What Is a Cap Rate in Real Estate?
A capitalization rate (cap rate) is a property's Net Operating Income divided by its current market value, expressed as a percentage. It measures the unlevered yield an investor would earn if they purchased the property with all cash, and it is the most widely used metric for comparing commercial real estate investments.
// Cap Rate Formula
Cap Rate = NOI / Property Value x 100
// Solving for value
Property Value = NOI / Cap Rate
// Example
$500,000 NOI / $10,000,000 Value = 5.0% Cap Rate
What Are Average Cap Rates by Asset Class?
Cap rates vary significantly by asset class, reflecting different risk profiles and demand dynamics. The following ranges represent typical institutional-quality transactions in 2025 and 2026.
| Asset Class | Cap Rate Range | Trend | Key Driver |
|---|---|---|---|
| Multifamily | 4.5% to 6.5% | Stabilizing | Housing demand, supply moderation |
| Self-Storage | 5.0% to 7.0% | Stabilizing | Revenue management, demographic shifts |
| Industrial | 4.5% to 6.0% | Slight expansion | E-commerce, nearshoring, supply growth |
| Retail (Grocery-anchored) | 5.5% to 7.5% | Stable | Essential tenants, limited new supply |
| Office (Suburban) | 7.0% to 9.5% | Expanding | Remote work, occupancy uncertainty |
The CBRE Cap Rate Survey publishes quarterly data across all major asset classes and markets. For institutional-grade benchmarking, the NCREIF Property Index tracks returns and cap rates on a $900B+ portfolio of institutional real estate.
What Is the Difference Between Going-In and Exit Cap Rate?
The going-in cap rate uses today's NOI and the purchase price. The exit cap rate is an assumption about the future, applied to projected NOI at the time of sale to estimate the property's resale value.
| Type | Formula | When Used |
|---|---|---|
| Going-In Cap Rate | Year 1 NOI / Purchase Price | At acquisition to evaluate the purchase |
| Exit Cap Rate | Projected NOI at Sale / Assumed Sale Price | In pro forma to estimate future sale proceeds |
Most underwriting models assume the exit cap rate is 25 to 50 basis points higher than the going-in cap rate. This conservative assumption accounts for property aging, potential market softening, and the inherent uncertainty of projecting 5 to 10 years into the future. Some aggressive models assume flat or even compressed exit caps, but lenders and equity partners typically require a spread.
What Is Cap Rate Compression and Expansion?
Cap rate compression occurs when property values rise faster than NOI, pushing cap rates lower. Cap rate expansion is the opposite: values decline relative to NOI, pushing cap rates higher.
Compression (rates fall)
- Interest rates decline
- More capital chasing fewer deals
- Strong rent growth expectations
- Institutional demand increases
- Limited new supply
Expansion (rates rise)
- Interest rates increase
- Lenders tighten underwriting
- Recession fears or rising vacancy
- Capital exits the asset class
- Oversupply in the market
Between 2020 and 2022, multifamily cap rates compressed dramatically from roughly 5.5% to under 4.0% in many markets as low interest rates and institutional demand drove prices up. The Federal Reserve's rate hikes in 2022 and 2023 reversed this trend, expanding cap rates by 100 to 200 basis points. As of 2025 and 2026, cap rates have largely stabilized as the market adjusts to the current rate environment.
What Are the Limitations of Cap Rates?
Cap rates are useful for quick comparisons but have important limitations. They capture a single point in time and ignore several factors that affect actual investor returns.
- Cap rates ignore financing: two buyers can buy the same property at the same cap rate but achieve very different returns depending on their leverage
- Cap rates ignore future NOI growth: a 6% cap rate property with 10% annual NOI growth is more valuable than a 5% cap rate property with flat NOI
- Cap rates can be manipulated: using pro forma NOI instead of trailing NOI makes the cap rate look better
- Cap rates do not capture capital expenditure needs: a property requiring $2M in deferred maintenance has a very different true yield than its headline cap rate suggests
For a complete picture, pair cap rate analysis with DSCR, cash-on-cash return, IRR, and equity multiple calculations in your pro forma.