Capitalization Rate

The capitalization rate (cap rate) is a fundamental commercial real estate metric used to estimate the potential return on an investment property. It is calculated by dividing a property’s net operating income (NOI) by its current market value or purchase price, expressed as a percentage.

Cap rates serve as a quick benchmark for comparing properties and reflect both the income yield and the perceived risk of an investment. Lower cap rates generally indicate lower risk and higher property values (typical in prime markets), while higher cap rates suggest higher risk or less desirable locations. Cap rate compression over time reflects market appreciation.