Cap rate question

[ItDepends]

How confidently could defend your cap rate selection? In direct cap, if I capitalize NOI into value at 6%, I'm confident I can explain why 10% would be inappropriate. But I couldn't explain why 6.2% or 5.8% would have been wrong.

I'm a trainee, and I'm just thinking about issues the state reviewers might have with my work samples when I end up applying for my license.

 

[Gobears81]

Look at your screen name for the answer
It really does depend on the market, property type, and what your peers would do. If it is a national NNN-leased property where the cap rate selection is THE most critical factor in the report, I would expect a more thorough analysis than for a property type that tends to have mostly owner-occupants and the ICA is secondary. Cap rates from sales are typically the strongest type of support, provided that the sales are actually comparable.
In that capacity, I would not worry whether the "right" cap rate is 5.9% or 6.1%, but rather whether it is supported and with correct methodology

 

[Elliott]

Real Estate Cap Rates and the Slow Wheels of Progress​

https://www.reit.com/news/blog/market-commentary/real-estate-cap-rates-and-slow-wheels-progress

The REITs seem overly optimistic in light of rising teasuries.

 

[Terrel L. Shields]

whether it is supported

Key term - Supported. You do not have to PROVE a cap rate. You have to SUPPORT the one you chose.

I do poultry farms and a relationship exists between age and cap rate - even when the income is identical. The older farm costs more and has higher expenses. So if I am appraising an older farm, I am going to pick the cap rate from an older farm if it is available (which it usually is) and if a new construction, I look for the newest farm sold as my base Cap rate.

 

[ItDepends]

Key term - Supported. You do not have to PROVE a cap rate. You have to SUPPORT the one you chose.

I do poultry farms and a relationship exists between age and cap rate - even when the income is identical. The older farm costs more and has higher expenses. So if I am appraising an older farm, I am going to pick the cap rate from an older farm if it is available (which it usually is) and if a new construction, I look for the newest farm sold as my base Cap rate.

What concerns me is the effect a slight change in cap rate can have on overall value. I can provide support for my rates, but I can see how someone else might reasonably arrive at a different rate. If I was asked to defend my rate vs my rate plus-minus 20 basis points, I couldn't do it. Real estate markets don't seem rational enough to support a rate with that level of precision in most cases.

 

[Terrel L. Shields]

f I was asked to defend my rate vs my rate plus-minus 20 basis points, I couldn't do it.

Why not? Choose one or the other - then make a simple cogent argument WHY YOU CHOSE THAT rate. Was it because the most similar income comp property had that rate? Were they all equally bad or good, and you averaged? Or were 2 more similar and you blended that rate. Or was it your choice to use the rate from a survey source because it is a typical market rate and your comps were not typical? No one can prove you wrong. Again, make the case for why you chose that particular rate and stick to it.

I have used Realty Rates before and simply declare that they are a regional survey and my subject seemed similar and typical to the same- particularly true of RV and MH Parks - as well as self-storage. I have calculated those and found they were pretty much what the survey said.

 

[Dublin ohio]

Why not? Choose one or the other - then make a simple cogent argument WHY YOU CHOSE THAT rate. Was it because the most similar income comp property had that rate? Were they all equally bad or good, and you averaged? Or were 2 more similar and you blended that rate. Or was it your choice to use the rate from a survey source because it is a typical market rate and your comps were not typical? No one can prove you wrong. Again, make the case for why you chose that particular rate and stick to it.

I have used Realty Rates before and simply declare that they are a regional survey and my subject seemed similar and typical to the same- particularly true of RV and MH Parks - as well as self-storage. I have calculated those and found they were pretty much what the survey said.
View attachment 78603

I actually took a couple of commercial income classes. I had read somewhere previous to the class something similar to what you said concerning RealtyRates. When they were discussing cap rates and where they get them. I asked the question whether or not cap rates are sometimes taken from published sources. The response was a resounding no. Of course I also had a reviewer tell me that you can't use a cap rate for a 4 family property.

 

[KHS445]

I have subscribed to Realty Rates for more than 10 years and my partner did before that. I do everything I can to determine the cap rate (and the various conpents) from the local/regional/state market when I can, I also work with local information to estimate a built-up/ban of investment. I will then include copies of charts for specific segments/business types provided by Realty Rates. In my summation of the cap rate, I will refer to results of my research and the information provided by Realty Rates, to explain why I used the cap rate I did. My reliance on Realty Rates will depend on the amount and quality of locally available information.

 

[Zephyr999]

How confidently could defend your cap rate selection? In direct cap, if I capitalize NOI into value at 6%, I'm confident I can explain why 10% would be inappropriate. But I couldn't explain why 6.2% or 5.8% would have been wrong.

I'm a trainee, and I'm just thinking about issues the state reviewers might have with my work samples when I end up applying for my license.

Sensitivity testing can assist with narrowing the final relationship...explain, explain, explain.
Historical charting of rates is another that's visual in looking to support a conclusion.

 

[cpalub01]

We are typically required to indicate a point value within a certain confidence interval. The quality and quantity of the data dictates how narrow or broad that cap rate range could be but you can't change the fact that you're reconciling within a certain range. You simply do your best to opine within what you determine is a reasonable range based on all available data sources, hopefully market extracted data primarily with survey data and band of investment as second/tertiary support. And it's not just the cap rate that can substantially impact a direct cap valuation with minor tweaks. Shift income $1-2/SF. Move vacancy and collection loss 5%. Move the cap rate 25 basis points. Now do all that in lockstep and see how severe the change is. But you can't have analysis paralysis about this stuff and eventually you have to settle on what, in your opinion, is the most reasonable landing spot in those ranges.