product
or
(If you’re building) Defining needs vs wants: What you need to have to run your business versus what would be nice to have.
Ultimately, the main conversation should be around the viability of the property—whether it will meet your needs.
In addition, buyers have to be prepared to pay at least the asking price if they want to buy in this market. There’s not as much inventory now as there was 5-7 years ago, and things are selling at full asking price.
Would you recommend refinancing (assuming interest rates go down at some point)?
Yes. What I advise clients to do is to get a mortgage with the ability to refinance. Then, if rates go down, you can refinance to a lower rate. The common thinking is that rates will go down at some point…the question is when.
How have your clients reacted to the higher interest rates? Have you had clients who felt it was a good time to buy, despite rising interest rates?
Yes, we’ve definitely had clients who felt it was the right time for them to buy. Two in particular come to mind:
- We did a deal last year where the buyer just felt it was a good time for him to buy. The building was in good proximity to where he wanted to be and fit his long-term needs.
- We also worked with another client in purchasing investment property—a quality, tenant-occupied asset. Yes, the interest rate at the time stung a little bit, but again, the client decided that based on a long-term view, it made sense as a good investment.
These are good examples of the fact that interest rates are only one factor to consider in your decision to purchase commercial or industrial real estate. In many cases, there are factors that make it the right time to buy…regardless of interest rate.
Your focus is on properties south of the river, primarily in Scott and Dakota counties. How does the commercial real estate market differ in this region vs areas like downtown Minneapolis?
We don’t do much work in downtown Minneapolis, so what I know is only what I’ve heard—that there’s some stress, particularly in some larger office spaces downtown, with high vacancy rates, and so on.
The area we work in is a whole different animal.
Most of the cities in Scott and Dakota counties are pretty receptive to progress and new projects, and have pretty good processes in place.
Also, in the Minneapolis area, the opportunities are more around redevelopment. In Scott and Dakota counties, we have more opportunities for new developments, simply because we have more land to work with.
What are you seeing in terms of commercial real estate inventory in the current market?
It varies a bit by industry and location, but generally speaking, inventory is low.
In our market, there’s not much inventory for industrial properties. There’s some, but the market is pretty tight. And retail, believe it or not, is pretty tight as well. Most of the retail options in this area are full.
We do have some office inventory—maybe a little more than we’ve had historically, but nothing like what you hear about in downtown Minneapolis. Our office vacancy rates aren’t extremely high, but there is some office space available.
In general, south of the river, there’s not a lot of new properties being built, due to cost pressure. That’s bound to change, however. As current facilities remain full, people will have more courage to build at higher costs.
But right now the market’s pretty tight.
What makes CERRON Properties different from the competition?
When a client comes to us, we first do a three-way analysis—lease, buy, and build. We run numbers for all three scenarios to help the client determine which is the best choice for them.
While we’re not unique in that approach, where we have a bit of an advantage is with our relationship with APPRO Development. We have a full-service bundle: we can help a client whether they choose to build, buy, or lease.
Also, APPRO Development has a strong track record of being at or below budget. So much of this business industry-wide runs on change orders…and that just doesn’t fit our philosophy. We like to under-promise and over-deliver.
Ultimately, CERRON Properties’ relationship with APPRO Development allows us to offer more to our clients.
If you’re in the market for commercial or industrial real estate, don’t let concerns regarding interest rates and financing stop you. At CERRON and APPRO, we offer a broad range of commercial and industrial property services, and we’d love to help you find the right solution for your needs. Contact us to start the journey to finding your new property.
Disclaimer: Neither APPRO Development, Inc., nor CERRON Commercial Properties, LLC, nor any representative of either company or of any third party affiliate, are supplying investment, tax or other financial advice. As with any financial decision, you should contact your financial, tax, investment or similar professional, for advice and guidance for your specific situation and current needs. The information provided in this article is for informational purposes only.