Prevailing Cap Rates

Are parks really selling for 6 caps and less? It seems like everything offered for sale these days are listed at 6 caps or less. Brokers aren’t even entertaining my 8 cap offers. Has the tide simply shifted in this industry? Are most buyers really buying at 5 and 6 caps? How do we make money?

Cap rates in my area on all rental properties are at a uneconomic low for investors. This is due primarily to the sky rocketing price of housing in general due to the side effects of the pandemic. That in addition to the reality that interest rates are on the rise makes it a time to sell not buy.
The good or bad, depending on your position, is the real fear that the markets are going to crash.

Too much cheap money chasing returns.

Yeah I have looked at parks for 2 years in my region and was never able to get anything that made any sense.

Either it was completely run into the ground and had a 8% cap or it was in good overall condition for 4-6% cap.

I started buying small office-type buildings (think dentists, massage therapists, insurance agents, non-profits). Just went under contract on one where I live at a 12% cap.

Looking to 1031 into another at around a 9% cap.

Both need some basic cosmetics but nothing major.

Just to add some food for thought. A lower cap rate can make sense. It’s just an appreciation play instead of cash flow.

If you buy a building at a 10% cap for $100. If you raise the NOI from $10 to $12 and you sell for a 10% cap, it’s worth $120. You made $20 plus cash flow.

Let’s look at it based on a 5% cap.

If you buy a building at a 5% cap for $100. If you raise the NOI from $5 to $7 and you sell for a 5% cap, it’s worth $140. You made $40 plus cash flow. Significantly more. At a lower cap rate, every additional dollar of NOI is worth more. You create more equity.

When you ask yourself, does a deal make sense - you need to look at the full market. What are deals trading for today. Just because you think it should be an 8% cap rate, the market might say a 6% cap rate good and the deal will trade there. You need to ask yourself if you’re willing to do this. You may not be, and you may be right it’s too expensive. That’s okay. You could wait for cap rates to increase. Alternatively, you also say, I’ll do this deal. That’s what you need to think through on every deal.

Also, think through - well if I buy at a 5% cap rate, and I think the market cap rate is really 8%, how high can you push your initial cap rate? If I can buy at a 5% cap, raise it to a 9% cap, and sell at an 8% cap, I’ll still make money.

The problem for small investors is that they live off of cash flow not equity. Equity does not put food on the table.
Only investors that are already rich can afford to see deeper into investments.

Totally understand you. Everyone has a different approach. Some prefer to chase appreciation, some cash flow. It depends on the person.

Cap rates adjust with the interest rates. I purchased my first park at a 9 cap six years ago. The seller financed the deal at a 5.5% interest rate. We just purchase a park last week at a 7.5 cap and financed it at 4.14%. The delta between cap rate and interest rate is very similar for both these deals even though they’re 6 years apart.

When buyers can tap into sub-3% interest rates, then buying at 5 and 6 caps still make sense. It all comes down to the margin between those two numbers. And, lending on MHPs has never been better.

Now, with interest rates about to be raised and with 5 more hikes being predicted, I expected cap rates to rise as well. If commercial interest rates go back to 5.5 - 6.0%, you will most likely start seeing 8 and 9 caps again.

Best,
Jon

1 Like

Jon explained the rates and caps relationship very well. At the end of the day being an educated investor means that sometimes you sit on the sidelines and hoard cash, sometimes for years, before making purchases; or you sell and buy back in later when things are on a fire sale. We bought four parks between summer 2019 and summer 2021 but are sitting out right now unless we find a good deal that comes out of a relationship we have. The trouble with buying right now at 3-4% rates is that when that note is up in 5 years you have to pray you can refi at a similar rate, otherwise your margins disappear if you haven’t increased your income sufficiently.

Read The Outsiders by William Thorndike (highly recommended by Buffett) to see how people have approached markets like this in the past :slight_smile:

1 Like

It has to change. Lending rates higher than caps, and I think they go up again maybe this week.
Have to.