Do cap rates go down when interest rates go down?

Often, but not automatically and not one-for-one. Lower borrowing costs let buyers pay more for the same net operating income, which pushes cap rates down over time. The move lags the rate change, because sellers reset their price expectations slowly and buyers wait for evidence. Rent growth, supply, and lender appetite also move cap rates, so a falling rate environment does not guarantee compression.

What is the relationship between cap rates and interest rates?

They tend to move in the same direction. When interest rates rise, buyers borrow at a higher cost and need a higher yield from the property, so cap rates expand and values fall for the same income. The relationship is loose, not fixed. The gap between the cap rate and the 10-year Treasury yield, called the cap rate spread, absorbs part of any rate move, and the adjustment arrives with a delay.

What does cap rate expansion mean?

Cap rate expansion means the cap rate that buyers require for a property type or market is rising. Since value equals net operating income divided by the cap rate, a higher cap rate means a lower value for the same income. A property that would sell at a 6.0% cap rate sells for less if the market expects 7.0%, with no change in rent, occupancy, or expenses.

What does cap rate compression mean?

Cap rate compression means the cap rate that buyers will accept is falling. A lower cap rate means a higher price for the same net operating income. Compression usually shows up when borrowing is cheap, capital is plentiful, and buyers compete for the same properties. It lifts values without any operational improvement, which is why owners should not credit compression to their own skill.

Is a 6% cap rate good?

A 6% cap rate is neither good nor bad by itself. It is a price expressed as a yield: net operating income divided by value. Whether it is fair depends on the property class, the market, the quality of the income, and what borrowing costs. A 6.0% cap rate is a common base case for stress testing a value, and the better question is what the value looks like at 7.0%.

Cap Rate Compression vs Expansion Explained

Cap rate compression is one of those terms that sounds like jargon until you see what it does to a property's value. A lower cap rate means a higher price. A higher cap rate means a lower price. The income did not change. The market's required yield did.

This article defines cap rate compression and cap rate expansion, shows how interest rates push cap rates up and down, and runs the math on one point of expansion using two real leases. Then it covers the part an operator can actually control.

What is cap rate compression?

Cap rate compression is a decline in the cap rate buyers accept for a property type or market. Cap rate expansion is the reverse: the rate buyers require rises. Value moves the opposite way in both cases, because value equals net operating income divided by the cap rate.

If you are new to the income side of that formula, start with net operating income. NOI is revenue minus operating expenses, before debt service.

Here is the same idea side by side.

	Cap rate compression	Cap rate expansion
Direction of the cap rate	Falls	Rises
Effect on value (same NOI)	Value rises	Value falls
Typical backdrop	Cheap borrowing, abundant capital, buyers competing	Costly borrowing, tighter lending, buyers pulling back
Who gets credit	Often the market, not the operator	Often the market, not the operator
Who controls it	Nobody at the property level	Nobody at the property level

Notice the last two rows. Compression can lift a property's value while the operation underneath stays the same. Expansion can cut it while the operation improves. Neither says much about how well a property is run.

The cap rate itself is a price shown as a yield. Net operating income divided by value gives you the cap rate. Flip it around and you get the formula this whole article rests on: value = NOI / cap rate.

How do interest rates affect cap rates?

Rising interest rates push cap rates up. Higher borrowing costs mean a buyer needs a higher yield from the same income to make the numbers work, so buyers bid less, and the market cap rate expands. The effect is real but it is not one-for-one, and it lags.

Three mechanics sit behind that sentence.

Why do buyers pay less when borrowing costs rise?

Most buyers use debt. When the loan costs more, less of the property's income is left after the lender is paid. A buyer who underwrote a price at one loan rate cannot pay the same price at a higher loan rate and still hit the same target. Something gives, and in a competitive process it is the price.

Buyers also have an alternative. If a Treasury pays more, a property has to pay more to compete for the same dollar. That is the cap rate spread, covered in the next section.

How did the 2022 to 2023 hiking cycle show up in the data?

The Federal Reserve began the cycle on March 16, 2022, when the Federal Open Market Committee raised the target range for the federal funds rate to 1/4 to 1/2 percent. By July 2023, the Federal Reserve's implementation note put the target range at 5-1/4 to 5-1/2 percent.

The 10-year Treasury yield moved too. According to the Federal Reserve Bank of St. Louis FRED series DGS10, it closed 2021 at 1.52 percent and stood at 3.86 percent on July 26, 2023. That is a rise of 2.34 percentage points in about nineteen months.

Multifamily cap rates followed, but late. CBRE's U.S. Cap Rate Survey for the second half of 2023 reported multifamily cap rates up 50 basis points, and noted that the pace of decompression had accelerated within the sector. Half a point in one survey period is a slower, smaller move than the Treasury made over the whole cycle. That gap is the lag.

Why is the relationship not one-for-one?

Sellers do not reprice on the day the Fed meets. Many hold their asking price until a deal fails to trade. Lenders ration credit before they reprice it. And rent growth, new supply, and local demand all push on the cap rate in their own direction at the same time.

So treat interest rates as a main driver, not the only one. When rates rise, the pressure on value is real. How much of it shows up in the cap rate, and how fast, depends on everything else going on in that market.

What is the cap rate spread?

