Investors often make investment decisions on apartment buildings and multi-family units (duplex, tri-plex, etc.) based on the property's Capitalization (Cap) Rate and/or the Gross Rent Multiplier (GRM). Both methods are essentially a simplified way to determine return on investment (ROI), with the Cap Rate being the most popular.
Cap rates are calculated by dividing net annual income (gross rents less all expenses) by the amount invested (purchase price). For example, a property that realizes $30,000 in annual net income that cost $300,000 to purchase would have a cap rate of 10%. In past markets, most investors used a minimum cap rate of 10% as a guideline for making an investment purchase.
In some areas, including Tucson, many investors have purchased properties with cap rates under 10% due to fast appreciation rates. Investors make up the shortfall in cap rates with the increase in appreciated value when they sell the property. The rules, however, are about to change again.
Tucson is in the midst of an apartment conversion boom, with many apartment complexes undergoing conversions to condominiums. Increases in mortgage rates combined with rising home prices results in lower home sales and increased demand for rental property.
Some market watchers call this a "perfect storm" that will cause an unprecedented rise in monthly rents. While rental rates have been depressed in Tucson for some time, and the facts above tend to exert pressure on the market for rising rents, there is more here than meets the eye.
For one, it is doubtful that all apartment dwellers will be pushed out of their current residences causing an overnight shortage in the rental market. Some renters will become condo owners and some condo owners will continue leasing the units to their present occupants. Mortgage rates also appear to be stabilizing somewhat and are actually at what many call "normal" or even below normal levels. Homes are still a good investment. Finally, oversupply in the residential markets are creating downward pricing pressures, making homes more affordable, at least for some buyers. Only time will tell.
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