Capitalization Rate

What's a good cap rate?

It varies from investor to investor and property to property. In general, the higher the cap rate, the greater the risk and return.

The impact of interest rates on cap rates

High inflation and the corresponding interest rate hikes can impact commercial real estate cap rates—as interest rates rise, so do cap rates. Cap rates tend to have a narrower range than interest rates, particularly over the short term.

How macroeconomic factors affect cap rates

• Rent growth: Rent growth can accelerate during periods of higher inflation. The anticipation of higher rents and greater NOI can offset higher interest rates.
• Gross Domestic Product (GDP) and unemployment: Both GDP and unemployment reflect the health of the economy. When GDP is high and unemployment is low, commercial real estate investments tend to have lower cap rates. But remember: Cap rates are typically forward-looking, and individual deals are affected by a building’s unique prospects and an investor’s viewpoint.
• BBB spreads: Are the measure of the percepxion of credit risk in the market. As BBB credit spreads widen, the cap rate will continue to rise, possibly exceeding the 10-year Treasury .
• Location: Proximity to the city’s employment center, highways and public transit also influences cap rates. Higher demand and stable locations generally have lower cap rates, while transitional or outlying neighborhoods usually have higher cap rates due to higher employment volatility and fluctuating demand.
• Asset class: Cap rates vary across asset classes. Multifamily and industrial buildings usually have the lowest cap rates. The weight of several economic measurements may also vary based on asset class. For example, personal income is a major factor for multifamily properties.