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Cap Rate Yield Spread as a Buy or Sell Signal

Cap Rate Yield Spread as a Buy or Sell Signal

Conversely, when the absolute yield spread moves above a normalized level, investors are driven by greed and risk is underpriced. This occurred in 2nd quarter 1992 and 1st quarter 2008. Interestingly enough, this proved a great time to sell apartments, as total returns turned negative in 1991-1992 and again in 2008-2009.

figure3

The Relative Yield Spread

Looking at the data in a slightly different way, we get the same results. Figure 4 illustrates the same data as a ratio. We see greater movement, but the same extreme technical indicators.

figure4

 Conclusion

To summarize, there are three key points:

  1. For the apartment sector, using a cap rate spread between primary and secondary markets has merit on a historical basis.
  2. Despite rising prices and cap rate compression, the current market is not like the market in 1st quarter 2008. The apartment sector currently operates within the normal range, albeit on the high side. However, moving forward, investors should be cognitive of where we go from here.
  3. Finally, technical analysis should be used in conjunction with fundamental analysis rather than in isolation to enhance the overall investment decision.
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