Where Should I invest for 7% Cap Rate and 3% Annual Appreciation?

Commercial Real Estate Analyst · Los Angeles, CA · Member since 2016 · 34 posts · 7 votes

Hi All,

I am a first time real estate investor approved to buy a property that is about $1MM. I am from West Los Angeles, CA, which is a market where cash flow is hard to come by. I have decided I may need to invest out of state to reach my investment criteria. Does anyone have unbiased advice or some ideas on where I should invest if I am looking for a 7% cap rate and 3% annual appreciation (if that deal exists).

Thank you in advance for any help, I really appreciate it!

-Lance

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Account Closed

Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes

10y

Originally posted by @Lance Knapp:

@Bill Devola that is all immensely helpful. I totally see what you are saying that the cap rate is guaranteed but that appreciation is not and depends on many factors.

Whoa, whoa, EXACTLY what do you think a cap rate is guaranteeing? All a cap rate is doing is telling you what ratio you paid for a NOI. Doesn't mean that you will collect that NOI or that EVEN if you do you will turn a profit. AND if you don't have a reliable source for market cap rate comps it won't even tell you if you grossly OVERPAID the property.

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John Van UytvenPro Member
Property Manager · Oconee, IL · Member since 2014 · 536 posts · 202 votes
10y
@Lance Knapp
That is great that you are pre-approved to make that kind of deal.
If you are going to invest out of state, invest in people you trust first. Find people you trust and then look for deals in that area.
Why are you looking for those numbers specifically?
I am curious where you came up with those numbers.
Are you looking for a project property you can fill up?
Are you looking for an apartment complex? A mobile home park?
As we learned from the crash you can't count on appreciation.
There are places that appreciate faster than others, but you need to look at the factors.
Job Growth, Schools, Population patterns
I know I asked more questions than I answered, but I hope that they help you get to where you are going.
Good luck and remember
*DFTBA*
Don't Forget To Be Awesome
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Lance Knapp
OP
Commercial Real Estate Analyst · Los Angeles, CA · Member since 2016 · 34 posts · 7 votes
10y
@John Van Uytven your post is actually very useful. I think what you are saying about trust is huge. I am going to tap into my network and see where friends live and where could be a good place to invest. To answer some of your questions, I am planning on purchasing a buy and hold rental apartment that I hold for years. As for the numbers I came up with, those are basically out of thin air. I simply want strong cash flow with potential for appreciation. In West LA there is potential for appreciation but no real cash flow for someone purchasing today.
Thanks again John.
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Lance Knapp
OP
Commercial Real Estate Analyst · Los Angeles, CA · Member since 2016 · 34 posts · 7 votes
10y
@John Van Uytven do you have a preferred way to get data on job growth, schools and population patterns?
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Bill Devola
Wholesaler · Bogota, NJ · Member since 2016 · 128 posts · 64 votes
10y
LOL. I think the number of CA investors who invest out of state dwarfs the number of people from the rest of the country who invest out of state combined. Seriously. I don't doubt that at $1MM you might not even make to to break even cash flow in West LA.
As to your actual question, there are a lot, and I mean LOT, or places you can find for a 7 cap. It will be harder in A locations (NYC, Miami, DC), but someone couldn't name them all for you. I agree with @John Van Uytven that 3% appreciation can't be equated with a cap rate. Cap rate you know. Appreciation isn't guaranteed. The closest you'll get to a guarantee is in those markets above (+LA & SanFran). But forget your 7 cap there.
The best way to narrow down your area is other factors: whats happening to a city's demographics? Is some big employer like Merc Pharma, or a Toyota Mfg facility on its way? Is it gentrifying with an increase in avg annual income, or is it withering away and bleeding population year after year? Even bigger still, how easy is it for you to get there? Is there anyone you know in your potential city?
I know you're looking for a name or geo region or two, but I wouldn't throw any out because the criteria you've listed above don't tell enough to make a judgement on fit.
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Lance Knapp
OP
Commercial Real Estate Analyst · Los Angeles, CA · Member since 2016 · 34 posts · 7 votes
10y
@Bill Devola that is all immensely helpful. I totally see what you are saying that the cap rate is guaranteed but that appreciation is not and depends on many factors. Further, the idea of knowing someone in the potential city is a key point.
It makes me hopefully that you say there are many markets that fit my criteria - haha and I bet that more CA investors invest out of state than anywhere else!
Do you have a way that you search for these population/employment trends? Or further advice on finding the perfect market? Thank you very much Bill!
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Originally posted by @Lance Knapp:

