Thursday, December 3, 2015

Cap Rate Compression

This is a commonly used term which very much applies to many markets across Canada – and not just the large metropolitan/urban areas (a.k.a.- Toronto and Vancouver). Smaller urban markets (a.k.a. Windsor, London, & Kitchener/Waterloo), have also seen cap rates trend lower and experienced “cap rate compression” similarly in recent years.

Let’s review the concept of a ‘capitalization rate’, as it is commonly applied in commercial real estate:


$100,000 / $1,200,000 = 8.3% CAP. RATE

Most often the cap rate is used a means to quickly (financially) size up a property, relative to other potential investments available. In any market, you should be able to look at recent sales in a particular property category, and determine what sort of cap rate range the market has experienced in a recent period (say 12-18 months). Specifically if we take the example of the office building market - data should be available to indicate a range of cap rates based on comparable sales during the period you are analyzing.

So what’s the basis of cap rate compression? In short what it’s telling us is properties are yielding less income and values are being bid up. Often if you look back 3-4-5 years, you may determine that the cap rate compression has been significant and values are up considerably as a result. Cap rate data should be readily available through your local brokerage community or commercial appraisers.

When planning for any investments (real estate or otherwise), it’s always best practice to do so with ‘eyes wide open’ and understand the historical backdrop to your market. The concept of cap rate compression is one you should be familiar with and consider as you plan for future investments.

Next up is…BEYOND THE CAP RATE ANALYSIS. What sort of cap rate compression have you seen in your market? Are values being stretched ? How competitive is it on the “Buy Side”?

We’d love to hear from you -- and discuss some excellent investment ideas here in Windsor – Essex.

Please leave us a comment, give us a call, or send us an email!

Mark Lalovich
Office: (519) 966-0444
Cell: (519) 259-5434

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