what is a capitalization rate

A capitalization rate, also known as cap rate, is a real estate valuation measure used to compare different real estate investments. It is a ratio between the annual rental income produced by a real estate investment and the propertys value. The formula for calculating the cap rate is: Capitalization Rate = Net Operating Income / Current Market Value. The cap rate is used to estimate and compare the rates of return on multiple commercial or residential real estate properties. It is an indirect measure of how fast an investment will pay for itself. A higher cap rate indicates a higher level of risk but also higher returns, while a lower cap rate indicates lower returns but lower risk. The cap rate is used to assess the valuation of a property for a given rate of return expected by the investor. It is a tool for investors to use for roughly valuing a property based on its Net Operating Income.