@Bill Devola that is all immensely helpful. I totally see what you are saying that the cap rate is guaranteed but that appreciation is not and depends on many factors.
Whoa, whoa, EXACTLY what do you think a cap rate is guaranteeing? All a cap rate is doing is telling you what ratio you paid for a NOI. Doesn't mean that you will collect that NOI or that EVEN if you do you will turn a profit. AND if you don't have a reliable source for market cap rate comps it won't even tell you if you grossly OVERPAID the property.
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Bill Devola
Wholesaler · Bogota, NJ · Member since 2016 · 128 posts · 64 votes
10y
I've never seen a site that just stays on top of the US as a whole and posts these varied, loosely tied together economic factors. I've poked around on google and seen multiple "best city to invest/be a landlord/own property". They are everywhere. Start there. Someone will write about a Charleston SC that has positive trends, or a Kokomo IN that has a reviving mfg base.
After that, my advice is once something sparks your interest, dive in hard. Pick 4 or 5 cities/metro areas and ditch the rest of the map. You'll have dozens of cities you could make work, but comparing them all will be a huge task, and you'll never end up with a definitive right vs wrong by crunching numbers and population trends etc.
The one way thats really been our only path way to good info is to work the phones. Call prop mngmt cos and shoot the breeze. They will all tell you their area is great (to be fair though, they don't work nationwide so can't compare Minneapolis to Augusta). But you'll know from one city to the next which area has more going on based on what the locals in the area tell you about jobs and housing trends. After you've made dozens and dozens of calls you'll stumble on someone good in a city you like. I think people who haven't done out of state investing before underestimate this aspect: having someone or some company that you really like and is professional is the difference between you turning a profit on your investment and having a break even headache on your hands.
Lastly your 7 cap is doable, but turnkey options are of course going to limit your choices. Mismanaged or distressed comes with the territory by nature when youre trying to push up the cap rate. But I'm sure you thought about that already.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Originally posted by @Bill Devola:

Mismanaged or distressed comes with the territory by nature when youre trying to push up the cap rate. But I'm sure you thought about that already.
You'll pay the same cap rate for the NOI of mismanaged or distressed properties. Cap rates are market based for NOI.
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Bill Devola
Wholesaler · Bogota, NJ · Member since 2016 · 128 posts · 64 votes
10y
Originally posted by @Account Closed:

Partially agreed. "Guaranteed" is a strong word for the cap rate. If you screen your tenants, have a well maintained ability, you certainly have control over the cap and can/should have strong expectations on your NOI. Unexpected happens, but if you have bought a solid investment it shouldn't take long to right your ship.
Under what circumstances will collect your NOI as expected and not turn a profit? Also, the comps/market cap don't tie into your cap rate. Well, OK, if we're being technical the market cap ties into cap rate, but not IRR (what you paid/laid out for the asset versus what it brings in). But I think to your point if the cap rate is 1% or 20%, no one is looking to pay more than market. That's a truism.
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Bill Devola
Wholesaler · Bogota, NJ · Member since 2016 · 128 posts · 64 votes
10y
Originally posted by @Account Closed:

Ummm..what your missing here is if the building is distressed and/or mismanaged, when you 'right the ship' you'll be above the prevailing cap rate for the area. Same idea with renovating a house. You get some equity (or discount) for your trouble of dealing with the issue versus purchasing turnkey.
The NOI is under-performing if its mismanaged. It's a well accepted concept.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Originally posted by @Bill Devola:

Originally posted by @Account Closed:
Ummm..what your missing here is if the building is distressed and/or mismanaged, when you 'right the ship' you'll be above the prevailing cap rate for the area. Same idea with renovating a house. You get some equity (or discount) for your trouble of dealing with the issue versus purchasing turnkey.
The NOI is under-performing if its mismanaged. It's a well accepted concept.
NOPE. Too many people here confuse this. If identical buildings not encumbered by long term leases are for sale and one is performing to market at $100,000 NOI and the other is mismanaged and only collecting $50,000 NOI AND the market cap rate is 10% then only an idiot would sell the first property for $500,000 while the second would go for $1,000,000. BOTH properties are capable of generating $100,000 NOI.
A seller and buyer would expect to sell the first property at $1,000,000 LESS the costs to get it operating at market plus a risk factor. Say I believe I can get the property performing to market at a lease up cost of $100,000 plus figuring that I am losing $50,000 in rents in the meantime then my offer would be $850,000 LESS a risk factor. Doing the cap rate incorrectly distorts the costs to cure.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Originally posted by @Bill Devola:

Originally posted by @Account Closed:
Under what circumstances will collect your NOI as expected and not turn a profit?
When you think you're all that and think you are the next Donald Trump because your "expected" cap rate is 12% (I'm gonna be rich) but after you buy other investors asked why you paid so much because properties are trading at 18% cap rates. $100,000 NOI bought at 12% = $833,333 purchase price. $100,000 at 18% = $555,555 market value. You've got to replace $278,000 overpayment before you can even think of making a profit!!!!
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Gino BarbaroPro Member
Rental Property Investor · St Augustine, FL · Member since 2014 · 2k+ posts · 1k+ votes
10y
@Lance Knapp
Hi Lance
Both markets that I am involved in, Knoxville and Jacksonville, TN have the criteria you are looking for. Look for multifamily asset. You need to research management companies and the specific submarkets you are going to invest in
Gino
Podcast Guest on Show The “Conveyor Belt” System That’ll Build You a BIG Rental Portfolio Quickly
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Originally posted by @Bill Devola:

