Caps in Phoenix are low

10 Replies

More like 4.5% to 5.5%...If I could find a 6-cap that wasn't a near tear-down in the hood I'd be thrilled.

Having said that, cap rate is not an indicator of performance so it is still possible to make a very healthy return even with low cap rates.

CAP rate is a relative measurement of valuation. It's all about the potential to increase NOI. You don't want to buy on proforma but you do need to understand the potential and the delta to get there.

If the property is stabilized and there is little to not potential to improve the NOI then it's a Bond play.

Couldn't agree more with Brian/Greg.  Last month my partners and I closed on an age-restricted 30 unit apartment building in a decent part of Mesa, just outside of Phoenix.  The in-place cap rate was a 3.9% - that was because the rents were so far below market at roughly $546/mo (18 1BR units and 12 2BR units).  No real deferred maintenance - just wasn't updated over the years, the amenities weren't fully optimized, and was mis-managed from a revenue standpoint.  Once we finish adding washer/dryers, semi-enclosing the patios, and re-tenanting the property, the cap rate should be over a 9% and the average rent should shake out in the $895+ range with another $30 in RUBs for water/sewer (just signed the first two new leases yesterday, each for $1,030 all in!).  The plan is to refinance in 10-12 months and return at least 40% of investor capital and enjoy the high cash on cash returns for many years.  I hadn't done a deal like this in a few years, I thought we were overheated then...  There are still "deals" out there!

@Derrick Umphlett if the properties you are looking at have NO upside left, then yes, 5-6 caps are tough to make money especially if you plan to syndicate. That being said, I have put in offers based off T-3/T-12 at 3.9 Cap. If I would have gotten my LOI's accepted I would have made great money. How? Why? I am willing to pay such a LOW cap because of how much upside there was in those deals. These deals were mismanaged and had rents way below market with some units as far as $350 below market. My going-in cap would have been low but once my value-add plays were completed my new stabilized cap would have been substantially higher, 8.5-9cap.

Cap rates are just one piece of the puzzle and will never tell you the full picture of the deal. You want to underwrite the deal fully to see where you can push rents to and how much it will cost you in renovations to get it there. Factors such as debt options, LTC v LTV, splits, prefs, and hold period will all play a big factor into how much you can pay for a deal and still feel comfortable hitting your proforma.

Cap rates in nearly every city are 4-6%. How on earth do you make money? Buy something with a value add. The best value add is being able to lower expenses through utility reduction, payroll, admin, etc and major capital improvement items. Lowering expenses doesn't get effected negatively by a recession. The next best way is through cosmetic and amenity improvement that enhance the tenants experience, which allows for increase of rents and occupancy. 

Add this to the equation. Lately my clients have been sending me deals to evaluate in CA. Never mind the cap rate. The DCR only works at lender underwriting levels when you put 50% down. So much for using leverage. It's crazy in some locales. But everything people above me have said about there still being opportunities and deals out there are true. You just have to keep looking and BE PATIENT!

@Derrick Umphlett Buy for cash flow vs appreciation, secure long-term conservative financing, have adequate cash reserves on hand. There is some great wisdom in the previous posts. Best of luck!

@Derrick Umphlett I would love to add something but everyone pretty much covered it.  Going in cap rates do not matter as much as how much value there is.  I would buy a 2 cap all day if we could push it to a 9 cap through renovations and more efficient management.  Phoenix is a fantastic market with great fundamentals, you just need to buy right.

@Derrick Umphlett I wouldn't get caught up in cap rates so much. Especially if you are leveraging the equity with debt and if it's a value add project. The cap may seem a little low right now, but once you start improving the property the cap will improve. We tend to focus more on the cash on cash return and IRR for our metrics. We don't get hung up on cap rates to much

Well, I am about to close on another community. I am not sure what my purchase Cap rate is. Frankly, it's a matter of normalizing the T-12, and different folks would do it differently. That said, it's not anything above 4.7% Cap no matter how you slice it and might be lower...

It'll be 7.5% on my basis in 2 years...

And then I'll sell it at 5% Cap

Or I'll keep it for the cash flow

Or, I'll call @Brian Burke and be like - what the hell do I do with this thing? And he'll be like - sell and come get a place next to mine in HI...(but not too close).

And I'll be like - OK! And he'll be like - ****, I got to move now...