An investment principle states that the higher the risk, the higher the potential reward. But how can investors evaluate risk and reward? One useful metric is the CRE cap rate. Once you understand the cap rate, you have a simple way to evaluate risk and reward for property investments. This post will explain cap rates and what they mean for commercial real estate investors.

The Basics of CRE Cap Rates for Investors

The term cap rate is short for capitalization rate. As you know, it is a way of measuring risk and reward for a commercial property. It basically weighs an income-generating property’s revenue potential against its cost. If your property’s cap rate is low, it comes with lower risk. However, the risk is higher if your property has a high cap rate. However, the same is true for potential returns. Properties with higher cap rates tend to have more upside.

Cap Rate and Other Factors

Although knowing the cap rate is essential for investment properties, it is not the sole measure of value. External factors, including renovations, leverage, and the economy, can also affect your cap rate. As time passes, rent and operating expenses also increase. You may also experience changes to vacancy rates and other factors. Over time, external factors can cause cap rates to fluctuate.

Calculating Cap Rates

The calculation for getting a cap rate is simple. You must divide net operating income by the property’s value. The result of the calculation is a percentage.

High Cap Rates vs. Low Cap Rates

The right cap rate depends on many factors. A higher cap rate means higher risk, while a lower cap rate means lower risk. The value of high or low cap rates will depend on several factors. Low cap rates are better for investors who value stability and security. High cap rates are for investors with high appetites for risk.

Good Cap Rates

Property cap rates tend to be around 4-10%. Of course, it depends on many factors. Generally, investors seeking low-risk look for cap rates of 5% or less. Most investors would consider anything over 7% to be on the riskier side.

Commercial real estate has risk. With a cap rate, you can understand and evaluate the risk of a CRE investment.

Are you a commercial real estate investor in the Columbus, GA, area? Click here to contact the Cummings Commercial Team. Our CRE experts can help you find the right properties and close on the deals. Reach out now to learn more about our services.

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