Understanding Cap Rates
What is “Cap Rate Gate?”
Cap rate is the market determination of how much you should pay per NOI. It is what it is and Class A is lower than Class B and Class C. An increasing Cap Rate means it’s a softer market and you are not going to be paid as much for your NOI. To be a conservative underwriter you like to see the Reversion (exit) Cap rate +1.0% higher than the starting cap rate. For example, if your starting Cap Rate is 6.25% then you want to use 7.25% as your reversion cap rate.
Cap rate gate is when a syndicator manipulates the reversion cap rate to greatly influence the total returns, so they can attract investors to a deal.
The Reversion is a “wild-ass guess” to begin with. That is why you want to be conservative as assume you will sell in a softer market. By using anything less than +0.75% is simply “kicking the can” down the road. Likely what the syndicator will do is just blame the missed targets on the economy where it was just screwed from the get-go.
See below how much a small change in cap rate impacts the total return. This is why you need to look under the hood and stop taking the “sticker price” for face value.
Other News
Clear Skies for Multifamily Investors—For Now
While these increases are starting to cause upward pressure on cap rates, apartment values have held relatively steady since tighter occupancy levels are simultaneously causing upward pressure on rental rates. “interest rates ticked up another 25 basis points in June, marking the second time this year that the Fed has raised its fed fund rate. There will likely be two more rate hikes this year, and at least two anticipated in 2019.”
Rising Interest Rates: The Calm Before the Storm?
The Federal Open Market Committee announced the second short-term interest rate hike this year, prompting industry professionals to give their take on the possible effects this might have on the lending process. – “There has been talk about the Fed raising rates every three months. The Fed has penciled in two more rate hikes this year—we should expect one more for sure in my opinion.” However, despite rising rates, the yield curve has flattened”
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