Capitalisation rate compression

A fall in the income return buyers are willing to accept, which raises prices without any change in the rent.

Example

A building whose price rose 9% while its rent rose 4% moves from a 4.435% capitalisation rate to 4.068% on the same income.

Important

Most strong periods in property are largely this, and owners tend to credit the rental market because rent is the part they interact with daily. It cannot continue indefinitely and it need not reverse quickly either.

Related terms

• Capitalisation rate — The required annual return used to convert an income stream into a price, most commonly in property. Value is net operating income divided by the rate.
• Net operating income — Rent or trading income after every cost of running the asset except financing - management, maintenance, insurance, tax and an allowance for periods standing empty.
• Net rental yield — Net operating income divided by price - rent after vacancy, management, maintenance, insurance, local property tax and any service charge, but before financing.

Lessons that explain it

• Gross yield is not a yield — Rent divided by price is the number every listing quotes and no owner receives. Take the five deductions out and Property P's 8.00% becomes 4.264% - and the two halves of the return turn out to be far less connected than they sound. (12 min)

All 578 terms in the Investing glossary