The cap rate, an abbreviation for “capitalization rate,” is a real estate metric that reflects the expected rate of return on rental property investments.

The Cap Rate, or “Capitalization Rate,” is a fundamental real estate valuation ratio that compares a rental property investment’s annual net operating income (NOI) to its current market value.

The cap rate formula is the ratio between a rental property’s net operating income (NOI) and its fair market value (FMV) as of the present date, expressed as a percentage.

• The cap rate is defined as the potential rate of return on a rental property building, such as a commercial real estate investment.
• The cap rate formula divides the net operating income (NOI) of a rental property at stabilization by the property’s market value as of the present date.
• < UNK> Real estate practitioners frequently use the cap rate to compare different investment opportunities to determine the property with the most attractive risk-return profile.
• The higher the cap rate, the higher the risk and potential return – all else equal.
• There is no reasonable cap rate, per se, because the decision is subjective and contingent on the specific investor’s risk-return profile. Still, most commercial real estate investors target a cap rate between 4% to 10%.

There were two men, both seriously ill, who shared the same hospital room. One man got a seat next to the room’s only window. The man was also allowed to sit in his bed for an hour each afternoon to help drain fluids from his lungs. The other man spent all his time lying flat on his back.

The two roommates quickly bonded and started talking for hours on end. They spoke of their lives, their job, children, and wives. Then, one day, the man on the other side of the window expressed how he envied the man near the window. From that day, the man near the window started describing everything he could see outside the window.

The window overlooked a lovely park with a lake. Ducks played on the lake while children sailed their model boats. Young lovers walked arm in arm amidst flowers of every color, and a fine view of the city skyline could be seen in the distance. The man on the other bed began to live for those one hour where he could hear and visualize the world outside the hospital room. The one hour of every day would broaden his world and be enlivened by all the activity and color of the outside world.

One fine afternoon, the man by the window described a parade passing by. Although the other man could not hear the band, he could visualize it as vividly illustrated by the man by the window.

Days and weeks passed by.

One morning, a nurse arrived to examine the condition of the two patients. She found the lifeless body of the man by the window. The man had peacefully embraced his death in his sleep. The nurse sadly called the hospital attendants to take the body away.

The other man grieved the death of his roommate. But, as the day passed, he started missing how his roommate described the view from the window. In the hope of having a peek out of the window and the beautiful world outside, the other man asked if he could be moved next to the window. The nurse happily made the switch. As soon as he was comfortable in his new bed, the man slowly and painfully propped himself to take his first look at the world outside. The nurse delightfully watched as the man attempted to sit on the bed after weeks. But as he strained to turn to look out of the window beside him slowly. He was stunned to see a blank wall outside the window. The agitated man asked the nurse what could have made his roommate lie about the view outside the window.

“There is nothing to see from here. Where are all the wonderful things he saw? He described everything so vividly. Is this a new and recent wall? Why did he give me such vivid details that don’t exist?” He asked

The nurse shook her head and answered his questions, “Perhaps he just wanted to encourage you and make you happy. But, you see, your roommate was blind.”