Which multifamily type you will prefer: potential appreciation or 1% higher cap

Question

Hi all,

I am a newbie in multifamily investment and has one question about multifamily type selection:

1. Premium area like Menlo Park, Palo Alto where cap rate is about 3.7% but has potention high appreciation

2. Cash flow area near by like Mountain View, Sunnyvale, Campbell where cap rate is about 4.7% which is 1% higher but the appreciation rate may be lower than Preium area.

My target is to hold for at least 5 years or more and the IRR or cash on cash return is my first priority.

Suppose this property has the same potential on value add. I don't know which type I should choose. It looks like 1% higher cap rate can not accumulate much higher profit even holding the property for 5 - 10 years. May I have your insight?

Regards,  Zhenyang

Sean Smith · Answer

@Zhenyang Jin there are a lot of unknown variables in the scenario you present, however lower caps tend to produce more stable assets, with lower vacancy, in higher demand areas. Higher caps tend to produce more cash-flow day 1 but have potential risks (higher vacancy, lower demand, etc.).

My two-cents: cash on cash is real, appreciation is speculation

Henry Clark · Answer

OP.  I would disregard cap rate in those two situations, actually in all situations.  They are both very high from a price standpoint.  Example for a grade of A. What is the difference between a 97 versus a 99?

As mentioned just above look at the specific market dynamics, the location dynamics and then the actual deal dynamics.  Growing communities, school systems, location within the community, can you ADU or split a lot off, which has lower current rental rates compared to that local market, which has more or less Capex coming due, etc. etc.

Who gave you the Cap rates?  I would challenge the numbers unless you developed them.  Plus is this based on their asking price, or what you would pay?

Ryan Rominger · Answer

If cash flow is your priority, the higher cap rate in Mountain View, Sunnyvale, or Campbell may be better for immediate returns. Palo Alto and Menlo Park, though lower in cap rate, typically see stronger appreciation. For a 5-10 year hold, it’s about balancing steady income vs. long-term equity growth—especially if you can add value.

Hope this helps!

Greg Scott · Answer

It seems like "appreciation market" is the name that has been given to any market that doesn't have cashflow.  In reality appreciation is nearly impossible to predict.  As evidence, about three years ago I was in a heated forum debate on this topic and  Austin Texas was the focus.  Since Austin was an "appreciation market" with lots of tech jobs, many predicted prices would go to the sky.  My opinion was that appreciation was not predictable.  Fast forward to now, prices have gone down in Austin since then.

Meanwhile, Indianapolis, a market I am familiar with, was known as a cashflow market because you can buy with high leverage and still have cashflow.  Properties in this city have continued to see strong price growth even though it was not an "appreciation market".

That said, focusing myopically on cashflow is a fool's errand that results in buying cheap properties in high-crime areas.  In my opinion, a good investor will buy properties that have cash flow that are also in areas with strong fundamentals that might deliver good appreciation.

Rick Trivedi · Answer

@Zhenyang Jin being a local realtor for 25+ years in the bay area, my advice would be to do with Mountain View, Sunnyvale, Campbell and other areas you mentioned - these are more dynamic cities in terms of construction activities and population that it has higher chances of greater overall return.

Which multifamily type you will prefer: potential appreciation or 1% higher cap

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