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Market Update

Quarterly market review- Q4 2023

During the fourth quarter of 2023, we observed strong equity and fixed income performance, however, commercial real estate again declined as the 10-year Treasury yield touched 5%, pushing cap rates and discount rates out further. However, with the rapid fall of the 10-year Treasury yield in the last few weeks of the quarter, things seem to be moving in a direction that could provide a tailwind for commercial real estate.

Q4 2023 Benchmark Returns

  • 6.82% Bloomberg U.S. Agg Bond Index TR
  • 11.69% S&P 500 TR
  • 16.00% MSCI US REIT Index GR
  • -5.01% NFI-ODCE NR

Private real estate’s negative performance for the quarter, as measured by the NFI-ODCE NR, was unanticipated as the independent appraisers pushed values down more aggressively than many fund managers expected. Although the 10-year Treasury yield ultimately finished the quarter much lower after the Fed pivoted, that did not happen until December. Unfortunately, yields remained elevated throughout October, peaking at 5% in the last week of the month and triggering the significant upward push on cap rates. As rates now seem to be stabilizing about 100bps lower than their peak and given the Federal Reserve’s own forecast of lower rates throughout 2024, we believe valuation declines should be all but over at this point. Admittedly, we believed this Fed pivot and an ultimate stabilization of rates was going to happen in Q3 last year, which proved to be too optimistic.

We continue to observe tenacity in the operating fundamentals of the industrial, multi-family, and, to some extent, retail property types. Office fundamentals have certainly weakened, but many of the office properties across the NFI-ODCE index have already been written down by over 30%. Although we believe that the appraisal process can push values down more than warranted in a market where there is very little transaction volume, we do understand this is a better approach than passively not marking assets, which is the approach many non-traded public REITs seem to have taken.

As mentioned, the major driver of negative returns for the quarter continued to be the level of interest rates across the yield curve (especially the 10-year Treasury yield) in the first half of the quarter, which pushed cap and discount rates higher across all property types. Notably, cap rates in multi-family and industrial properties were significantly adjusted for higher interest rates and ultimately drove the total decline for the quarter. While we continue to experience strong operating fundamentals in these property types, higher interest rates coupled with limited sales volumes led appraisers to adjust valuation metrics.

To be fair, appraisers have a difficult task due to the limited transaction volumes experienced within commercial real estate over the past year. This small amount of sales data is less representative and reliable because only sellers that need liquidity are coming to market. We believe we have seen an overreaction to the sensitivity of interest rates, which may have pushed cap rates up too much. However, even if that last push higher was in fact warranted, we believe no further significant valuation declines will be needed for fair value to be achieved, although we can’t rule out slight declines in the near term for NFI-ODCE funds. The positive news is that appraisers are trying to take into account real time information, which is appropriate in this environment and not a practice that all real estate managers utilize. Historically, there has been criticism that appraisers were very slow to react, which has not been the case in this downturn with the independent appraisal process utilized within the NFI-ODCE.

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To be clear, we do not believe that interest rates will need to decrease for private core real estate to turn positive. During previous periods of rising rates, core real estate returns have outperformed largely due to the strength of income growth—driven by a strong economic backdrop—offsetting the impact of higher interest rates on cap rates. We expect continued improvement in returns due to the strong operating fundamentals in most sectors with respect to occupancy rates and rent growth. The underlying funds are also benefiting from low leverage at a predominantly fixed rate. Additionally, it seems as though the Fed is acknowledging more rate increases are not needed and that, in fact, decreasing rates may be appropriate later in the year. Finally, rising interest rates have slowed new commercial real estate starts, which should further bolster returns over the next few years.

Putting this commercial real estate drawdown in perspective, it is now the second worst dating back to 1978. The two previous drawdowns, over the S&L scandals and GFC, were characterized by periods of over-leverage that led to over-supply. These dynamics do not exist today; the pullback has simply been a result of interest rates rising too quickly. Furthermore, the composition of the NFI-ODCE has changed significantly over time. Today, the NFI-ODCE index is comprised of the following property types: Industrial (33%), Multi-family (30%), Office (19%), Retail (10%) and “Other” (9%). As we discuss below, the prospective returns and fundamentals for industrial and multi-family remain strong. Office has already been written down significantly, and retail is now starting to deliver positive returns. Given that new construction has slowed dramatically, the Fed has pivoted, and the prudent appraisal process has marked the NFI-ODCE index down to a point that is greater than the drawdown in the early 90s, it seems as though property valuation should stabilize at this point.

