The Five Cap Rate Rule

I was talking to a portfolio manager last week just as he was reviewing the latest benchmark quarterly return for open-end diversified funds from the NCREIF-ODCE. The total return for the first quarter on the highly followed index was 3.39%, including a hefty appreciation component of 2.20%. The NCREIF-ODCE has been registering annualized returns for core real estate managers in the low teens for the last several years well above the annualized mean, which sits more in the 7-8% range. My portfolio manager friend took a deep breath, a nervous expression of concern about inevitable reversion to the mean.

“We’ve been talking (in the office) about what is driving these returns,” he said. “The big open-end funds are all writing up their properties in the top urban markets, reflecting the influx of sovereign wealth funds and other offshore capital into these cities, buying up real estate with cap rates as low as 3.”