A Changing NNN Market

Despite ongoing Fed restriction of monetary supply and rising interest rates, financial conditions have relaxed in recent months. But curiously this laxity, together with a strong labor market, suggests that the Fed may continue to hike interest rates. Experts say that we can expect to see waves of inflation and interest rate hikes (and declines) in the next five to ten years. In other words, inflation won’t exactly go away, one way or another, for the short and medium term.

On fixed-rate, bond-like, triple-net lease NNN properties, landlords cannot increase a property’s rental income to offset rising costs since most rents are negotiated years in advance and, any escalations are nominal for the lease term. This long term, contractual rigidity makes inflation a major challenge for NNN landlords and investors. And these are a few ways in which net lease investors and landlords are in a changing NNN market and adapting to this “new inflationary normal”:

 Sale-leasebacks are becoming popular within restaurants, warehousing, medical practice triple net lease tenants;

 Municipal appraisers have used cap rates that are not current or inflation-adjusted or risk-adjusted properly for NNN properties, thus leaving assessed values for ad valorem municipal property taxes to be inflated – this will require massive vigilance and appeals by investors;

 Triple net lease investors are in a flight to quality by: a) better vetting and understanding tenant businesses and obtaining solid financial guarantees and b) cherry picking tenants that will not struggle during economic troughs;

 Landlords are sharing more information with tenants and talking about much more flexibility in lease terms and rent structures. Such collaboration and the levels of engagement are very different versus previous inflationary economic cycles;

 Because of soaring industrial demand many NNN industrial properties are overpriced, which includes investors paying a premium price;

 Shorter net leases (5-7 years) and greater flexibility in lease terms are being negotiated to accommodate net lease market volatility;

 Athleisure, restaurants, discounters, groceries, apparel, and theaters, fitness centers and entertainment venues – these are all top performing NNN retail categories;

 Other classes of users and investors are rapidly entering NNN lease structures, including office, veterinary, professional services, industrial, schools, gyms and medical

 NNN department store tenants are offering shop-within-a-shop concepts and boutique department store concepts like Market by Macy’s and Bloomie’s;

 Strong regional and local tenants are being increasingly being used concurrently with investment grade tenants by net lease landlords.

The Federal Reserve has announced multiple increases in interest rates to lower consumer demand, which will impact cap rates eventually – even if cap rates are holding steady right now. Some studies predict that if inflation and interest rates continue to trend upward, this dynamism will have a big negative impact on the NNN asset valuations. However, other experts believe that the future rise in rates has already been baked into current net lease valuations, and interest rates will not continue to rise as seen prior. In essence, if the Fed does not push too far on rate hikes NNN markets will slow, but not implode.

Your team of advisors at the Triple Net Investment Group, have successfully navigated for hundreds of repeat NNN investors through decades of business cycles, and can offer unique, actionable insights into your net lease investment opportunities today. Contact us today for a free consultation at 202-361-3050.

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