Key Takeaways:
· The FOMC is holding rates steady with two potential rate cuts on the horizon, the net effect of multiple economic drivers is yet to be seen
· More capital is pivoting towards the stable, recession resilient returns offered by healthcare real estate as an asset class
· Lower overall cost of debt combined with the increased demand for exposure to healthcare real estate from investors should begin to reduce the bid-ask spread and thus increase transaction volume
While geopolitical and economic uncertainties like international tariffs and unemployment persist, monetary policy, particularly the federal funds rate, remain at the forefront of our minds. The Federal Open Market Committee (“FOMC”), the Federal Reserve’s primary monetary policymaking body, is responsible for setting interest rates and managing the money supply to achieve maximum employment and price stability. The FOMC is comprised of 12 members, convenes eight times annually with the most recent meeting held on March 19th. As expected, the FOMC maintained the federal funds rate within the current range of 4.25% to 4.50%. Based on the Federal Reserve’s recent dot plot and market forecasts, two interest rate reductions are anticipated this year, which would result in a federal funds rate of 3.75% to 4.00%.
What would lower rates mean for healthcare real estate investors?
Lower Borrowing Costs – Historically, a reduction in the federal funds rate has translated into lower interest rates across the board for new loans and refinances. However, as we’ve seen after the most recent rate cuts in 2024, heightened macroeconomic uncertainty could drive yields higher.
Reducing the “Bid-Ask Spread” – Lower all-in borrowing costs due to lower index pricing allows investors to be more aggressive with underwriting which will help reduce the gap between many buyers and seller expectations.
Expansions and Developments – Health systems and physician groups may be more inclined to pursue developments or renovation projects that are too costly during elevated-interest rate environments.
Increased Investor Confidence – A clear signal from the FOMC that it is willing to lower rates can boost investor confidence, leading to increased investment activity.
In anticipation of these potential rate adjustments, healthcare real estate investors are strategically positioning themselves to adapt to the changing capital markets tide. Below is a summary of these observable shifts in investment sales, equity, and debt financing within the Medical Outpatient Building (“MOB”) space.
INVESTMENT SALES AND EQUITY
New Entrants – Strong and recession resilient fundamentals are causing capital to shift their allocations from other asset types into healthcare real estate. Additionally, new equity continues to enter the MOB space through the raising of new funds and structuring of programmatic and single-asset joint ventures.
Core Cap Rates – Several core deals have recently traded in the mid to high 5% cap rate range and we expect core cap rates to remain within this range, with the potential for further compression as more core capital re-enters the market.
Return Requirements – Incorporating the expected cut in federal funds rate this year, core-plus return investors are generally targeting a levered internal rate of return (“LIRR”) between 9.0% to 12.0% and value-add return investors are targeting LIRRs in the mid-to-high teens.
Deal Size – We anticipate larger MOB deals and portfolios to become more prevalent, overshadowing the recent trend of MOB deals in the $15M-$30M range.
DEBT FINANCING
Treasury yields have dropped 30 basis points since the new year increasing accretive debt options through lender liquidity and diversity with the below summary of insights:
Liquidity – The number of lenders “in the market” has increased significantly, in addition to a greater variety of debt options, including bank, credit union, life company, CMBS, and private credit lenders, all looking to increase their exposure to healthcare.
Spreads – Spreads have slowly begun to decrease over the past six-to-nine months. Depending on the detachment point, we have seen spreads from the low 100s to low 200s for core / core-plus MOBs.
Loan-to-value – Debt service coverage ratios are unlikely to restrain proceeds and loan-to-value (“LTV”) stipulations will max out between 60% and 70% LTV, based on 2024 to year-to-date 2025 cap rates.
Proceeds – The sweet spot for loan amounts is $15 million to $25 million, with increased lender interest in larger single-asset and portfolio loans, provided the collateral provides ample debt service coverage.
In summary, the MOB market is experiencing a period of transition, marked by both cautious optimism and strategic maneuvering. Investors are navigating current opportunities in unpredictable waters, buoyed by the sentiment that favorable industry fundamentals, a reduction in the federal funds rate, softening inflation, and increased equity and debt capital will continue to support the market’s positive trajectory.
Jordan Selbiger
Executive Vice President Jordan.selbiger@colliers.com
CJ Kodani
Senior Vice President cj.kodani@colliers.com
The full content of this article is only available to paid subscribers. If you are an active subscriber, please log in. To subscribe, please click here: SUBSCRIBE