The cap rate spread is the cap rate minus the 10-year Treasury yield. It measures how much extra yield buyers demand for owning a property instead of a risk-free government bond. Because the spread can shrink or grow, it absorbs part of any move in interest rates.

Here is the arithmetic, as an illustration and not a market quote. A property priced at a 6.0% cap rate, set against a 3.86 percent Treasury yield, carries a spread of about 2.1 percentage points.

Now follow the logic. If the Treasury yield rises and the cap rate does not move, the spread shrinks. Buyers are paid less extra for the added risk of owning real estate. At some point they stop accepting that, and the cap rate rises to restore the gap. If the cap rate rises by less than the Treasury, the spread narrows and the market is leaning on other things, like expected rent growth, to justify the price.

This is why two things can both be true. Rates rise sharply, and cap rates rise less. The spread did some of the work. It also means a narrow spread is a thing to watch, not a thing to celebrate. A thin cushion leaves less room if rents stop growing.

I am not forecasting where the spread goes from here. Nobody reliably does. The point is to know what the number tells you when you read it.

What does one point of expansion do to value?

Here is a case from one of our properties. Two vacant units leased at the original asking rent. I posted the numbers on LinkedIn on February 25, 2026. The two leases recur every month, so this is a run rate, not a one-time event.

$1,275 a month x 2 units x 12 months = $30,600 a year in NOI, before management fees
At a 6.0% cap rate: $30,600 / 0.060 = $510,000
At a 7.0% cap rate: $30,600 / 0.070 = $437,143

One point of expansion, from 6.0% to 7.0%, takes $72,857 off the value. That is a cut of about 14.3 percent. Same leases. Same rent. No operational change.

Read that again. Nothing happened at the property. No resident moved out. No rent dropped. The only thing that changed was the market's required yield, and the value of that income stream fell by $72,857.

That is the reason to run any property at two cap rates, not one. Your value at the current cap rate is a snapshot. Your value at a cap rate one point higher is a stress test. You can run both in the free cap rate calculator in under a minute.

I use 6.0% as the base, not 5%. A lower cap rate makes the value look bigger, and the conservative habit runs the other way. The higher rate gives the smaller value, so the plan survives if the market moves against you.

What can an owner control when rates rise?

An owner cannot control the cap rate, but an owner can control net operating income. Rates set the cap rate. Operations set the NOI. When the market takes value away through expansion, the work that is still yours is the income line.

Here is where I look first, across the 1,500+ units and 48 properties I work on.

Which income problems are fixable this quarter?

Vacant units are the cleanest example, and the two leases above are the proof. Every unit that sits empty is NOI you were already entitled to. Leasing a vacant unit at the asking rent turns a gap into a recurring dollar figure, and that dollar figure gets capitalized by whatever cap rate the market sets.

Collections work the same way. A rent roll that shows strong physical occupancy can still lose income to delinquency and concessions. See economic occupancy for how to measure the gap.

Which expenses can you actually move?

Expenses are the second half of NOI. Turn costs, vendor pricing, and repeat maintenance calls compound over twelve months. A saving that recurs each month belongs in the NOI line. A one-time credit does not, and it should never be capitalized as if it were annual income.

That distinction matters because the cap rate multiplies whatever you hand it. A recurring $30,600 is worth a figure you can defend. A one-time $2,000 refund is worth $2,000.

How should you plan for a cap rate you do not control?

Underwrite at more than one rate. Hold the NOI steady and ask what the value is at the base cap rate and at one point higher. If the plan only works at the lower rate, it is a bet on the market, not a plan. The underwriting discipline checklist walks through the questions I ask before trusting a value.

Then spend your time where you have leverage. The market will do what it does with rates. Your job is to hand it a better income stream.

Conclusion

Cap rate compression lifts value when buyers accept lower yields. Cap rate expansion cuts it when they demand more. Rising interest rates are one of the main causes of expansion, because borrowing costs rise and buyers bid less for the same income. The link is real, it lags, and the cap rate spread absorbs some of it.

The math is plain. At a 6.0% cap rate, $30,600 of annual NOI is worth $510,000. At 7.0%, it is worth $437,143. That is $72,857 gone with no change at the property.

Rates set the cap rate. Operations set the NOI. Run your own numbers at two cap rates in the free cap rate calculator, and put your effort into the number you can move.

Sources

Every historical figure above is tied to a named source. Nothing here is a forecast.

Federal Reserve Board, FOMC statement of March 16, 2022 (target range raised to 1/4 to 1/2 percent): https://www.federalreserve.gov/newsevents/pressreleases/monetary20220316a.htm
Federal Reserve Board, Implementation Note of July 26, 2023 (target range 5-1/4 to 5-1/2 percent): https://www.federalreserve.gov/newsevents/pressreleases/monetary20230726a1.htm
Federal Reserve Bank of St. Louis, FRED series DGS10, 10-year Treasury constant maturity (1.52 percent on December 31, 2021; 3.86 percent on July 26, 2023): https://fred.stlouisfed.org/data/DGS10
CBRE, U.S. Cap Rate Survey H2 2023 (multifamily cap rates up 50 basis points): https://www.cbre.com/insights/reports/us-cap-rate-survey-h2-2023

This article is educational. It is not investment advice, and it does not forecast interest rates or cap rates.

Cap Rate Compression vs Expansion: How Interest Rates Move Property Value