The NOI is under-performing if its mismanaged. It's a well accepted concept.
Increasing NOI increases VALUE. It has no effect on CAP RATES.
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Howard Abell
Commercial Real Estate Broker · Chicago, IL · Member since 2015 · 123 posts · 59 votes
10y
I would think that you are a candidate for looking at single tenant net leased (STNL) properties which at a 7% Cap could give you an investment grade tenant (S&P BBB) or better with the possibly a 2 to 3 % escalation of rents. This is great for out of state investors which those in California know very well. These include fast food, dollar stores, medical offices and others.
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Russell BrazilBusiness Member
Moderator
Real Estate Agent · Washington, D.C. · Member since 2012 · 17k+ posts · 30k+ votes
10y
The DC area you can find those numbers. That is about what many of the suburbs have......if you go into DC proper, the cap rate will be lower, but the appreciation will be higher.
[email protected]301-893-4635 Podcast Guest on Show #192
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Noman Tariq
Philadelphia, PA · Member since 2016 · 67 posts · 18 votes
10y
have you ever thought about Philadephia? I can't guarantee the appreciation but I can definitely find properties for you significantly higher than the 7% cap rate that you're looking for
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Matt R.
Sherman Oaks, CA · Member since 2013 · 3k+ posts · 2k+ votes
10y
@Lance Knapp I bought a senior health facilities reit. They operate in many states. The reit pays 6.5% dividends and equity gains are around 6% annually. For many that will end up superior to out of state stuff. At any rate the numbers you are looking for are found in every state including Cali...perhaps just not in most parts of LA proper today. Cap rates and the rest could be secondary to the actual location history has shown. Higher caps areas are a dime a dozen. Why is that?
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Bill Devola
Wholesaler · Bogota, NJ · Member since 2016 · 128 posts · 64 votes
10y
Originally posted by @Account Closed:

Originally posted by @Bill Devola:
The NOI is under-performing if its mismanaged. It's a well accepted concept.
Increasing NOI increases VALUE. It has no effect on CAP RATES.
LMAO @Bob Bowling : Not sure how they do things in Hawaii, but ... NOI/Value == cap rate. Period.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Where are you getting this "value" number in your equation? Lol. And this is standard from American Appraisal Institute. There is probably a class nearby.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Bill you are ignoring both examples that I took the time to provide to help you understand cap rates. If you have a real question I will be happy to discuss with you. It's common sense when explained.
I have been doing this a long time and have extensive education to back this. In CA I am a qualified expert witness to discuss valuations and cap rates in court.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Duplicate. But hey. Costco Arrowana LVP clik pick at $1.80 sf. So easy to install. As God is my witness I will never install laminate again.
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Elliot Adkins
Property Manager · Columbus, OH · Member since 2016 · 12 posts · 1 vote
10y
Originally posted by @Account Closed:

Originally posted by @Bill Devola:
The NOI is under-performing if its mismanaged. It's a well accepted concept.
Increasing NOI increases VALUE. It has no effect on CAP RATES.
I am a future investor with only knowledge from reading and not from experience, so bear with me if my question here is "dumb":
I keep seeing the word "value" associated with cap rate. But shouldn't the cap rate be NOI divided by COST rather than NOI divided by VALUE?
My return on investment is based on what I purchased the asset for, not what that asset's value is. . . If that line of thinking is incorrect, please someone clarify.
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Account Closed
Investor · Honolulu, HI · Member since 2013 · 3k+ posts · 1k+ votes
10y
Originally posted by @Elliot Adkins:

Originally posted by @Account Closed:
Originally posted by @Bill Devola:

The NOI is under-performing if its mismanaged. It's a well accepted concept.
Increasing NOI increases VALUE. It has no effect on CAP RATES.
I am a future investor with only knowledge from reading and not from experience, so bear with me if my question here is "dumb":
I keep seeing the word "value" associated with cap rate. But shouldn't the cap rate be NOI divided by COST rather than NOI divided by VALUE?
My return on investment is based on what I purchased the asset for, not what that asset's value is. . . If that line of thinking is incorrect, please someone clarify.
"Value" was Bill Devola's term. You are correct that cost of the NOI is to be used in the equation. BUT if you deduct an amount for immediate CapEx from the costs (purchase price) the cap rate is based on the prereduction value.
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David Thompson
Investor · Austin, TX · Member since 2013 · 933 posts · 1k+ votes
10y
Hey Lance, would highly recommend educating yourself. It would not take longer than 3 Mos to be pretty proficient on apt investing strategy and lingo so we can start having real discussions. I can recommend some books. If you lack the time or interest but have $, you may want to take a more passive route and be part of several deals led by experts w solid track records. By being invested in these apt deals you can earn, learn, diversify and decide if you want to become more active. PM me to discuss more your goals, objectives, reqrs and can give you some ideas and education. I can take you thru and example deal and get you thinking I'm sure.
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