HOW INFLATION AFFECT COMMERCIAL REAL ESTATE

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HOW INFLATION AFFECT COMMERCIAL REAL ESTATE
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What is Inflation?

• Inflation refers to an increase in the general
  level of prices for goods and services in an
  economy over a period of time, which causes each
  unit of currency to lose purchasing power over
  that time period.
• Inflation is generally low for commercial real
  estate investors because it means that their
  properties are gaining value over time. The
  higher the inflation rate, the more valuable your
  investment will be. For example, if you purchase
  an office building for 100 million and then sell
  it five years later for 110 million, you will
  have made 10 on your investment annually even
  though there were no major changes to the
  building itself!

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How Inflation Affects Commercial Real Estate

• Inflation drives up interest rates on loans -
  Interest rates on commercial real estate loans
  are usually tied to the Federal Reserves policy
  on short-term interest rates. When inflation
  rises, so do short-term interest rates, which
  means that lenders will charge higher interest
  rates on loans to cover the additional risk
  theyre taking by lending money at higher rates
  of return.
• Inflation makes real estate worth less in dollars
  -  As prices rise over time, the same amount of
  money buys fewer goods and services including
  commercial real estate. This means that owners
  net income falls even though their gross revenue
  may increase because theyre paying more in
  operating expenses such as property taxes and
  utilities.

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• Inflation increases rents - Rents increase as a
  result of inflation because landlords pass on
  their increased operating costs to tenants. So,
  if the cost of operating your business goes up by
  10, then you will need to increase your rent by
  at least 10 to maintain the same profit margin.
  In some cases, landlords may even be able to
  increase their rents beyond these levels due to
  market conditions and lease clauses.
• Inflation increases the value of cap rates - Cap
  rate is a measure of return on investment (ROI).
  It tells you how many years it takes for an
  investors money to double when invested in a
  property or other assets such as stocks and
  bonds. 

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