Federal Reserve Cuts Rate, First Time Since 2008

Fed action reduces upward pressure on cap rates

This week the Federal Reserve cut its federal funds rate today by 25 basis points (bps) to a range of 2.0% to 2.25%. This cut represents a marked change in the direction of monetary policy in the first half of 2019, following a hike of 25 bps in December 2018. Responding to evolving market conditions, the Fed also announced that it will end its balance sheet reduction program in August 2019, rather than previously planned in September.
 
There are two primary reasons for the Fed's change in policy direction, resulting in this week's rate cut.

First, global economic growth has slowed and other central banks have taken more accommodative policy positions. Beyond current conditions, the growth outlook is more clouded as trade tensions continue.

Second, inflation remains stubbornly below the U.S. central bank's target of 2%, giving the Fed room to maneuver.
 
Commercial real estate consultant CBRE also reports the U.S. economy remains generally healthy in 2019 as indicated by GDP growth, low unemployment, continued wage gains and strong consumer sentiment. But even with positive growth, signs of uncertainty began to show up in the economy--as evidenced in last week's GDP report --with softness in exports and business investment.

Essentially, this cut amounts to insurance against any further economic slowdown. The Fed's action likely will reverberate across the global financial system and investment landscape as other monetary authorities--particularly in emerging markets--respond to policy changes by the world's most powerful central bank. While the FOMC vote was not unanimous, the Fed showed by its words and actions that it will act to sustain the economic expansion.

Spencer Levy, CBRE's Chairman of Americas Research & Senior Economic Advisor says, "The current state of the U.S. economy remains supportive of CRE fundamentals. As uncertainty and slower global growth weigh on returns in other asset classes, the relative attractiveness of U.S. real estate will influence capital flows. Lower hedging costs will also support more international investment into U.S. property markets. This week's rate cut will support these dynamics."

Implications for Commercial Real Estate in the U.S.
 
At the start of this year, CBRE's view was that various factors would exert upward and downward pressure on cap rates, effectively canceling each other out. That balance has shifted: As uncertainty and slower global growth weigh on returns in other asset classes, the relative attractiveness of U.S. real estate will influence capital flows.

Additionally, lower hedging costs will support more international capital flows into U.S. property markets. Today's rate cut will support these dynamics. As a result, there may be some incremental cap rate compression in some markets and property types as lower interest rates reduce upward pressure on cap rates.
 
CBRE expects continued growth amid lower-than-expected interest rates and growth close to its longer-term trend of 2% in 2019. Broadly speaking, these economic conditions are supportive of U.S. property market fundamentals. Nevertheless, a more clouded outlook with slowing global growth and geopolitical and trade tensions presents some risks to real estate demand drivers. Today's cut will provide some protection from these risks.