Performance by property type

  • Industrial — Industrial returns were negative across most of the NFI-ODCE funds. While fundamentals remain strong, and rent growth continues to deliver very good results, cap rates pushed higher to account for rising interest rates. Industrial construction starts declined over the quarter and the demand remains strong. The property type should continue to benefit as companies continue to bring operations back onshore to mitigate supply chain risks and online retailing continues to take a growing share of consumer purchases.
  • Multi-family — Multi-family also experienced declines as cap rates pushed higher. Quite a bit of new supply came online in 2023, with many properties delivering in the third and fourth quarters and rent growth moderated as the market absorbed the new supply. However, given construction starts have declined and the fact that the U.S. remains well under-supplied in homes, we believe this is short term softness. The cost of homeownership has soared in the U.S., with research showing it costs consumers almost 50% more to own than rent. This bodes well for returns for multi-family units over the coming years.
  • Office — Office properties continued their decline but to a much lesser extent. Many office properties in the NFI-ODCE have now been written down between 30-40%. With such declines already factored in, we expect office returns to have a much less meaningful impact on overall core real estate performance moving forward.
  • Retail — The retail sector, after seeing valuation declines for the previous decade, is benefiting from a strong economy and consumer spending. As a result, NOI growth has been strong across many retail properties within the NFI-ODCE.
  • Specialty — The allure of specialty sectors like self-storage, life science, and single-family residential persists across many institutional buyers. Noteworthy performance in life sciences and single-family residential segments underscores their strategic value in a diversified real estate portfolio.


Looking ahead, we remain cautiously optimistic with a growing belief that now is the time to allocate towards the asset class. While we understand there is quite a bit of negativity still being reported in the media, the vast majority of articles are referencing office properties specifically despite referring to all of commercial real estate in their headlines. The fact is that office now makes up less than 20% of the commercial real estate markets in the U.S. The anticipated easing in the Federal Reserve’s interest rate hikes coupled with persistent strength in select real estate sectors could pave the way for a rebound in overall private real estate performance in 2024. As a reminder, private real estate delivered strong returns in 2022 when equities and fixed income had negative double-digit returns. In 2023, equities and fixed income delivered strong returns while real estate struggled. This is true diversification, and gives investors a great entry point, or chance to rebalance, towards private real estate. Additionally, with new construction slowing dramatically from peak levels, we believe the asset class is setting up nicely for another historically-indicated long period of positive returns.

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Cap rate represents the annual rate of return on based on the income that the property is expected to generate.

Bloomberg U.S. Aggregate Bond Index is an unmanaged market value-weighted index for U.S. dollar denominated investment- grade fixed-rate debt issues, including government, corporate, asset-backed, and mortgage-backed securities with maturities of at least one year.

MSCI U.S. REIT Index is a free float-adjusted market capitalization index that is comprised of equity REITs. With 120 constituents, it represents about 99% of the US REIT universe and securities are classified in the Equity REITs Industry (under the Real Estate sector) according to the Global Industry Classification Standard (GICS®). It however excludes Mortgage REIT and selected Specialized REITs.

NCREIF Fund Index — Open-end Diversified Core Equity (NFI-ODCE) consists of private real estate equity funds that meet certain criteria with respect to such things as leverage (less than 35%), operations (at least 75% invested in properties that are 75% or more leased), sector and geographic diversification, and investment in core real estate (at least 75% in office, industrial, apartment and retail properties).

S&P 500 Index is a market capitalization-weighted index of 500 common stocks chosen for market size, liquidity, and industry group representation to represent U.S. equity performance.

Past Performance is no guarantee of future results. One cannot invest directly in an index.

Risk Disclosures

Union Square Capital Partners, LLC is an investment adviser registered with the Securities and Exchange Commission under the Investment Advisers Act of 1940. Past performance does not guarantee future results.

There are a number of significant risks that should be considered when considering an investment in real estate or real estate related securities. No amount of diversification or correlation can guarantee profit or prevent losses. This website is neither an offer to sell nor a solicitation of an offer to buy any securities. An offering is made only by the applicable offering documents or Prospectus and only in those jurisdictions where permitted by law. This website must be read in conjunction with the applicable offering documents or Prospectus in order to understand fully all of the implications and risks of the offering of securities to which it relates and a copy of the offering documents or Prospectus must be available to you in connection with any offering. All information contained in this website is qualified by the terms of applicable offering documents or Prospectus. Neither the United States Securities and Exchange Commission nor any state regulator has approved or disapproved of the merits of any offering described herein. Any representation to the contrary is unlawful.

About the author

  • Thomas Miller

    Managing Director
    USQ Interval Funds

    Kennett Square, PA